The situation in China & Hong Kong

Although I find it highly interesting with Macro analysis, I deliberately write less about such topics on this blog. I want this blog to be focused on stock picking and the struggles of portfolio management. That said, given how many investment I have with a majority of their revenue exposed to Asia/China/Hong Kong I guess it’s time to write down some thoughts on what is going on in the region. The ground is moving very quickly around the Coronavirus (2019-nCov) and the attention has grown a lot over just the last few weeks. Even so I think people living in China & HK vs rest of world have very different views on the situation. I do not pretend to have the answers of what is going but I want to share my view and what I see and hear from people who I know live on the ground. In the end of the post I will go through why I’m as of Friday sold my full holding in Union Medical Healthcare.

The situation from my perspective

I would like to start of by saying, that I think we are facing an extremely serious virus spread. It’s the sneaky feature of the virus that it can spread before people feel sick, which really makes this so very dangerous. Thanks to very powerful actions taken in China and elsewhere, we might just dodge a major major global health crisis.

When the contagion started a lot of people where quick to comment, and in some cases I also drew conclusions too quickly. If you followed this virus situation closely you might recognize comments such as:

  • It’s only old or with previous health issues that passes away from this.
  • The mortality rate is only around 2%. 
  • A normal seasonal flu in the USA kills 10x as many every year as this flu, you don’t see widespread panic from that.
  • More people die from road accidents in China, since people now stay at home, road accidents should be down, meaning total deaths is down. What’s the big deal?

All these comments have some merit, but let’s look at the one by one.

“It’s only old or with previous health issues that passes away from this.”

It’s easy to understand why such comments came in the first few weeks of the spread. Because naturally weaker individuals would perish more quickly to the virus. A stronger individual would naturally fight the virus longer, even though in the end they might lose the fight. So it is interesting to look at is how many of the identified cases have fully recovered. The count changes hour by hour, but right now there is 37,566 confirmed cases and 2,152 recovered. That is 5.7% has so far recovered, which in itself does not say anything about how many will make it through to the other side. But at least it is clear it takes a person a long time to be rid of the disease. One of the whistleblowers of the virus, Dr Li Wenliang only became 34 years old when he recently passed away due to the virus. According to reports he started coughing on January 10th, but was only a confirmed case on January 30th. It took him almost a full month from starting to cough to actually passing away from the disease. That brings us to the next statement.

“The mortality rate is only around 2%”

I’m not the first one to point this out, but I’m more or less repeating what a lot of people have been saying. You can not take the current 813 dead and divide with the confirmed cases 37,566. Yes this division gives 2.1% but is faulty on so many levels. First of all, like was described in the case of Dr Li Wenliang, who had worked with this from the start. Although he started coughing on Jan 10th, it took another 20 days before he was a confirmed case. The procedure to be tested and confirmed for Corona is not uncomplicated and there is not endless resources to perform this test on request from the public. My best guess is that the test is restricted to really sick people that show most of the symptoms already (fever, short of breath, etc). Again, same with the death figure, this is only confirmed cases that pass away in the hospital. Most likely there will be many that tried to fight through this at home and also passed away at home, never identified as a corona case, but actually was one. So both figures are probably higher. My best guess again is that the actual confirmed case figure is much much higher than the 37,566 figure we see. The death figure is probably also higher, but not by as much. The third and maybe most important factor is that even though every single case of corona infection and death was accounted for you still can’t divide one with the other, due to the timing lag. A person that got sick today, naturally will not pass away on the first day, he will still be a confirmed case though, that might pass away in a few weeks. So how long a lag should we apply? Well again nobody knows, but from the case of Dr Li Wenliang it took him almost a month to pass away, but only a week from that he was a confirmed case. China also classifies how many of the confirmed cases are severe, where one can presume that the death rate will be much higher, that stands at some 14%. Taking all these factors together, you end up with a big range of guesstimates. My own guess is that the mortality rate most likely is above 4% and hopefully not higher than 10%, if I have to say a figure, I would guess 6%. That’s a pretty big span and also a much more scary figure than 2%.

“A normal seasonal flu in the USA kills 10x as many every year as this flu, you don’t see widespread panic from that.”

