tc1's  Instablog

I've tried to keep an open mind and hear and read both sides of this "China's-in-a-bubble" controversy.

I have to ultimately disagree with Jim Chanos and his followers (Chanos, of course, has been wrong many times before) and instead side with The Economist (e.g., see "Not Just Another Fake," 1/14/10), PIMCO's Bill Gross and Asia expert Koyo Ozeki, Fidelity's Clay Fisher, Jim Rogers, any number of Street institutions (Goldman Sachs, et al.) recommending the buying of certain China growth plays, and authors whose works have appeared here at Seeking Alpha and other venues such as Shaun Rein, Dian Chu, Jim Trippon, Eric Jackson, Zach Karabell, Maj Soueidan, Zack Buckley, Robert Hsu, et al.

The two big issues that Chanos and followers seem to be deliberately ignoring for the sake of their short position are 1) the huge build-up of China's tier-2 and tier-3 cities, not to mention the current and future development of even smaller towns in rural areas by the PRC government's fiscal stimulus; there is simply no way that these regions are "in a speculative bubble." Rather, they have many years to develop much further. 2) Chanos et al. also purposely, it seems, ignore the huge difference between overpriced equities on the 3 main Chinese exchanges (not including the Hong Kong Stock Exchange), and the thousand-plus China stocks listed in the U.S. (NYSE, Nasdaq, Amex and OTCBB), many of which are very profitable companies with low or no debt, ample cash, high insider share-ownership, strong growth, and trading with ridiculously low P/Es and PEG growth ratios. These are among the fastest-growing companies in the fastest-growing economy in the world.

On China's realty issue, it will be helpful to have some context, so consider, by comparison, the situation in California real estate from, say, the mid-1960s up to the present: A 2500 sq ft 3-bedroom house that sold in a relatively desirable area of West L.A. or S.F. in the mid-1960s for $50,000 was "worth" $100k a few years later and $500k in the late 1980s (ten times higher than just two decades years earlier!) and, after a dip or "correction" in 1993-4, it was appraised at over $1M by 2000 (twenty times higher than three decades earlier), and likely valued around $1.4M at its peak in 2007. Now it is back down to around $1M again in appraised value.

At what point do we declare that California realty was no longer just a "high-priced appreciating asset" but had become an over-valued "bubble" asset? Moreover, is it still a "bubble" today, after the 2008-9 plunge in values? If not, then how does one square this with the fact that the house is still fully 20 times more expensive in its "appraised value" than in the mid-1960s?? Yes, there's still a lot of toxic debt out there with mortgages on these California homes-- and in every way the situation still looks weaker than the China "realty bubble" on which Chanos is perseverating.... So why is he spending so much time talking about China and not California? And I'd love for him to get specific on precisely where California realty went from being "highly valued" to "a bubble" and then see if he's willing to use the same standard when evaluating China's realty sector, where all evidence indicates that most properties are being bought with 30% to 50% down-payment in cash, with the rest of that debt being paid off as fast as the owner can accomplish it (usually with the help of family), because Chinese citizens, unlike too many Americans, abhor debt.

Certainly much high-end and upper middle-class housing in Beijing, Shanghai, Guangzhou and Shenzhen-- the first two being certainly the most developed cities in the country-- much of this housing has become very high-priced compared to a decade ago. But obviously China's higher-income earners can easily afford these places --we're not talking about the "average income-earning Chinese" living in these cities who are buying these places, but the wealthy and super-wealthy.

And in the Tier-2 and Tier-3 cities, much new development is occurring for the middle-class and higher end housing, but there are many eager buyers waiting to purchase these properties. Is that a "bubble"? Was fast-growing Japan a "bubble" in the 1950s and 1960s? Was fast-growing America in the early 20th century and in California from 1950s onward a "bubble"??

I could go on for pages and pages here. I hope the point is getting clearer and clearer: Beijing and a few "strongly-developed" cities in eastern China are experiencing a big price run-up in realty values, but this is no speculative bubble built on toxic debt and weak consumers, but on the 825,000 multi-millionaires who form China's nouveau riche along with a strongly rising upper middle class and middle class. Meanwhile, huge growth is occurring and will for years continue to occur in the great majority of China's cities, towns and villages, where rising incomes can easily "buy the boom" in building.

And to miss the amazing investments in the U.S.-listed China SMEs (small and medium enterprises) because one cannot or will notlook past rising prices in Beijing and high-priced (high P/E) equities on the Chinese exchanges is to miss one of the great investment opportunities of our era.

As has been said, the availability of all these under-valued China stocks we can buy here on our exchanges is "like being Sir John Templeton buying cheap shares of Japanese companies in the 1960s." Would Sir John have avoided those amazingly profitable buys because Tokyo's realty sector was growing too fast at that time?

Let's have some proper perspective here....