If all you’ve been hearing regarding China recently is noise about its economic slowdown, you need to find a better news source.
Investors need to stop worrying over China’s long-expected gradual slowdown. Do so and you likely will see, as my guest today does, the long-term growth ahead for key tech sectors in the world’s most populous nation.
I’m talking about the kind of growth that will fill investors’ portfolios with soaring profits for years to come.
That’s one takeaway I gleaned from an in-depth conversation I just wrapped up with one of the tech investing world’s leading China experts. And he has plenty more evidence to debunk the “Chinese slowdown” story.
In other words, Kevin Carter is helping us “Separate the signals from the noise” – Rule No. 2 of Your Tech Wealth Blueprint.
He just returned from a trip to China, so now is the perfect time to hear what else he has to say…
Back From China
My guest today, Kevin Carter, runs the Emerging Markets Internet & Ecommerce ETF (NYSE: EMQQ). On his most recent overseas trip, he spent his time checking up on the health of China’s tech industry and economy.
Today, I want to share his thoughts on the profit potential that lies ahead for Chinese tech firms. The following is an edited transcript of our wide-ranging conversation.
Michael Robinson: Having just returned from China, can you give us your ground-level assessment of economic conditions there?
Kevin Carter: I’m just back from 10 days in four cities in China – Shanghai, Nanjing, Yangshuo and Beijing – and I’d have to say, quite strongly, I saw no signs of China “slowing down.” Domestic leisure travel, or tourism, is a prime example of consumption and China’s move toward a service economy.
One of the main things I observed was that all of the places I visited were more crowded than I had ever seen them. And, importantly, the crowds seem to be coming increasingly from second- and third-tier cities. Their increasing presence is an indicator that domestic tourism continues to grow rapidly.
Another observation is the spread of the smartphone. As I awaited my delayed flight from Yangshuo to Beijing, I noticed that nearly everyone waiting with me was on a smartphone. From my count, at least 70% of the people were on their smartphones.
I also experienced firsthand how app-based business models, like Airbnb and Lyft, are spreading in China just as they are here in the United States.
I was the first person waiting for a taxi in the cue at the Grand Hyatt Beijing one night. Three times a cab turned into the circle only to be quickly taken by people that held up their phones and said “Didi Dache.” When I expressed my dismay that they were “taking my cab,” I was informed that Didi Dache is “the Uber of China.”
MR: A lot of U.S. investors are worried that China’s growth could be slowing dramatically in the next few quarters. Are these fears on target or misplaced?
KC: I think people worry too much about a slowdown in China’s growth. China’s growth rate has declined and is going to continue to decline for a long time. But this isn’t news.
Nearly all experts agreed that it would slow down, as the 10%-plus growth rate was simply unsustainable. It was one of the only things I can remember everybody getting right. So, the growth has slowed from over 10% to now about 7%.
The Chinese government has both called for this to happen and helped to make it happen. I think the current growth target of about 7% is achievable for the foreseeable future. Eventually, it will slow to 6%, then 5% and so on.
But here’s what everyone’s missing. Since the economy is so much bigger today than it was 10 years ago, the absolute amount of growth is greater, because the base is now two or three times larger.
MR: And what about China’s central bankers, do they seem committed to growth?
KC: The Chinese government is clearly committed to growth. However, they have recently taken a somewhat stronger stance that the quality of growth is as or more important than growth itself. The Chinese government has been aggressive in trying to curb the climb in housing prices while not destabilizing the real-estate sector completely.
Heretofore, they have been seemingly effective, but this is still in the early stages, and risks are clearly heightened in the real-estate and finance sectors. The government has also been serious in their crackdown on corruption while acknowledging that those efforts may also weigh on near-term growth.
MR: How is the “tech industry” doing in China overall, and what are some of the breakout sectors?
KC: In short, e-commerce is booming in China. The wave of consumerism in China is going online. Increased access to high-speed Internet connections and falling smartphone prices are leading to a profound shift from traditional consumption, i.e., at the mall, toward e-commerce.
