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The cup runneth over
HOME > PAST ISSUE > MARKETS > Red Dragon FundJanuary 2007
Shanghai's on a roll, and so is the Red Dragon Fund
Riding on a wave of positive sentiment over the course of November and December, the Shanghai Composite Index crashed through the 2,000 mark with such confidence, it seemed only a matter of time before it set a new all-time high.
The red-letter day turned out to be December 14 as the index closed at 2,249.11, beating the 2,242.43 posted in June 2001.
We at the Red Dragon Fund sink our money into A-shares with a friendly broker whispering in our ear that there are really only a handful of companies worth buying on the Shanghai bourse. Pre-December, we nodded knowingly as analysts talked of the "two and eight" phenomenon - that the market is driven by 20% of the stocks rising while the remaining 80% hold steady or perhaps decline.
This 20% comprises the big blue chips - Sinopec 600028, Bank of China 601988, Industrial and Commercial Bank of China 601398 and China Unicom 600050 - that we are more familiar with. But the start of December saw a reversal of this trend with 80% of stocks making solid upward progress while 20% put in a flatter performance.
It didn't take much digging to find out why. Buoyed by a positive market outlook, the big investors had been buying into second-line blue chips in sectors such as machinery, chemicals, real estate and autos/auto parts.
Looking forward
The big question is: how long will the good vibes last? Those in the know are keen to talk up the market prospects, pointing to how past bull runs have come unstuck due to government interference, poor-quality companies and illegal activity. Not so this time. Reform is rife among the A-shares, notably the non-tradable state-owned share conversion program.
The last month has indeed been good for our stock picks. Baosteel 600019 gained close to 19% as it shot up to 7.60, while Yili 600887 went to 22.60, posting an 18% gain. But it was Huaxia Bank 600015 that led the way as a 24%-plus increase saw it finish at 6.80.
Add in expected profit increases at listed firms of 15-20% in 2007, the fact that A-shares are undervalued against their H-share equivalents and the first decline in urban household bank deposits in years as retail investors turn to the stock markets, and there is cause to be positive going into 2007.
Short-term worries
However, while we can't argue with the optimists in the long term, we are concerned about short-term fluctuations in prices that are on the high side. We don't want to be the ones crying into a can of Reeb on the curbside, the widows and orphans weighing on our conscience.
So we'll hang on to the solid blue chips Baosteel and Yili 600887 (up 18% to 22.60), but farewell to Huaxia Bank.
It may have led the way for us over the last month but we'll take our money and run. It's a second-tier lender and we heard a whisper about low earnings prospects in the long term - with recent listings by the big beasts of the banking world, and more set to add a Shanghai presence to their existing Hong Kong ones, Huaxia may well suffer by comparison.
As for what to buy, it's about time we turned to the rust-belt. Daqin Railway 600887 raised nearly US$2 billion in its July IPO and, coal being the black blood that courses through China's arteries, grabbing a slice of a company that carries the stuff from the mining heartland of Shanxi province to the country's eastern regions seems like a wise move.
Coal may be Mr Unpalatable under China's eco-friendly laws but, even if 20% of power does come from renewable sources by 2020, as is Beijing's wish, the national energy appetite means coal consumption will still go up.
And with the government looking to spend big on transport infrastructure in 2007, Daqin is one hard-seat ticket we don't mind buying.
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