Bottom Feeding in Chinese Equities

The Chinese stock market has been up in arms, as I’m sure you’ve heard by now. The Shanghai Composite Index is down over 20% from its June high.chinese-equities
The Chinese government is trying a lot of things to stop the hemorrhaging. This includes putting a stop to the selling of certain stocks and putting a halt to initial public offerings.
The bigger, overarching, fear is that the Chinese economy could be slowing, which is certainly bad news for its stock market. But the economy looks to still be growing, with the stock market showing some signs of stabilizing.
China reported that its economy grew 7% in the second quarter, topping expectations of 6.8% growth. Housing sales were up 12.9% during the first half of the year and retail sales up 10.6%. Property prices are on the rise and industrial production is picking up.

Smart Plays

It’s easy to forget that China, despite its size, is still a relatively young and developing market. Volatility is expected. Along those lines, there are some Chinese equities that have been hit unjustifiably hard.
With that in mind, let’s look at some plays on China. That’s right, bottom feeding in China. There’s usually value to be found in beaten-down markets, and China is no exception.
The major China ETF, iShares FTSE/Xinhua China 25 Index ETF (NYSEArca: FXI), is down 17% over the last three months. Meanwhile, the S&P 500 index is up about 1%.
The top three holdings for the iShares FTSE ETF include Tencent Holdings (OTCMKTS: TCEHY), China Construction Bank (OTC: CICHY) and China Mobile (NYSE: CHL). Tencent has held up well, up 40% year to date, but China Construction Bank and China Mobile are down more in line with the ETF.
What’s happened to the Chinese stock market will not necessarily affect the fundamentals of, say, China Mobile and a few other select players. China Mobile is compelling from an investment standpoint at its current levels. It dominates the wireless market in China, owning more than 60% of the market share. In truth, it’s the largest wireless operator in the world. A selloff of Chinese stocks haven’t kept people from using their mobile phones.

Cash Flow Attraction

China Mobile is a solid cash flow generator and has a better balance sheet than any telecom out there. That is a big advantage as it continues to build out its network to take advantage of growing emerging markets in Asia. With a 3% dividend yield, it’s also a solid income play.
Another stock to take advantage of on during the selloff is a bet on China’s strengthening travel market, (NASDAQ: CTRP). Ctrip is the top travel agency operator in China. The rising demand for travel, thanks to a rising middle class, is good news for Ctrip. The amount of business and leisure travel in China remains low, compared to the rest of the world.
The beauty of Ctrip is that even during an economic downturn, it has the ability to outperform peers, given its pricing power. It already has several million users, but there’s a lot of scalability in its asset-light business model.
If the success of The Priceline Group (NASDAQ: PCLN) is any indication, then Ctrip investors are in for a heck of a ride. The return of Priceline’s stock has been five times the S&P 500 over the last five years.
Ctrip is about a sixth the size of Priceline in terms of market cap, and with much greater growth opportunities. However, Ctrip only trades at a slight premium – trading at 8 times sales versus Priceline’s 7.5.
In the end, you can pick a few of the top Chinese companies that are now on sale. Or you can take the safe route and invest in one of the larger ETFs. As a developing economy, there will be volatility. That’s something that can’t be eliminated entirely. The key is to use these selloffs as buying opportunities.

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