Yes it might kill more, but there are a lot of factors explaining why there is not a widespread panic from such a disease. First of all, there are vaccines against seasonal flu for the ones that do feel worried. Second, as soon as we step out of bed we are facing risks to our life. As long those risks are very small we seem to be able to brush them off as nothing to worry about. The seasonal flu according to CDC data has a mortality rate of 0.05%. Since a lot of people get the flu, the number of dead will be high during a season. Another podcast I listened to described this in another way. Everyday there are many many roads accidents around the world where people die. Very seldom these accidents even make news headlines. But every-time a plane crashes from the sky and all people on the plane die, it makes news headlines all around the world. This virus has the impact of a plane crash on peoples feelings. The problem is that the virus cases are like planes that keep crashing every day and the news media keeps pumping stories.

“More people die from road accidents in China, since people now stay at home, road accidents should be down, meaning total deaths is down. What’s the big deal?”

The big deals is how people perceive this danger and the actions they take due to this fear. In the end it actually doesn’t matter, from an economical perspective, if the mortality rate is 1% or 10%. It’s the actions the population takes in fear of the disease that matters. Social media plays a big role in this. Panic and fear especially with the help of mobile phones and social media spreads like wildfire. The actions people taken is what I would like to focus on now, because in the end that is what matters.

Situation in China and Hong Kong?

When I started to write on this post a few days ago I felt my fellow investors in the US and Europe had not understood what is going on in China. But just over the past few days I think investors are getting input from company management and decent news reporting on what is actually going on. I felt all worked up, how could equity markets continue up when 1.4 billion people had decided to sit at home, not work and basically tend to basic needs!?

We humans are pretty easy to scare and what influences most of all, is the behavior of the people around us. People can be calm and rational about the likelihood of catching the virus, but change mindset very quickly when put with a new group of people that act more panicked about the virus spread. It’s very quick back to basics in situations like this, Maslow’s pyramid comes to mind. Nobody is any longer thinking about which Hermes bag or new car to buy, when you are fighting at the local supermarket for the last rolls of toilet paper. Maybe it sounds like a joke, but this has been the actual situation in Singapore and Hong Kong over the last few days. People are so scared that they have started to hoard goods like toilet paper, rice, cooking oil. Let’s not even talk about facial masks and hand sanitizing soaps etc. This is a highly sought after good that even if you are rich, you might not be able to source. People in Hong Kong are scarred by the SARS days and takes this extremely seriously, almost everyone is avoiding gatherings by now. People more or less mostly stay at home and most companies apply work from home. On top of that both Hong Kong and Singapore has now effectively shut their borders for Chinese coming into the country. This is obviously very bad for local business, especially for Hong Kong who has suffered tremendously already on back of the protest movement that lasted since last summer. I believe Hong Kong will see a massive wave of lay-offs very soon and with a city with very poor social security, this is going to be extremely tough on a already frustrated population. But, what happens in Hong Kong and Singapore, is still fairly irrelevant for the world economy, what matters is what is that big population in China up to.

China is a big place, so it’s always hard to generalize what is happening. As far as I have been able to gather, the mainland Chinese are either isolated and quarantined in the worst hit areas, or they are voluntarily quarantined in the sense that they barely go out-doors. Partly because they are scared of being infected, but also because they are told by their government to take this seriously and help minimize the spread of the disease. For example you are not allowed to travel on public transportation without a mask in the major cities. So due to Chinese New Year (CNY) holidays, the whole country has been shut since Friday, Jan 24th. A longer CNY break is still fairly common in a normal year, especially for factories. The situation from a work activity perspective is not that extreme compared to a normal year. It would be the services sector (which has grown big in the past years) which has operated at a minimum activity level this past week. The really crucial period will be the next two weeks. China can’t afford to have people just sitting at home another two weeks, it would just have too big economic consequences. At the same time sending everyone back to work, risks severely worsen the virus spread. There is some serious anger in the Chinese society after Dr Li Wenliang passed away, so there are even political stability angle for the Party to consider. A highly sensitive situation indeed. The largest aspect though is the psychological part, reports come in of restaurants being empty or just closed. Home food delivery which is huge now is reporting some 50% drops in deliveries, because people are afraid of contamination just from meeting the food delivery guy. A population which is that scared, will not turn around in a few weeks and buy plane tickets, or go out shopping for a new car. It’s really back to basics in China.

