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AUGUST 4, 2000 VOL. 26 NO. 30 | SEARCH ASIAWEEK

'I Think it's the Real Thing'
The current rally in China plays may have legs

Peter Sartori is associate director for equities at asset-management firm CMG First State Singapore. His top picks include China Mobile, Cosco Pacific, China Shipping, PetroChina and Citic Pacific

Peter Sartori has seen investment crazes wax and wane in Hong Kong in the three years he lived there. Now based in Singapore, the Australian associate director for equities at CMG First State Singapore is watching the beginnings of yet another hot streak in red chips and H-shares, as mainland Chinese companies listed in Hong Kong are known. He tells Asiaweek's Cesar Bacani why he believes the rally may be for real this time around.


Mainland Chinese shares listed in Hong Kong are suddenly hot again.
We've seen short and sharp rallies every now and then in the last three years. It's always been a bit of a sucker's rally because [the red chips and H-shares] go back down to previous lows. What we've got to work out now is whether this is one of those rallies. I think it is the real thing. There's too much going on. The economy grew 8.2% in the first half. We think a minimum of 8% in the next one to three years is very doable, obviously driven by exports but also by local consumption. There is ongoing market reform, including strong hints of merging the Shenzhen and Shanghai stock exchanges. Going forward, you may see Shanghai-listed stocks coming into the Morgan Stanley Capital International indexes. In May, the weighting of China-related stocks [mostly listed in Hong Kong] went up from essentially under 1% to close to 10% in the Far East ex-Japan benchmark.

Another catalyst has been the reported merger of Huaneng Power and Shandong Power. This may be the first of many. Having said that, merging two bad companies does not necessarily make one good one. There are some question marks about the management of many red chips and H shares, and that's been totally justified since they've never really delivered good results or met expectations over the long term. You've got to be very careful about stock selection.

So which stocks do you like?
China Mobile is obviously a quality core holding. It is both an organic-growth story [given the rapid rise in mobile-phone usage in China] and an acquisition story. The company's purchase of several mobile-phone operators should be completed before year-end. China Mobile has good management and the balance sheet is strong. You can make a decent investment case for [the smaller telecom company] China Unicom as well. Most investors will decide to buy China Unicom depending on the discount to China Mobile. That ballpark discount is around 30%.

What about exporters?
The two companies we like best are Cosco Pacific, a port operator listed in Hong Kong, and China Shipping, which is also listed there. The other company that we like is PetroChina, which is growing earnings at 15% plus. Sure, the price of oil is an issue, but we think a total collapse in world oil prices is extremely unlikely. These three shares have obviously moved very strongly in the last week or so, but we still think they're a buy.

You mentioned domestic consumption as a driver of GDP growth.
We keep an eye on [consumer] stocks, but many of them do not meet our investment criteria of a strong balance sheet, management quality and superior earnings growth. For example, [refrigerator maker] Kelon just came out with a profit warning, so it's been a good thing not to have ridden it. Legend Computers has been one of our biggest holdings for a long time, but we took profits on it in March this year. We think management is fantastic, it's got strong earnings growth, and it is in an exciting growth industry, but it has become excessively valued.

A stock that we think looks interesting is Giordano, a Hong Kong company with a huge growth strategy in mainland China. It has 350 stores there and is targeting a thousand stores in the next three years. Giordano has a very good track record of opening stores in other parts of Asia, so that gives us a lot of confidence that they will do a good job in China.



What about the technology sector?
We are in Citic Pacific, part of whose business is fiber optics in China. We're not shying away from broadband companies, but the situation has not been sorted out. We used to own Pacific Century CyberWorks, but we got out because we thought it had become excessively valued. We are very interested to see how the merger with Cable & Wireless HKT goes. The dotcoms are a completely different story. The portal business model is under a lot of pressure at the moment globally and obviously in China. We think that business model doesn't really stack up.

All this optimism depends on continued GDP growth. What can spoil China's prospects?
The economy still has bad parts to it. State-owned enterprises are in particularly bad shape, which flows into the banking system. But we think that China is making good progress on reform; the upcoming accession to the World Trade Organization is obviously going to put that forward. The political risk, excluding what's going on with Taiwan, is not an issue for foreign investors at the moment. The government has got tighter control and everyone seems to be heading in the right direction. The Itics situation [several provincial international trust and investment corporations went bust last year] seems to be behind us, but you can never rule out more trouble. China is still very much an emerging market. There is a country risk that you place on top of everything.


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