In fact, the China Chain Store & Franchise Association just released figures indicating that traditional brick-and-mortar retail had a decline in both employees and locations in 2014. Last month, Beijing’s nearly 20-year-old Buynow (Bainaohui) electronics market closed after seeing visitor numbers decline by nearly 80% over the past decade.
One analyst recently described the brick-and-mortar retail situation in China as a “recession.” Meanwhile, the same report indicated that China’s online retail market had grown by 100% in 2014. The smartphone market that is helping to fuel this growth also is showing tremendous growth.
MR: We hear a lot about what a huge market China represents for mobile. How big is that market, and what are some of the factors driving it?
KC: It surely is a huge opportunity, and it’s happening and it’s early. You have to remember that most Chinese don’t have high-speed broadband coming to their homes via coaxial cable – and never will. They also don’t have desktop computers to the extent that we do.
What this means is that the smartphone connected to wireless broadband is their first and only access. They are “leapfrogging” the desktop PC model if you will.
The factors driving online and mobile behaviors in emerging markets are the same as in the U.S. App-based business models are changing China the way they are changing the U.S., but whereas mobile is a substitute for desktop in the U.S., it’s the only way for many in China and other emerging markets.
Chinese smartphone maker Xiaomi, which is focused on entry-level devices, reported 60 million units shipped in 2014 — almost all of them sold online. Xiaomi overtook Samsung to claim No. 1 share of China’s smartphone market in 2014. Not bad for a company founded less than five years ago.
MR: Of course, EMQQ is not just focused on China but on emerging markets in general. Why should U.S. investors have exposure to this area?
KC: You’re right. The EMQQ index includes companies from India, Brazil, South Africa and other emerging markets. But China is the largest weight. China is the biggest and most advanced emerging market from the standpoint of both consumerism and e-commerce.
However, the same foundational ingredients are in place in most of the developing world. There are over 1 billion consumers coming online in India, Indonesia, Africa and the rest of the developing world. These markets also lack traditional consumption infrastructure and have fragmented retail distribution.
They’re getting mobile broadband Internet access and cheap, powerful “pocket-sized supercomputers” for the first time. As these powerful trends continue, so too will the growth of e-commerce in these markets.
And the numbers are frankly hard to ignore. The combined total revenue for the 44 companies in the EMQQ index grew by over 39% in 2014 after averaging 41.5% for the previous five years
MR: I’m sure a lot of readers would like to know more about your selection process for EMQQ. Tell us how you pick the stocks that go into the portfolio.
KC: EMQQ uses a traditional rules-based index. Any and all publicly traded Internet and e-commerce companies that get the majority of their revenue from emerging markets are eligible for inclusion in the index if they meet certain size and liquidity thresholds.
The index is reconstituted and rebalanced semiannually. Today there are 44 companies in the index. The index utilizes a market-capitalization weighting system that is modified to limit the largest position to 8% and ensure diversification.
MR: How should investors look at EMQQ? Is this set up for big short-term gains, or is this more of a long-term play where you can average in over time?
KC: EMQQ is for long-term investors. Nobody should invest in emerging markets who doesn’t have a long-term perspective. By many accounts, the growth of the emerging-markets consumer is going to be quite robust for at least the next 10 years.
I think EMQQ provides investors with a way to get exposure to this long-term growth story in a way that captures the generational changes in consumption patterns. Or, more simply, it’s the emerging-markets consumer meets the smartphone.
MR: Thanks, Kevin. I hope we get a chance to talk again soon. I’ll see the rest of you next week.
P.S. I encourage you to “Like” and “Follow” me at Facebook and Twitter. There you’ll find communities of friends, colleagues and readers who are eager to make big money in tech stocks not in some future time… but right now – today.
[Correction: Due to an editor’s error, in Michael’s April 21 report we incorrectly reported that Michael had tried out an Apple Watch at an Apple Store before placing his order. We regret the error.]
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