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7 China stocks buffered from trade tensions

Lex Hall  |  06 Aug 2018Text size  Decrease  Increase  |  
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A rise in trade tensions and recent falls in Chinese and Hong Kong indexes has raised buying opportunities, say Morningstar analysts, who have added Hang Lung Properties and MGM China to their list of companies to watch.

The escalation of the trade war during the second quarter has led to falls of 10 per cent and 6 per cent in the Shanghai Composite and Hang Seng indexes, respectively, for the quarter ended June 30, note Morningstar sector strategist Stephen Ellis and equity analyst Preston Caldwell.

"Although tail risks have risen, our base-case view remains that the impact from the trade war will be more measured and some negotiated compromise is more likely," Ellis and Caldwell say in their second quarter update.

"Nonetheless, our preference remains for companies that we believe are relatively buffered from the risk of the escalating trade war and which we see as being relatively undervalued." 

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Ellis and Caldwell have identified seven stocks that show promise in relation to exposure to China's economic drivers and sector developments.

They have removed two names from the first-quarter list: Beijing Capital International Airport and Great Wall Motor. In there place are Hang Lung Properties and MGM China.

Retail sales set to propel Hang Lung Properties

Starting in late 1990s, Hang Lung Properties pursued a strategy of fully pivoting from Hong Kong residential development to Chinese commercial assets. Hang Lung has developed two commercial projects in Shanghai. Since opening in the early 2000s, both saw strong growth over the next decade and a half, averaging 25 per cent annual growth in retail sales and rental income. The company redeployed proceeds from two large successful Hong Kong residential projects and several share placements in the early 2000s, into several large prime commercial land plots in Tier 2 cities from 2005 to 2013. We believe the company's assets in Tier 2 cities have a strong probability of developing into premier retail destinations in their respective cities, given the company's early acquisition of centrally located large land plots and its proven ability as a retail asset manager. As such, these assets are likely to deliver growth in retail sales and rental incomes over the next three to four leasing cycles on par with the assets in Shanghai. Hang Lung carries a Morningstar five-star rating. It is trading at HKD16.36, a 32 per cent discount to its fair value estimate of HKD24.

Beijing Enterprises Holdings: monopoly with strong cash flow

BEH's key strength is its high-quality well-located gas network with monopoly operations, providing the company with sustainable and robust cash inflows. It has a monopoly position in Beijing's natural gas distribution, owns unparalleled gas transmission and distribution networks in Beijing, and controls 40 per cent of the Shaanxi-Beijing pipelines, the major source of natural gas supply for Beijing and northern China. We see BEH as a good value, trading at a forward price/earnings ratio of 7 times with 7 per cent annual earnings per share growth forecast over the next five years. BEH carries a five-star Morningstar rating, and is trading at HKD36.80, a 36 per cent discount to its fair value estimate of HKD58.

Demand for data to drive China Mobile

We expect narrow-moat China Mobile to generate underlying earnings per share growth in the high-single digits annually over the next five years, putting it toward the upper end of Asia-Pacific telecom companies in terms of growth. We expect China Mobile's market share gains in fixed-line broadband and strong underlying demand for data services on both its fixed and mobile networks to drive this growth. A potential re-rating of the value of its stake in the tower company when it lists could add to China Mobile's value. China Mobile is trading at a price/earnings ratio of less than 11 times, lower than multiples for most of the past five years. China Mobile carries a five-star Morningstar rating, and is trading at HKD69.85, a 31 per cent discount to its fair value estimate of HKD102.

Tencent Holdings: wide moat growth engine

We think Tencent has numerous growth opportunities behind our forecast 10-year revenue compound annual growth rate of 34 per cent and our adjusted operating profit CAGR of 25 per cent. Its two social networking platforms, Weixin/WeChat and QQ, have monthly active user bases exceeding 1 billion and 783 million users, respectively, and it monetises these user bases through selling in-game items, virtual items, premium service subscriptions, online advertising, payments, financial products, and others. Its wide network effect moat continues to strengthen as it adds new services and its customers spend more time on its services. According to Statista, about one third of WeChat users use the app for longer than four hours per day. Tencent carries a five-star Morningstar rating, and is trading at HKD354.60, a 44 per cent discount to its fair value estimate of HKD641.

