Paul Harper's  Instablog

This week, China will be launching a ground breaking new secondary market & trading platform that hopes to help smaller technology companies attract investment in domestic IPOs.

Small & Medium Sized Enterprises (SME’s), are the mainstay of the Chinese economy, as they provide the largest employment base as China moves towards a more enterprise based economy. However, smaller companies have found it difficult to raise funding, as the large commercial banks concentrate on state owned enterprises.

Shenzen based ChiNext, which is being hailed as a Nasdaq style trading board will begin trading on Friday 30th October in the hope that traded entities will be able to take advantage of excessive liquidity, especially in retail investment markets. It is believed that investors will be attracted to new opportunities to stake a claim in up & coming tech startups, but also by the more relaxed trading environment, as companies listed on ChiNext will not face the Byzantine rules that are applied to A & B class share issues in Shanghai.

“The launch of ChiNext represents a milestone in the development of China’s financial markets and is an important part of the government’s plans to boost support for small and medium-sized firms,” said Jing Ulrich, Managing Director of China equities at JP Morgan, Hong Kong. “The board will provide an additional source of financing for younger companies while broadening the options available to investors.”

More importantly, it is expected that ChiNext will also draw in private equity & venture capital firms, which are critical to helping startups gain a foothold in global markets. According to Jackson Wong from Tanrich Securities, these investment vehicles will be more likely to take part, since they have more routes to cash out on their investments, with an avid pool of retail investors ready to speculate.

“The launch of the growth enterprise board is an important step towards implementing the national strategy on promoting innovation,” Shang Fulin, chairman of the China Securities Regulatory Commission, said last week. The first 28 companies to list on the board, ranging from software to medical equipment makers, have raised 16 billion yuan (US$2.3 billion) in their initial public offerings — more than double initial forecasts.

Well known China investor Jim Rogers (he of the dickie bow) according to this report from CCTV is watching the new bourse with great interest, although he hasn’t invested in any of the companies that will IPO this week, any move he makes in the near future is bound to be followed by Sinophile investors

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So far, more than 9 million people have opened  trading accounts with ChiNext, fuelling fears that there may be some price fluctuations in the offing. According to CCTV.com, the average price-earnings ratio for the 28 companies  due to list on Friday is 56, which is a hefty premium on the average 25 encountered on comparable listings on the Shanghai A list.

Wang Yiwen, GM of Shanghai Deding Investment Management  said, “The IPO prices for those firms have been set very high. This will cause pricing and trading issues for the secondary market. Take the SME board at the A-share market as an example. When the SME board starting trading in June 2004, 8 firms got listed. Their share prices all opened and ended higher on that day. But prices soon started declining after 5 to 10 trading days, with some losing nearly half their values.”

So it would seem that we will see some initial decay, but all in all, this is an exciting move for China’s retail investors individually & global investors as a whole. Hopefully ChiNext will give some small domestic companies a financial springboard which will allow them to accelerate growth before performing secondaries in Hong Kong & on the NASDAQ & NYSE in the future.

From a personal point of view, I've been slowly seeding into the The Claymore/AlphaShares China Small Cap Index ETF HAO for some time this year, enjoying above 50% growth so far.

With the pullbacks over the last 5 days, I am watching the launch of ChiNext with quiet expectation, my impression being that if ChiNext manages to launch without too many issues, this could well be a nice fillip for HAO in the near term.

Disclosure : long HAO

As we have discussed in previous articles, Brazil’s retail banking sector has been enjoying a buoyant 2009 so far. This would seem set to continue as payment card processor Redecard posts an 18% jump in financial volumes.

This should be seen as a positive for Itaú Unibanco (NYSE: ITUB), which controls Redecard, as net income for the third quarter rose to BR$333M ($195M), with financial transactions across the payment platform registering BR$ 24.7Bn ($14.52Bn) & more interestingly, the debit card side rising in step by 17% to BR$12.2Bn ($7.13Bn).

Although there is general negativity on global credit card companies, particularly in Western economies, Brazil’s nascent credit sector has benefitted from a wave of bank consolidation over the last 18 months, the strength of the real versus the US dollar & one of the strongest economies to exit the finiancial crisis. Earlier this year, Visa affiliate VisaNet was the star IPO on the BOVESPA, with the launch being hugely oversubscribed by both retail & institutional investors, raising a record of $4.5Bn.

“We think the results were solid and highlight the strength of the credit and debit card markets,” reported Deutsche Bank which keeps a buy rating on Redecard. “While regulation remains a key risk, we think that it is already priced in.”