Implications

So my take is that the Chinese population is taking this super seriously, on a government and individual level. Since everyone is taking this so seriously I think we will see long lasting effects on the Chinese economy, with spill over effects on other economies. I see it as wishful thinking that the virus spread would disappear anytime soon, a vaccine takes too long to develop. So we are looking at the virus being around for at least a few months and during that time the Chinese will be very careful spenders. Very few will buy a car, with all the knock on effects to suppliers and sub-suppliers that implies. Very few will invest in real estate, so property prices might turn soft, which is fueling most of the private individuals wealth. Extremely few will travel. I think much of this might stay true even for a few months after the virus seems to really dropped off in new cases. So when 1.4 billion people, more than Europe and USA’s population combined suddenly tightens the belt and stop consuming, could that trigger something else? Perhaps the world has for the past few years, during a epic never before seen bull run for both equities and bonds, built up excesses and made stupid investment decisions during a low interest rate environment? With a Private Equity bubble lurking, and easy leveraged loan money available everywhere? What happens to all this when we get an external shock that significantly slows down the economic wheels? I really don’t understand why we are 1% off all time high the S&P500 when we are staring this situation right in the eye.

The Chinese consumer is today just too big of a part of the economical wheels that are spinning. As Ray Dalio so nicely explains in videos. One persons spending – is another persons income. And when the Chinese are not spending, this is going to hurt the income of a lot of people. In a worst case scenario this could trigger the end of the bull market we have seen.

I want to end on a positive note, about something which I have not seen written about anywhere. I’m convinced China will see a small mini-boom in childbirths in about 9 months time. Remember where you read it first!

My holdings majorly affected by the virus situation:

In order of trickiness to handle

JOYY (a.k.a YY)

The companies cash cow is live streaming in China. With the whole population sitting at home with very little to do, I think this might be one of very few significant winners on this short term. I don’t really get it why the company is not trading up stronger. I have to consider if I should add to this holding.

Vinda

This is the toilet paper producer which everyone is rushing to clean out the shelf’s off. The stock price has probably somewhat stupidly moved upwards due to this. I mean people are just moving consumption in time, the paper they stock piled will mean less consumption in the future. Perhaps this can have some inventory positive effects for Vinda, and the company for sure will have another monster quarter in Q1. But long-term it doesn’t change the case much, it’s also not that overvalued right now that I would take the opportunity to sell. I rather think that long term there is still upside at these levels.

Dream International

Again this toy producer is a winner when China is in trouble, with most of its factories in Vietnam they will be able to run at full steam, whereas the competitors mostly have their factories in China. The company does also have a few production lines left in China, so the company is not totally unaffected. The stock price is stuck in value trap land though, eagerly awaiting my semi-annual report and let’s see what that says!

NagaCorp

Some 50% of customers and even more of the profit for the Nagaworld casino comes from Mainland Chinese, which is still less than Macau, where that figure is over 90%. Even non Chinese customers will probably be much more hesitant to travel to Cambodia during these times. I expect Nagacorp to take a significant short term hit from this just like any business dependent on Chinese and in this case even travel. But the stock has also taken a significant beating lately. One has to weigh the short term loss of income against the strong prospects the casino has over the long term. I have taken the bet that gamblers will be back at the Casino in full swing by summer and that the stock price already discounted a bad period up until then. I might very well be wrong and the market continues to hammer Nagacorp down, my strategy will still be then to weather through it.

Tianneng Power

This was a speculative holding, which performed fantastically until the virus fears shot down the stock. Obviously this is terrible for a producer of batteries in China. They might have trouble with their factories and there will for sure be less sales/replacements of electric scooter batteries when people are not even driving their scooters. Not really sure how to do here, I think I need a bit more time if I should close this speculative position. The case is much less clear than it was a month ago, that is for sure.

Union Medical Healthcare

I thought a lot about this holding lately. A lot of their business is built on Mainland Chinese coming to Hong Kong for different type of treatments, for health, minimal invasive procedures, etc. Lately they expanded more towards actual doctor clinics. Since the protest got violent in October, there are barely no mainlanders coming to HK and by now, with the border shut, there will be zero, for quite some time probably. On top of that due the shortage of facial mask, private clinics are even struggling to stay open. Locals population is neither for sure focusing on these type of activities now. So just like Nagacorp, UMH will most likely see a deep dive of it’s revenue and profits. I still like the founder, but this is just too much headwind for too long of a time. I have to be a bit tactical here and even if I like the company, I most likely will be able to get in cheaper in the future. I’m actually baffled that the stock is holding up so well. I have to be humble that I have misunderstood the situation and maybe the business is less dependent on mainlanders than I have understood. But I decide to sell my full holding as of Friday’s close.

