Five Ways to Profit from China's Stimulus Plan

The $585 billion (RMB4 trillion) stimulus package that China announced Sunday may or may not help China’s economy. But with investments in low-income housing, water and energy projects, airports, disaster relief – and $100 billion for new railroads – over the next two years, this financial package provides oodles of opportunities for investors.

There is no doubt China needs infrastructure. Now the world’s fourth-largest economy, China has grown so rapidly that many of its services are stretched beyond belief. Equally, it is not so certain that the government knows what infrastructure to build, or that it can be built, without hopeless corruption. For instance, the Three Gorges Dam became a global watchword for waste and environmental destruction, while the fancy toll roads built between major cities are still very underutilized, because the tolls are too high for all but the rich. In the stimulus package, more than $100 billion is earmarked for railroads, a seemingly 19th century priority at the beginning of the 21st.

(As Money Morning reported in a market analysis story this past summer, General Electric Co. (GE) said it expects its business in China to double to $10 billion a year by 2010 – making that country a key element of the struggling U.S. industrial giant’s strategy to offset its struggles here in its home market by pursuing business in faster-growing markets abroad. GE also announced that it would be providing China with 300 of its most modern locomotives between now and 2010).

Even if the Chinese economy had slowed sufficiently to warrant stimulus, there was a better way of getting it. For a decade, China has enjoyed unbalanced growth, with excessive rates of savings and investment and inadequate consumption. This has resulted in the huge buildup of Chinese foreign exchange reserves, now more than $1.9 trillion – the largest in the world, both in relation to the economy, and in real terms.

To rebalance the economy and maintain growth, China actually needs more domestic consumption. While Bush-style cuts in high-level income taxes would benefit only the “Chuppies” – China’s newly emergent yuppie class – there are other taxes that bear heavily on the economy and could usefully be cut. The farmland usage tax, for example, levied at 13.6 cents to $1.36 (one to 10 RMB) per square meter in 1987, was late last year boosted to 68 cents to $3.40 (five to 25 RMB) – thus increasing what was already a huge imposition on the poorer farmers, whose margin above subsistence is very limited, made even more so by such regressive taxes. Thus a Chinese government that truly had the welfare of its people at heart would have engaged in tax cuts, not grandiose public sector infrastructure projects.

There is considerable danger of such a massive Chinese infrastructure program leading to inflation. Assuming that China uses $585 billion of its foreign exchange reserves to fund it, increasing the domestic supply of Renminbi, this will increase its M2 money supply by almost 10% [Note: One media report stated that $145 billion of the $585 billion was to come from Beijing, with the rest coming from increased investment by state-run companies, bank lending or bond sales by local authorities. For more information, check out this related news story on China’s $585 billion stimulus plan located elsewhere in today’s issue of Money Morning].

However, The People’s Daily Monday stated that this massive financing package would have a positive effect on “cement, iron and steel producers.” The capital outlay should also be a boon for China’s trading partners, but not so much for its three largest trading partners – Japan, South Korea and Taiwan – as they primarily manufacture components that are assembled in China for re-export to the West, or supply manufactured goods, which would benefit from a consumer-led spending surge, rather than this government-led stimulus.

However, suppliers of raw materials – which have already found the long Chinese boom to be a bonanza – can look to benefit further.

And that brings us to some possible profit plays that should rise with the tide of this $585 billion infusion:

• Anhui Conch Cement (AHCHF.PK) is China’s largest cement producer – hence, it’s certain to benefit from a major infrastructure program of this kind. Be careful, however: It’s quoted only on the “Pink Sheets,” and is trading on 17 times earnings.
• China Railway Construction (CWYCF.PK) is China’s largest construction group, with a special expertise in railroads. Again, it’s traded on the Pink Sheets, this time at 31 times earnings.
• Yanzhou Coal Mining Co. Ltd. (YZC) is an energy supplier that should profit greatly from the additional infrastructure investment. It’s much-better priced than the two predecessors, trading at only three times earnings and has an alluring dividend yield of 4.3%.
• Huaneng Power International Inc. (HNP) is a top China energy producer that’s been generating losses lately due to high coal prices. But it’s likely to increase output and profits with the economic expansion that should follow the massive infusion – and the 9.3% dividend yield is rather electrifying, as well.
• But a big winner from China’s infrastructure boom (don’t forget, $100 billion in railroad investment) is Brazilian iron ore producer Vale (RIO), which has increased its prices to China twice in 2008, and that’s now actually holding back supplies while the Chinese market rebalances. China is a huge importer of iron ore; its imports will increase with heavy infrastructure investment, and Vale is the world’s largest supplier. Best of all: With a Price/Earnings ratio of 4.3 and a dividend yield of 4.2%, Vale’s shares are not at all expensive.

Original post

Comments

[James Wilson:]

Commodity buyer are back in the game. Shipping like EGLE and EXM will take off then the banks like C, with international offices to transfer the funds. Here we go the people who use natural resources are running out of stock piles.

2008 Nov 11 07:50 AM

[HaavBline:]

"In the stimulus package, more than $100 billion is earmarked for railroads, a seemingly 19th century priority at the beginning of the 21st."

Author does not seem to realize that railroads trnasportation are far more energy efficient and environment friendly than truck/car trnasportation. Besides, many of China's railroads have been extremely overloaded.

2008 Nov 11 09:45 AM

[arel:]

Noble Group (N:21 Sing, NOBGF) might be an interesting play both on the Chinese stimulus package and on the Asian demographic curve.
website is thisisnoble.com/

It's business model is Phibro of the old days and the Chairman is an alumnus of that organization

2008 Nov 11 12:40 PM

[VSD:]

Don't forget USO. When economic activity picks up, oil consumption rises exponentially.

2008 Nov 11 05:45 PM

[James Wilson:]

Well I was fooled, pardon me while I remove my foot .

2008 Nov 12 02:27 PM

[sculptor:]

you say:
"more than $100 billion is earmarked for railroads, a seemingly 19th century priority at the beginning of the 21st"

are you kidding me! what century are you living? building rail is the smartest most efficient thing 21st century China could do...way better than buying buicks for 1.6 billion people like we do in the USA....or shipping everything by truck cross country...thats S-T-U-P-I-D, wasteful of resources. USA should take a page from China's playbook, or do you expect 40 dollar oil for the rest of the 21st century....build rail now while steel and energy are cheap and jobs stimulus is necessary

On Nov 12 02:27 PM James Wilson wrote:

> Well I was fooled, pardon me while I remove my foot .

2008 Nov 13 06:56 AM

[wheelguy:]

On Nov 11 09:45 AM HaavBline wrote:

> "In the stimulus package, more than $100 billion is earmarked for
> railroads, a seemingly 19th century priority at the beginning of
> the 21st."
>
> Author does not seem to realize that railroads trnasportation are
> far more energy efficient and environment friendly than truck/car
> trnasportation. Besides, many of China's railroads have been extremely
> overloaded.
Actually in a recent article in car and driver it was proven that hybrid cars are more energy efficient, green, and more cost effective than the railway system. Do your research before commenting on something you assume.

2008 Nov 27 09:36 PM