Guangshen Railway on long-term rails

We remain optimistic on Guangshen's long-term investment value, supported by China's high-speed network expansion and the industry's reforms. We also expect concrete actions to be taken over the next 12−24 months, including a one-off 25 per cent tariff hike on conventional passenger lines, further progress in railway land development and utilisation, railway asset securitisation, and further deregulation in the sector. We expect these to boost Guangshen's profitability and returns over the next five years, and we forecast the company's net income to grow at a decent 16 per cent during 2017−20, with return on invested capital improving to 9.2 per cent in 2021 from 4.6 per cent in 2016. Guangshen Railway carries a four-star Morningstar rating, and is trading at HKD3.95, a 41 per cent discount to its fair value estimate of HKD6.80.

Gaming demand a boost for MGM China Holdings

As one of six casino licence holders in Macau, MGM China benefits from the Chinese people's strong demand for gaming, underpinned by our forecast of a more-than 10 per cent rise in per capita disposable income in China from 2015 to 2020. Macau has a penetration rate of less than 2 per cent, compared with Las Vegas' 12 per cent. Previously, MGM China only had one casino resort with 427 gaming tables and 600 rooms in the Macau Peninsula. Its new casino complex MGM Cotai opened in February in Cotai, where a critical mass of casino resorts is taking market share from casinos in the peninsula. Given MGM China's strong track record in maintaining market share in the peninsula despite the opening of Galaxy Macau and Sands Cotai Central in Cotai, we believe a foothold in Cotai will give MGM China an even stronger market position. MGM China carries a four-star Morningstar rating, and is trading at HKD16.10, a 32 per cent discount to its fair value estimate of HKD24.

Ping An Insurance: fast-growing customer base

Ping An differentiates itself from peers with its technological focus and conglomerate business model, which includes insurance, banking, securities, trust, and other businesses, such as wealth management and technology. This facilitates rising cross-sales of financial services to its fast-growing customer base, provides savings in terms of customer acquisitions, and drives better credit and insurance decisions. Ping An now boasts one of the largest retail customer bases in China's financial industry, with 376 million Internet users and 137 million financial customers, delivering an enviable 13 per cent compound average growth rate in financial customers over the past four years. Ping An carries a four-star Morningstar rating, and is trading at HKD72.35, a 28 per cent discount to its fair value estimate of HKD100.

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Lex Hall is a Morningstar content editor, based in Sydney.

© 2018 Morningstar, Inc. All rights reserved. Neither Morningstar, its affiliates, nor the content providers guarantee the data or content contained herein to be accurate, complete or timely nor will they have any liability for its use or distribution. This information is to be used for personal, non-commercial purposes only. No reproduction is permitted without the prior written consent of Morningstar. Any general advice or 'class service' have been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), or its Authorised Representatives, and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. Please refer to our Financial Services Guide (FSG) for more information at www.morningstar.com.au/s/fsg.pdf. Our publications, ratings and products should be viewed as an additional investment resource, not as your sole source of information. Past performance does not necessarily indicate a financial product's future performance. To obtain advice tailored to your situation, contact a licensed financial adviser. Some material is copyright and published under licence from ASX Operations Pty Ltd ACN 004 523 782 ("ASXO"). The article is current as at date of publication.

is content editor for Morningstar Australia

© 2021 Morningstar, Inc. All rights reserved. Neither Morningstar, its affiliates, nor the content providers guarantee the data or content contained herein to be accurate, complete or timely nor will they have any liability for its use or distribution. This information is to be used for personal, non-commercial purposes only. No reproduction is permitted without the prior written consent of Morningstar. Any general advice or 'class service' have been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), or its Authorised Representatives, and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. Please refer to our Financial Services Guide (FSG) for more information at www.morningstar.com.au/s/fsg.pdf. Our publications, ratings and products should be viewed as an additional investment resource, not as your sole source of information. Past performance does not necessarily indicate a financial product's future performance. To obtain advice tailored to your situation, contact a licensed financial adviser. Some material is copyright and published under licence from ASX Operations Pty Ltd ACN 004 523 782. The article is current as at date of publication.

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