Unchecked A-share buyers are pushing prices higher in a manner reminiscent of Hong Kong's 2007 crash and investors need to scout for better value stocks.
That is the view of Arthur Kwong, head of Asia Pacific equities at BNP Paribas Investment Partners.
Kwong told Citywire Global the prospect of A-shares' inclusion in MSCI global benchmark indexes has caused bullish investors to resort to extreme measures to buy stocks.
‘I see a repeat of what happened during the market collapse in Hong Kong in 2007 when the margins landing was there rather than China. Investors were buying accumulators to hedge their core options in Hong Kong and using this as leverage.'
'Now this is happening in China,' he said. ‘Many buyers are over-leveraging at four times their income level to buy stocks,' Kwong added.
He is not optimistic this issue will be resolved anytime soon, he said: ‘Li Keqiang has recently announced a crackdown on securities funds but this takes time.’
Although Kwong said A-shares are not yet in a bubble, he is steering clear of them due to their unattractive valuation. ‘I would rather buy the same shares in Hong Kong as they are cheaper, sometimes by 50%.’
Being driven by a bottom-up approach, Kwong said, unlike many speculative investors, he does not intend to buy with a view to selling off on good news. However, he acknowledged the inclusion of A-shares will have a sizeable impact on the role of H-shares and other Asian markets in the international arena.
‘The share of H-shares in the global MSCI benchmark will be significantly reduced by 7% to 18%. Korea, Taiwan, everyone will lose. In the Global JAM index, India’s share will drop to just 5%,' he said.
Japan's golden housing market
One of the key exceptions in Asia is Japan, on which Kwong is bullish, citing its capital weight spread of 3.5% as the most attractive in Asia. For Kwong, Japan's physical housing market is one of the safest investment bets in the continent.
‘Property prices are going up but the average GDP ratio is only 4 or 5 times in Japan, compared to 22 times in Hong Kong,' he said. ‘In tier 1 cities such as Tokyo, average rental yields are 9 to 12%; this is unheard of.’
Japan is also positive on exporting industries that will thrive on the weak yen, currently priced at 1.25%. He said Japan is a world leader in medical device manufacturing and will continue to meet high overseas demand going forward.
In contrast to popular consensus however, he maintains a ‘neutral’ stance on Japanese automotives, since it lags behind other countries in terms of specialist methods.
Undervalued internet players
Despite Kwong’s wariness of the expensive A-shares valuations, he is bullish on several sectors in China, in particular the standout internet industry.
‘The internet sector is undervalued in China and offers much better value than even five years ago. There is now a window of opportunity that will only last two-to-three years.’
He is confident buying both mid-caps and large-caps, ranging from online recruitment companies to mobile gaming apps. In particular, he looks for companies with attractive acquisition value for larger diversified companies.
Kwong named companies such as Baidu, Alibiba and Tencent, which are actively seeking takeover opportunities. He cited one Chinese ADR whose earnings have more than justified its valuation of 20 times its price-earnings.
‘Consider that for these companies their only cost is marketing. The only sector that I am more sceptical towards is online shopping.’ Kwong's bullish outlook is reflected in the Parvest Equity Best Selection Asia ex Japan fund's allocation of 23.17% to IT, which is a 1.7 percentage point versus the index.
The Asia ex Japan fund returned 56% in US dollar terms over the three years to the end of May 2015. This is while its Citywire-assigned benchmark, the MSCI AC Asia ex Japan TR USD, rose 41.8% over the same period.