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During a recent conference for Asia-Pacific distributors organised by Prudential Asset Management in Dubai, she noted one of the biggest trends for China and India is the export of capital, not just goods. Chinese outbound investment now comes via one of three channels: the new qualified domestic institutional investor (QDII) program, corporate investments and acquisitions, and the embryonic China Investment Corporation (CIC), a sovereign wealth fund that has been given $200 billion of seed capital from the nationÆs foreign reserves.
ôForeign reserves are growing at $1.5 billion each day, so the CIC could grow to $500 billion within two years,ö Ulrich says, adding it is likely to focus its investments in energy and minieral resource sectors, as well as in western companies that have brands or distribution power that Chinese manufacturers lack.
Corporations, on the other hand, are looking to make investments or acquisitions in areas such as mining and finance, using the enormous market capitalisations of overseas listed companies such as the $280 billion ICBC. ôThese corporations, despite their size, are still 100% domestic companies that need to globalise,ö she says. Banks such as ICBC take deposits and make loans, but donÆt have, for example, businesses in credit cards, wealth management or investment banking. Ulrich suggests the subprime crisis could throw up distressed opportunities for Chinese financial companies. ôBut they will not follow the same path as sovereign wealth funds; they have their own strategies,ö she notes.
ChinaÆs impressive economic growth underpins this export of capital, and it is exports that create its huge current-account surplus. Exports this year could reach as high as 10% of GDP, which Ulrich notes is a higher component of the economy than Japanese exports were for Japan in the mid-1980s bubble period.
The discussion at the Prudential conference looked at whether this source of ChinaÆs strength also posed weaknesses, and whether India would be able to become an equally powerful exporter of investment.
ChinaÆs exporting prowess has been one factor behind the nationÆs ability to create a pool of savings of $5 trillion, versus only $150 billion for India. China has used its savings to build the infrastructure required to support its export machine. Its huge trade surplus and level of foreign reserves is unprecedented, and not only a potential tool to enhance Chinese power, but also a potential source of global economic instability.
That is because ChinaÆs strengths are somewhat two-dimensional. For example, fixed investment is now 45% of GDP. This is a very high amount and probably reflects wasteful use of capital. For example, in 1996, just before the Asian financial crisis û a crisis of wasteful overspending û fixed investment accounted for 36% of GDP for Korea and Southeast Asia; today their figure averages 28%.
ChinaÆs export machine is driven by multinational corporations using China as their workshop; the world has yet to see a Chinese Sony or Samsung Electronics, notes Pete Engardio, author of ôChindiaö and a BusinessWeek reporter. Of the top 100 China-based exporting companies, 37 are Taiwanese.
Ulrich, comparing China with India, notes China pursues a state-led export manufacturing model, versus IndiaÆs consumer services model, which accounts for over 60% of its GDP. Moreover, while one-third of IndiaÆs population is under the age of 15, one-third of ChinaÆs is over the age of 50. This emphasizes the point that ChinaÆs challenge is in social services, while IndiaÆs is to provide a good education for its youth. Indeed, Ulrich says ChinaÆs working-age population may peak as early as next year, making the need to diversify into domestic consumption urgent.
Nilesh Shah, CIO at ICICI Prudential Asset Management in Mumbai, says India can, in places, match ChinaÆs growth. He argues IndiaÆs private companies enjoy stronger growth rates than China as a whole, as do the majority of Indian states (bar the biggest four in terms of population).
He acknowledges that Indian government is often dysfunctional, in part because of the messiness of democracy that can hinder the building of critical infrastructure, and also in part because, unlike in China, the public sector doesnÆt attract the most talented people. ôThe bigger problem is lack of good governance,ö Shah says.
But he also believes that regulatory agencies have emerged as bridges between the private sector and failing governments. The Reserve Bank of India, for example, has adopted a much broader role than central banks in the US and Europe. It not only pursues inflation targets, but also targets for growth, interest rates and exchange rates, and also serves as an investment bank for the government. These are often contradictory agendas, but technocrats are better positioned to manage these than politicians. Shah believes that if IndiaÆs governance improves, its GDP growth can grow from 8-9% today to 12-15%.
What does this mean for investors? Guy Strapp, regional head of investment management at Prudential Asset Management in Hong Kong, says valuations in both countriesÆ equity markets have gotten ahead of themselves û especially in China. ôIndian valuations are more subdued, and the marketÆs at close to fair value,ö he says.
But for Pru, other Asian markets offer more compelling stories. ôWe like bank stocks in Indonesia and Thailand, and weÆve liked TaiwanÆs IT hardware companies for some time now,ö Strapp says. While Prudential has sold off much of its overweight position in Korea, it is adding to Hong Kong, where consumption and property stories are intact and ChinaÆs QDII program looks to give the local economy a new shot in the arm.
Looking at the potential hazards to Asian equities from the subprime crisis in America, Strapp says China is most exposed to a US consumer-led recession. ôThe way the markets are priced now, we could see a big impact,ö he says, adding this could lead to retail investors to retreat from Chinese equities.
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