Dairy Farm

This is another one of these which has got everything going against them, since the protest started. First it was the mainlanders that stopped coming during protests, which hurts the Mannings business. Then it was the protesters who got angry with the Maxim’s family, so nobody is eating at their restaurants. Then the 7-Elevens of course in general gets hit by less tourists and people moving about in the city. Now the virus. Well the only thing that finally must be flying is the supermarket business in Hong Kong. I can’t imagine a better market than these past months. People in general stay at home much more since the protests and obviously buys their goods from the supermarkets instead of going out eating. Problem is that I think the losses will be so severe in the other areas, so a great quarter or half year for the supermarket business won’t hold up the rest. In the long run this matters less, what matters is, will Hong Kong go back to normal long term and will the (not so) new CEO turn around the rest of South East Asia? This is not a high conviction position for me anymore and I need a bit more time to decide if it should perhaps leave the portfolio entirely. l have already reduced it to a very small position and the stock price is already hammered.

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Thoughts on the market and portfolio construction

The last month I have not written much here on the blog. However the inactivity does not mirror what I have been up to. I spent a lot of time lately, screening for stock picking ideas, reading, listening to inspiring podcast and most of all thinking and contemplating.

My screening which will be covered in a separate post has made me realize that I need to significantly improve the way I look for new potential investments. The power of screening increases significantly when you have the luxury (like I do) of looking for stocks all over the world in all market cap sizes. The reading I have done lately has in part been inspired by trying to understand more what metrics I’m looking for in companies that I want to invest in over the long term. Hopefully the steps which I’m about to take over the coming months will be crucial to take my portfolio and investment process to the next level. Slowly but surely the aim is to move towards a more structured and professional investment approach.

My thinking and contemplation has mainly been around two things: 1. What markets are up to currently, if and how I need to adjust my approach. 2. How my portfolio construction should be structured to maximize my changes of success. That’s what I thought I write about today.

Markets and the Trade War

Let’s start with the current market environment. Anyone not living under a rock for the last six months has been flooded in the news about Trump, China and the Trade War. But return wise for most global stock portfolio this has so far had minor impact. US stock markets are at all time highs, Europe is doing pretty well (except Turkey). So far only one major stock market has really fallen significantly and that is China/Hong Kong. Although I made a point of reducing my exposure towards China already back in May 2017 (Rotate away from China). I still keep a large overweight compared to MSCI World in Chinese related stocks. Either that they are listed in Hong Kong, or that they actually are materially exposed to the Chinese economy. Below is the total return of both benchmarks since I made my post about rotating away from China.

WorldvsHangSEng201808

The trade war puts a stock picker in a bit of a conundrum. Most Macro events should be ignored by a stock picker, but the Trade War actually becomes a company specific event as well. In my view it can not and should not be ignored. The effects of the tariffs are so big that a producer in China could be totally out-competed by a producer in another country, as soon as the tariffs comes into place. One could say that the Trade War is bigger than just China and USA, that’s probably true and Trump might for example still have a beef with the Japanese car producers and the imbalances created there in trade. But for now I have just focused on US/China conflict and how that has affected my portfolio.

I have not looked at the stock market in this light before, but I tend to group companies like this since the Trade War started. Especially for stocks listed in Hong Kong.