For Redecard, it is also very much a case of being seen as a Brazilian brand, which seems to be helping it’s positioning against VisaNet, which although no longer owned by Visa, retains the association. Redecard has the benefit of being able to position itself as a multi-brand entity & is more popular with Brazilian retail customers, especially in the growing debit card sector, whilst VisaNet is to some extent still regarded as a premium brand.

So, short term one-up for ITUB & we expect to see shares taking a ride higher over the next few days. VisaNet reports later this week (October 28th), so it will be interesting to see if Bradesco will be able to catch the same sentiment wave.

Author holds positions in ITUB & BBD

While the Chinese economy expanded 8.9% in Q3, propped up by easy credit & continued government spending programmes, Europe, US & Japan continue to flounder. The world’s 3rd largest economy has recorded 7.7% overall growth in the first 9 months of 2009, with officials saying they are confident that the much talked about annual growth target of 8% will be achieved.

Last November, as it became clear that the global economy was heading into a recessionary period, central government implemented a 4 Trillion yuan/$586 Bn stimulus package, aimed at cushioning the blow of decreasing exports on the economy whilst also improving industrial efficiency at all levels. Via this stimulus package, China has implemented a number of schemes that impact practically all sectors in the economy;  real estate/construction, transportation infrastructure, agriculture, social services, industry, earthquake reconstruction, technology advancement & rural development being amongst those receiving special focus.

The strategy has paid off, with growth rising to 7.9% in Q2 from 6.1% in Q1 2009. Figures show that industrial output has risen 8.7% in the first three quarters of the year, and 12.4% in July-September, which would seem to signal accelerated demand from domestic purchasers, keen to take advantage of low cost loans to invest in the expected turnaround for China in 2010.

However, while surging purchases of coal, iron ore & other raw materials have helped mining majors such as Vale & BHP Billiton the impact of China’s comeback has mainly been one of improving global sentiment than of actually driving growth, according to Stephen Green, economist for Standard Chartered Bank in Shanghai.

“Exports remain the key weakness for the Chinese economy,” Moody’s Economy.com economist Alaistair Chan said in a report yesterday.

Our view is that it is time for those investing in China to pay attention to people like Chan, as investment via the stimulus package has accounted for nearly 88% of GDP growth this year. Central government  investment in factories, construction & national infrastructure has risen by one third in the first three quarters of this year to a record 15.5 trillion yuan (US$2.27 trillion).

As the economy “flourishes”, this heavy reliance on public works & other investments could be masking long term issues for the Chinese economy. Impressive as China’s ability to ride out the storm has been, companies desperately need to restart exports to offset the economies dependance on fiscal hand outs.

This week China’s leaders have also  signalled concern over these obvious imbalances in the economy, with the State Council saying policy must shift to dealing with waste and other associated problems of high growth.

“In the first three quarters, the pace of economic growth quickened,” the State Council said “At the same time, we also are clearly aware that there are still difficulties and problems in the economic and social development of our country.”

So it looks as though there are a number of challenges ahead for China in the near future. The stimulus package has obviously been deployed in a much more effective manner than in Europe & the US, however China has not had the crippling effects of massive credit & huge write downs in it’s nascent financial sector. Although the Chinese have made a number of efforts to open new markets through bilateral trade agreements & an accelerated FTA programme with neighbouring countries in Asia & it’s BRIC partners, it cannot fully offset the real factor of dependancy on Western markets indefinitely.

No current holdings

Following the digital trend in the West & with internet connectivity set to become ubiquitous via 3G launches by all the three major mobile operators in the near term, a number of domestic companies are jumping on the e-reader bandwagon, that has been rocking this year with Amazon's Kindle. This could be an astute move, as the Chinese market has the potential to become the largest market for the devices globally.

China Mobile (NYSE:CHU) has inked deals with two companies on this, Jinke Electronics & Hanvon Corp, better known as Hanwang. Both devices are updates of existing models, with TD-SCMDA chips added to provide tha all important wireless connectivity, that has seen the Kindle gain so much traction in the US & Europe.

It would seem that Hanwang is making big bets on the China Mobile deal, as it is expected that the operator will subsidise the e-reader via a 1 or 2 year subscription, last year, the Beijing based company sold 200,000 units & has stated that this year it is on track to shift 500,000 devices at a retail price of $430. Expectations are that Hanwang will be able to sell 2 million devices in 2010 & are targeting 5 million devices sold in 2011, which would giove this company a market share larger than the current US e-book market.

Meanwhile Jinke is also looking further afield, having already reached a deal with France Telecom to distribute it's Hanlin reader in Europe via Orange MNC business units & is looking to target BRIC partner countries, Brazil, Russia & India in the near future.

