Chinese Economy Humming Along; Stocks Still Raise Concern

A few years ago I wrote a column for BusinessWeek entitled “Invest in China, Not Chinese Companies”. The main thrust of the article was that everyday retail investors who cannot risk losing money should not invest in Chinese companies because of their lack of transparency and the volatility of the market.

The last few months, Chinese stocks like a Baidu (BIDU) or LDK (LDK) have gyrated, with double-digit gains and losses the norm. Just this week we saw Focus Media (FMCN), one of my favorite stocks, collapse just under 30% in one day. I argued they should invest in American companies that are doing well in China like Starwood Hotels (HOT) or YUM Brands (YUM).

I have gotten a lot of responses to my recent Seeking Alpha piece, “Select Chinese Stocks Have a Way to Go”, where I put down my equity portfolio of Ctrip (CTRP), Focus Media (FMCN), China Mobile (CHL), Google (GOOG), and Goldman Sachs (GS). People have asked what I am doing now and what I suggest after Focus’ drop.

So I thought I would tell you where I stand with my holdings and what I am thinking now for people who have a higher appetite for risk. First off, my equity holdings are actually a fairly small part of my total assets currently because I have sold out regularly since January 2007. In the past year, my cash holdings have taken up between 40% and 70% of total assets. I have held Australian dollars, Euros, RMB, and Hong Kong dollars.

I also am an angel investor in companies in China and am now looking to buy real estate in the US. I doubt I will ever be able to call the bottom of the market in the US, so I figure I might as well start looking now in areas with potential for growth long term.

As for my equity portfolio— I have made some changes. I sold out all my Google and Goldman, stupidly, before Goldman announced better than expected numbers yesterday because I was gravely concerned about the health of our banking system and wanted to be out of financial stocks. I also made the mistake not to buy heavily into Focus Media after it dropped, like I did with Ctrip last autumn. I should have bought more Focus because I believe in the stock and the results Tuesday night proved me right.

So right now, I am only in 3 stocks: China Mobile (CHL), Ctrip and Focus Media. Now Ctrip and Focus are actually taken up a larger portion of my portfolio than they did last week. I feel comfortable with this.

The fact of the matter is that the Chinese economy is humming along just fine. The A-Share market has dropped and Chinese investors have been fairly mature in how they take it – we do not see the same panic and fear about the Chinese economy’s strength as we see in the States. This makes me even more confident that buying Chinese companies that target the middle class here is the way to go – they are still spending and the economy will boom regardless of the stock market because so many consumers are completely shielded from day-to-day gyrations of the Chinese market.

However, I still have some major concerns about Chinese stocks in general… even the ones I own:

1. Market caps are still fairly small for most Chinese internet stocks, meaning that hedge funds control significant chunks of the company. Thus, stocks are highly vulnerable to the whims of their hedge fund owners. When someone gets spooked by rumors, or if hedge funds are having credit crunches and need to unload shares to raise capital, these funds might press the “sell” button and the stock could spiral downward. Thus, even if a stock should be high, the behavior of a few hedge funds could beat it down.
2. Wall Street analysts and reporters for some reason keep moving markets even if they have no idea what is going on. Fear blew into Focus because of rumors that they were losing a license on SMS. I am still not sure that they have the license, or even need it. Even if they did lose something, Focus is diversified enough not to drop 30% on one day. Come on guys. It is not like Linktone (LTON) or Kongzhong (KONG).

Last year I had a conversation with a stock analyst from one of the big houses. This analyst told me that her boss – who was famous for covering Baidu – could not even figure out how to get onto the Baidu website because he thought it was the stocker ticker address… i.e. www.bidu.com. Do you really want to listen to the advice of people like this?

All in all, the past week has not been a great one for my holdings. It should have been if I had continued to add into my top stocks like Focus and Goldman when the prices went down but alas I did not, as I was concerned about the equity markets. I should have listened to my own advice better – back the companies with good management, cash flow, and scalability and disregard day to day fluctuations.

China Market Research Group (CMR) Managing Director Jessica Lo, CFA and CMR Analyst Charlotte MacAusland contributed to this article.

Comments

[smoothgriffon]

What is yout take on XIN? They had a one time charge against the U.S. ADR and it tanked and is now following the China Mkt into the hole.

[windinmyface2]

Its nice to hear some one admit to a mistake, and not try to back peddle. I believe you are right, but we still can't control the panic sellers. I have some Chinese stock, and have always come out a head with CHL. I bought SOLF at $25.35, it hit about $40.00 in January, and I kept it on advice from the news, that it could get to $80.00, and now with the news of the convert. bonds they have announced. I am getting burned, its $9.55 as I write this. I hope it gets better after March 27th when they post their earning. I'll dump it. With what I know of Chinese stock, is that it is risky, and needs a lot of study to trade in it. I feel as if I'm in Vegas when playing the Chinese market.

[winninger]

I totally agree what you said here. The Chinese companies will do better than the US companies in the next 2 years, don't for get the worst in finacial sector is yet to come.

As for the Wallst analysts, the same guy knows NOTHING about Baidu and commented Baidu, is talking LDK solar again, LDK is such a solid solar company, they sold for the next 2 years. these analysist are sticking to the minor inventory things, and bite and bite, this is rediculous. I think reason is that these guys either missed run of LDK from $19 to $28 and want to beat it down. or they don't know what they are talking about. don't for get in the recently congress conference, chinese goverment passed the bill to support solar energy. LDK and other solar companies will benefit for sure. These analysts needs translators to understand!!

[Ehp246]

FMCN dropped 10% today after ER. Got what you wished for? Is it making you feeling any better?

:)

[97m6formula]

The problem I see is everyone trying to make their money back that they lost in US companies. So they are buying shares of companies like VIT and then dumping them as soon as they make profit. I bought VIT at 5.86 and sold it at 8.20 and now its at 5.55 for no reason other than profit taking. This is a big reason why the market is going the way that it is. Everyone is taking profits instantly instead of longing stocks. At least thats how I feel

[Mulligan]

I own FMCN and down big. I thought their reports were good. Should I take the loss? It seems like its going to continue down. Tonite on Kudlow, all negative on China. Is anyone reading the C Call? They were bullish on guidance or do you think the middle class in China and ads will be very affected with the mess the world is in? Are they going to not advertise now, even the big companies? we are in?

[gebby]

I own sol, solf, stp, ldk, all down here yet I feel like I am losing alot of money. the more I read about these companies the more convinced i am that i should own them and be patient. Am I missing something? Are they just getting dragged down by the general market? what was wrong with sol earnings? I thought the earnings announcement and projections for next year were great!

[HilBily]

I have followed LDK and also day-traded in it a bit, ever since their accounting issue broke, and the shares went from mid-70's to low 30's in a few days. Try as I might, I cannot buy into the bear case for this stock. In spite of nothing but good news, people like Jesse Pichel and others continue to trash it. My very strong suspicion is that Mr. Pichel's co.(Piper Jaffrey) has a large short position in the stock. Am I wrong? Anybody?