  1. Companies which mainly sell products and/or services to Chinese consumers. Here the main risks are more subtle, how will the Chinese economy fare if the Trade War intensifies? For the first time ever since I started visiting Mainland China, the people I talk to are afraid of the Trade War effects on the Chinese economy. I just have to point out how rare this is. I discussed everything from ghost cities, rampant borrowing, spiraling property market etc, nothing has really moved the belief among the Chinese I talked to, the only way was up. This is the first time I hear the Chinese people themselves admitting that this could end badly. One should not underestimate the effects such a psychological shift has on an economy which has been a one way street for so long. This makes me worried about my large China exposure.
  2. Companies producing products in China and mainly selling products to the USA/World, but products currently not on the list of tariff goods. Here the risk is more obvious and probably the area where one should be most careful. The stock market has probably not fully discounted that the companies products will fall under future tariffs. An excellent investment thesis could be destroyed by the stroke of a pen from Mr Trump.
  3. Companies producing products in China and mainly selling products to the USA/World, products already on the list of US tariff goods. These companies have probably already seen most of its initial stock price fall already. There might be opportunities here if the company somehow can navigate through this mess, perhaps relocating production or other measures.
  4. The rest – Companies with little or no direct exposure to the Trade War. Here we should more be looking at indirect effects. A lot of companies producing products in other countries are reliant on parts from China, which might be under new tariffs. This could quickly alter margins and shift advantages to producers in other countries which has non-Chinese suppliers of their parts. The problem here is it requires very very deep due diligence to understand these dynamics, if the management is not upfront about it.

Looking at my holdings grouped into the above categories:

  1. NetEase, Fu Shou Yuan, Essity (mainly its holding in Vinda), Dairy Farm (mainly its holding in Yonghui Superstores), Nagacorp (Chinese going to Cambodia to gamble), Coslight
  2. Dream International (although majority of production is now in Vietnam).
  3. I don’t hold any company with significant portion of their goods under current US/China tariffs.
  4. Since I have very few US based holdings I don’t see any major effects here for my portfolio.

So the conclusion for my current portfolio is that I have to be mindful of the general economic strength of the Chinese consumer. If they stop spending, my portfolio would be hurt significantly with so much direct exposure to Chinese consumers. So should I reduce my exposure? If this really pulls down China into a recession and all the unraveling of leverage that would mean, then yes, I really should reduce my exposure. My this is threading dangerous grounds, because now we are not talking about company specific effects anymore, this is Macro. As we concluded many times before as a stock picker we should be wary to try to time too much macro. The truth is I haven’t really made up my mind yet. Let’s look at the other side of the coin too, opportunities.

Opportunities?

Such serious fall in one stock market also gives rise to opportunities. The same reasons why I had such an overweight towards China when I started the blog was partly due to the relatively low valuations compared to other markets. When the Hang Seng now is falling when other markets are rising, this puts me in a tough spot again. Hong Kong stocks looks cheap, but I already have a significant exposure, if I find something very interesting, do I dare to add more China exposure? I think my conclusion so far is, very selectively and with a larger margin of safety than before. I have one investment idea (again in a fairly illiquid company unfortunately), if it falls a bit further, it might enter the portfolio during the autumn. Please give your comments on what do you think of my portfolio taking larger tilts towards China in such sensitive times?

My new portfolio construction

I written quite a lot about the importance for me to find investments that I’m comfortable holding long term. I think this will always be main foundation of my portfolio, lower turnover and a long-term approach to investing. Although a few of my holdings to do not fully meet all my investment criteria (which I by the way will define more clearly later), in general I hold a portfolio now which I’m more comfortable with holding for the long term. I realized now, that reaching this is actually a very nice feeling in many ways. Mostly because I can relax more in terms of following up on my holdings. Instead spend that time on rather finding new good investments and taking my time to do so. Before there was always a stress to find something new to invest in, since many of my investments were short term and I knew I needed to replace them with new ideas rather quickly. This brings me to my next point.

I actually miss not being able to invest in what I would call a swing trade. A large part of my investing “career” I dedicated to following the markets very closely. I’m a contrarian investor at heart and I almost love catching knives (until I cut myself badly on them and need to lick the wounds for a while). Many of my investments in the past were at infliction points in stocks and actually I think I’m rather good at it! So this focus on long-term has taken away some of my possibilities for short term swings when I see an opportunity. Supposedly I could just do these trades outside of the GSP portfolio, but that’s not really what this blog is about. This is my journey to become a better investor and if I think I’m good at something, it should be evaluated properly under the scrutiny of the blog.

Another type of investment which I since the beginning have left outside of the blog is smaller positions in (usually loss making) companies with a return profile somewhat more like a out of the money call option. There is tremendous upside if things go right, but in most cases it turns into a dud and depending on sentiment money will be lost. This is also something I have been decently successful in outside the GSP portfolio. Again the exact same reasoning, if these strategies should be evaluated properly I should include it into the GSP. So with no further ado, I present to you my new future portfolio construction:

The new Global Stock Picking Portfolio

80% Long Term Holding – My current portfolio of long term holdings, target holding period 5+ years, maximum 15 holdings, range of allocation allowed 65%-90%.