Analysts seem to be of the view that China Mobile will be the lead supply for domestic content, via its app store platform, Mobile Market, as neither company has a large selection of content to offer & the mobile operators can own the end-to-end process; device, subscription, content & billing. E-readers will add to a list of other products including mobile phones & laptops embedded with 3G chips as the carrier looks to expand its nascent 3G subscriber base.

Analysts are very bullish on the e-reader market in China, predicting that the country could account for up to 20% of global sales in 2010. Last December, the government announced that it was looking into distributing 165 million e-readers to students in place of text books (although a look around Google, can find no further evidence of this coming to fruition). Amazon (Nasdaq:AMZN) & Sony have not been able to successfully penetrate China on this technology, so far, as neither Kindle or Sony Reader have supported Chinese text, although that looks to be changing.

This is a potentially huge market & it will be interesting to note how this will play out, obviously China Mobile will be a winner with these products & also with a new colour e-reader scheduled to be released next year by Datang. It has the jump on both of it's competitors, as China Telecom (NYSE:CHA) is new to the mobile market & is apparently struggling with the content side of it's business, while Unicom has recently signed the Apple deal. Expectation is that China Unicom (NYSE:CHU) will be the Chinese distribution of any such product that Apple brings to market, as the media giant presently lacks TD-SCDMA technology, which prevents it utilising the China Mobile 3G network.

I can imagine that Amazon will be making stringent efforts to update the Kindle to support Chinese text & relaunch its product, however, the major challenge in China, as in almost anything that is software driven, will be piracy. Quick research finds a number of tech portals commenting on this, with copies of Western books widely available on the Chinese market before Western e-reader devotees can get their hands on them.

Author holds long positions in CHL & CHA

Mining giant BHP Billiton has announced revised figures that significantly upgrade the reclaimable reserves for its flagship Olympic Dam operation in southern Australia.

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Looking at the Latin-American market from an economic point of view, we can see that there are a number of reports & indicators coming out, particularly from Brazil, Chile & Argentina, that the continent is bouncing back from the global recession a lot quicker than it's Western counterparts.

Normally with stockpicks, I tend to focus on a single market, rather than a whole region, however, I have been looking at MercadoLibre for the last few weeks & am bullish on it's prospects going forward.

MercadoLibre (Nasdaq:MELI) is an Argentinean based Spanish-Portugese language  online auction and fixed price marketplace provider across Central & Latin America, including key markets such as Brazil, Argentina, and Mexico. It also runs a payments processing system called MercadoPago that is similar to Paypal. Enjoying a near monopoly in this marketplace, it also operates as e-Bay's exclusive partner for the region, with e-Bay holding an 18.3% stake in the company. Unlike it's erstwhile partner, MELI has not become sidetracked from it's strategy & is a pure e-commerce play.

This year the  has performed very well, running from a low of $12.51 up to today's price of $38.12, an eye watering $203% return for those lucky enough to buy & hold for the period. Looking at Q2 2009 earnings against same year 2008, it is obvious that MELI is bucking the global trend, as it has grown organic revenues by 19% & increased it's net income by 127%, pretty spectacular figures & one of the main reasons that I am looking at this stock with interest. The following excerpt from MELI's earnings review points to more bullish figures.

For me the main reason that I am interested in MELI is that in the countries in which it operates, broadband penetration has been traditionally much lower than in developed countries, but has been accelerating of late & is set to boom over the next 5 years.

According to MarketResearch.com Broadband penetration in Latin America and the Caribbean was about 4.9% in early 2009, well below the world average of 6.1%, however, competition has been increasing and prices have been dropping in most countries. Given the region’s general economic indicators, there remains ample space for expansion.

Looking at the three largest markets, we can see that a large internet subscription audiences exist; Brazil 29.3% (67.5M), Mexico enjoys 21.3% (27.4M) & Argentina 11.6% (20m) respectively, as of June this year. (source Internet Statistics). A recent survey by the Broadband Forum revealed that in the Latin America heads up the broadband growth rankings globally, with a 31.4% increase in broadband subscriptions this year. With Brazil alone adding 10 million users this year, making them the 9th largest broadband community in the world.

"I believe this year has shown that broadband expansion is not limited to the top industrialized countries, but is a key factor in assisting developing nations to gain a foothold in today's tough market," said George Dobrowski, Chairman
and President of the Broadband Forum.

As we have seen, the region has been faring better economically of late & with retail investors looking to developing markets for better returns, technology stocks should see greater capital inflows. From my research, it would seem that investors are now looking to South America for new opportunities & a stock with MELI's past performance is very attractive indeed.

Looking at a three month chart, we can see that there has been quite a bit of volatility, although the trend is still positively upwards. Right now, I am looking for an entry in the $35 area, with a view to the stock hitting $50 within 6 months.

Disclosure : Author holds no current position.