China once again dominates sentiment in Asia having witnessed a spike in money market rates as 7-day repurchase (repo) rates – the rate at which a central bank lends money to its country’s banks – rise above 4%, a stark reminder of volatility in June when 7-day repo rates rose above 10%. Whilst it would be easy to turn cautious in expectation of tighter monetary conditions, the underlying factors need to be examined.
Firstly, it is worth pointing out that there was some impact from seasonal factors, with significant liquidity outflow from October tax payments and this will to some degree be offset by fiscal spending in the next two months, which should ease onshore liquidity. Secondly, the People’s Bank of China has temporarily suspended reverse repos to sterilise significant capital inflows since September, as injecting funds via reverse repos could risk excessive liquidity. Therefore, we would expect this to be a temporary phenomenon.
To put this in context, the broader picture is still positive with a pickup in Chinese macroeconomic data in the third quarter of 2013, as the government continues to shift economic policy towards a more balanced consumption outlook. In addition, industrial production pickup, evidenced by rising steel and electricity production, adds to current market confidence and supports rising activity levels.
Overall, with GDP growth in the third quarter picking up to 7.8% (year-on-year), the prospect of a hard landing for the Chinese economy seems highly unlikely. Whilst short-term volatility invariably excites the China bears, the rebalancing of the economy is well underway with the Central Committee government meeting in November providing the next catalyst. This event is likely to roadmap China’s financial, fiscal, land and environmental reform for the next decade.
This in turn should be positive for the fund’s overweight exposure to China, where we continue to find attractive valuations. One recent addition to the fund is Sinopec Engineering, which primarily undertakes engineering, procurement and construction (EPC) projects in the petrochemical and coal industries. The company displays a unique business model, attractive valuation metrics and a growing yield, supported by strong cash flow generation. It is also expected to be a beneficiary of environmental reform.
Mike Kerley, manager of the Henderson Asian Dividend Income Unit Trust and the Henderson Horizon Asian Dividend Income Fund.