10% Opportunistic Holdings – Holding period maximum 2 years, maximum 2 holdings at any one time, range of allocation allowed 0%-20%.

10% Speculative Holdings – Holding period could be short or very long term. Minimum position size (at acquisition) 2%, Maximum position size (at acquisition) 3%, range of allocation allowed 0%-20%.

0% Cash – Maximum Cash position 15% – I reduce my max cash position from previously 25%.

The idea of the speculative trades is to be able to sustain larger losses on several speculative positions, but hopefully that one or more will make up for it, by its high returns. The speculative positions could be everything from a micro cap with a potential success product, or even a larger company, where earnings are yet to be proven (think Biotech etc). More on this later.

During the rest of the year I will restructure my portfolio and introduce especially new holdings in terms of the speculative positions. In due time I will evaluate the performance of the different “buckets”, but main focus will still be on total performance of the whole portfolio.

All comments on my changes are appreciated, since I feel they are not 100% set in stone yet.

 

 

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Rotate away from China & Portfolio changes

Time to rotate away from China

I have in numerous post expressed in different ways my feeling of wanting to rotate my portfolio away from it’s heavy China tilt. But why did I end up with such a China exposure in the first place? Here is a few reasons:

  1. I live in the region and spend quite a lot of time in general to understand China, this obviously helps in finding opportunities to invest in.
  2. With a bull market roaring almost everywhere, stocks with China exposure has been one of the biggest pockets of reasonably or even cheaply valued companies.
  3. My focus on Electric Vehicles and the changes that will bring about, has lead me to invest in Chinese companies.

Why I’m rotating away is more from a Macro perspective. I’m quite scared of the speed of the debt build-up in China. Many professional stock pickers I have met says, don’t try to time Macro events if you are a stock picker, generally I agree. One can’t be a master of all and you should try to stop predicting Macro events as the reason for buying or selling stocks if you are a bottom up fundamental stock picker. But there are circumstances in more extreme cases where I believe Macro should not be ignored. I believe we are starting to enter such territory for China. I think Kyle Bass (who has been wrong on China for quite some time) has some good insights it in this short interview: Kyle Bass on China – Bloomberg interview.

My views

I don’t have unique sources or insights on China. I read daily news on China, listen to people who live there, as well as more informal sources of information (blogs/vlogs etc). Much is great (and bullish long-term) about the Chinese people, their willingness to study hard, their respect for knowledge etc. But the picture I paint right now of all information I collect, does not look good.

If I focused on the negatives this would be my observations, much of it you have heard before:

  1. People in general believe property prices can only go up, because they have never (since the 90’s) experienced anything else.
  2. Property price to disposable income is among the highest in the world and if you can come up with the down-payment, there is no questions asked from the banks for you to receive your mortgage.
  3. People buy property they do not intend to live in and which they sometimes struggle to rent out, but it’s OK, because so far they have still made capital gains on it.
  4. Chinese construction companies build with awful quality and Chinese have a non-existent system of maintaining common space in residential buildings. So even buildings just 10 years old start to look old. Not keeping property in decent shape must be a very effective value destruction which is not much talked about. Just considered all Chinese property today marked at value 100, where 30% is down-payment and 70% is mortgage, what happens after 15 years when the property has deteriorated to such a state that people only are willing to pay 50 for it? This is not discussed because the property market goes up quickly, but when it’s not going up anymore, the bad building quality/maintenance will be eating away maybe 3% equity each year. On top of that, Chinese like new things.
  5. Wealth Mgmt Products with 6-8-10% interest is virtually risk free in peoples minds, rare defaults are covered by state owned banks in most cases.
  6. The speed of property price increases has gone into warp speed in the larger cities. Shenzhen is up +120%, Shanghai +55%, Beijing +56% – the last 2 years.
  7. It used to be the case that Chinese people were diligent savers. Not so much anymore, younger Chinese are jumping on the borrowing band wagon and are willing to spend money they do not have, money is made so easily anyway and being an only child has meant being used to being spoiled by the older generation, which leads me to my last point.
  8. China as many other countries is going to face the wall of retirees and a reduction in the workforce, at the same time as the country is doing the difficult transition into a more serviced based economy.

