China Equity FVMR Snapshot
Fundamentals: China expensive relative to global market
Remember that FVMR stands for fundamentals, valuation, momentum and risk. Those are the factors that I like to look at.
The first thing we can see is that the ROE of China is about 10% to 11% versus the world, which is at 13% ─ a slightly lower ROE.
What I’m going to look at next is the PE. The PE of the world is about 16x and China’s is about 20x. This shows that China is actually pretty expensive relative to the world without any premium for ROE.
In addition, what we can see is that you’re paying 21x for analysts’ forecast of about 1.8% growth.
Remember, this is an aggregation of 1,884 Chinese companies, so these are China A-shares.
It’s possible that you will not be able to invest in many of these companies, however, because most people can invest in China only through China H-shares. China H-shares are represented here, but this is mainly China A-shares.
Valuation: Financials weighing down rest of market
What we also want to look at is that EPS is coming back at 19%. So you’re going to pay 17x for 2018 earnings, and they’re going to be growing at 19x according to analysts, though analysts tend to be overly optimistic.
If the market is trading at 21x, what I want to draw your attention to is down to the bottom. And what you can see is that in fact the market isn’t trading at 21x, it might be 33x.
What do I mean by this?
The banking sector in China has a PE of between 10x to 13x, and it accounts for about 30% of the overall market. Therefore, when we back out these financials, which tend to be cheap, what we see is that the Chinese market is trading at about 33x for about a 14% growth rate.
So China is a bit expensive but ─ wait a minute ─ look at that! Analysts forecast almost 40% growth in earnings for 2018!
Momentum: Expectations are high
Let’s say that analysts are overly optimistic by 50%. We’re still talking about a 20% growth rate. So maybe it’s worth it to pay a 20x to 30x PE for non-financial companies in order to get close to a 20% to 40% growth rate.
Now we can see that every single sector here has positive growth expectations. Again, analysts tend to be optimistic. But China is indeed growing relatively fast compared to the rest of the world.
In fact, we can see that consumer staple companies are pretty cheap at about 15x ─ not bad.
And we can see that telecoms are facing a difficult situation in which they have a really low negative EPS, therefore, that PE probably doesn’t make sense.
So it’s better, in this case, for telecoms to look at the price-to-book, since that’s an accumulative number. It’s currently 2.8x price-to-book, which isn’t that expensive.
What we can see is that with the consumer staples sector, you’re paying about 15x for an ROE of about 15% and EPS growth of 17% to 18%.
That looks pretty nice. And those companies in the consumer staples business are cash rich.
What we can also see is the share price performance has been good. But, still, valuation is not bad. So consumer staples is a good place to look within China, because a lot of China can be expensive.
It’s hard to get the exact data on this, but for the past 12 months, the gearing in China is slightly lower. But if we look at 2015, it’s slightly higher.
This is a difficult number to interpret. But I would say that, at this point, China’s gearing is not out of control.
Of course, that’s a whole different story compared to the amount of debt that the government has. But the main thing I would highlight here is that companies are not overextended in their debt, at least, for these listed companies.
Next, what I want to show you is the volatility.
Volatility: Relatively low among utilities, financials
What we can see is that the volatility is lowest here in the utility sector, which makes sense. We can also see low volatility here in the financials right now.
The highest volatility is coming from the telecoms, where we saw a lot of volatility in the earnings. Otherwise, we can also see that the highest volatility is coming from materials, which is recovering.
We can see an earnings recovery here in the materials sector, and materials is then trading at a higher price-to-book.
So that gives you a breakdown on China. What I would say is that China is trading at about 20x PE or, let’s say, 21x in 2017. But if we exclude banks, that’s about 30x.
But keep in mind that if we look at the growth for China in 2018, it’s about 19% and 2018-ex. banks is about 40%.
So the growth is still there in China. If you’re domestically in China, the market still looks attractive. Outside of China, you’re going to have to invest in China A-shares, which are mainly financials and which tend to be pretty cheap at this point.
There you go! That’s the China Equity FVMR Snapshot.
If you want to look at your country or if you have a question, just leave it in the comments below.
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