All of the above and the speed of how quickly Chinese are making money in the last few years is telling me this is a train about to derail.

Portfolio Changes

Even if I did not have any doubts about the state of things over in China, my portfolio which should have a global focus has been over exposed to China. In terms of fairly pure China exposure I have the following to choose from: Ping An Insurance (8.9%), Coslight (+7.1%), BYD (6.5%), YY (6.2%), NetEase (5.1%), Shanghai Fosun Pharma (4.5%), XTEP (3.9%), CRRC (3.7%)

Ping An Insurance – sell full holding

Even if I did not have any doubts about the state of things over in China, my portfolio which should have a global focus has been over exposed to China. So today’s changes is one step towards balancing my portfolio and taking profit in Ping An Insurance which has been having a tremendous run over the last months where I’m netting a +50% gain since I invested about 1 year ago. The stock still does not look that expensive from a stand alone perspective and I really like how innovative they are with developing their e-sales channels and products. But the low valuation which I have patently waited for the market to re-evaluate, has to a large extent happened. It is somewhat reluctantly that I sell, but given the discussion above on China, I have to start somewhere. In Ping An I don’t see more than perhaps 10% potential upside in a shorter term perspective and it also quickly reduces my China exposure, being the largest holding. After this sell I still have roughly 30% of my portfolio with China exposure, I intend to bring it down below 20% during this year.

Two New Holdings – ISS and Huhtamäki

The main reason for writing so little over the last months is that I focused my time on researching a number of companies. Unfortunately most of them has fallen short as investments and a few have had such tremendous runs during the time I researched so the upside potential diminished while I was doing my DD. These two companies ideas I got initially from a friend and both fall in to the bucket of fairly solid, boring, slow and steady investments. Both I think are excellent long term investments, rather than bargains at current levels. I will write a longer write up of both companies at a later stage. A brief description of the companies:

ISS – Long 6%

Based in Denmark, The ISS Group is one of the world’s leading Facility services companies. ISS was originally short for International Service System and from 2001, for Integrated Service Solutions. Today, it is only used as an acronym. In 2005 ISS was acquired by Swedish PE firm EQT and Goldman Sachs, they paid about 22bn DKK at the time. During the EQT ownership the company expanded into Emerging Markets and number of employees grew from 274,000 to 511,000. In 2011 G4S made a failed attempt to acquire ISS for about 45bn DKK. In 2014 the company was again listed on the Copenhagen Exchange through an IPO at 160 DKK per share. The company had a shaky start with the overhang of EQT and Goldman who wanted out of their investment. In 2015 they divested their last shares, at the same time, the Kirk Kristiansen family, the owners of the Lego brand, increased their stake in the company. The company is today trading at 274 DKK per share and has a MCAP of about 51bn DKK.

The investment case is built around ISS solid track-record in the past and strong cash-flow generation, which has been used to pay down debt since the financial crisis 2008. That debt pay-down is more or less done and ISS can now focus either on further growth and/or increased payouts to shareholders. With ISS services in a fairly defensive sector I find the company reasonably valued, without paying too much of “Quality premium” as is the case in many other companies. Currently trading at P/E 22, and forward consensus P/E is 16.6.

Huhtamäki – Long 6%

Based in Finland, Huhtamäki is a global specialists in packaging for food and drink. Again a company with a long solid track-record, where growth has come from a combination of organic growth, joint ventures and acquisitions of smaller packaging companies around the world. The business model is de-centralized in the sense that the packaging production units are smaller units, around the world, whereas Huhtamäki has a number of larger customers contracts, that they serve in various markets.

After several years of very strong stock price performance, the company is lagging the market significantly over the last year. The main reason I have found for this, is slowing growth. But as I see it they keep investing for growth and the market has been looking at this company way too short term. Just now I’m ready to push the button to order some dinner from deliveroo, one of many take-away services. Which with better IT-platforms for delivery are still just in early days of a trend I believe will continue for a long time. Big city people cook less and less at home and consume more of all kinds of take-away food. I also like how fragmented the market is and with Huhtamäki’s long track record of delivering clean/safe food and drink containers, it becomes one of the main choices for all global players as Starbucks, McDonalds etc. It’s exactly these kind of tailwinds I like, and Huhtamäki is well positioned in this niche, and also valued “reasonably” at P/E of 19.

 

 

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