March 4, 2013 - Is it Time to Invest in China?
If you have walked into a store in the last decade, you may have noticed all the stuff that is made in China. It seems foreign goods are everywhere. From the latest gadgets like iPhone to electronics, collectable figurines and clothes, much of this is manufactured overseas, and a good portion of it comes from China.
For every one American there are four Chinese people, and the Chinese culture is highly literate, ready to work hard and willing to follow directions to get things done. Unless you have been lost amid thousands of Chinese people, it can be hard to fully appreciate all the human resources China has. A small taste of this was shown in the 2008 Olympics a few years ago as thousands upon thousands of Chinese performed in sync one with another. The show was great, a small demonstration of what China could do when it puts its best economic foot forward. It came as no surprise when, a few years ago, China passed Japan as the world's second biggest economy.
China's growth really has been great. For many years, people have been suspicious of the numbers coming out of China, but it is clear that the growth is phenomenal. Chinese GDP has been growing from 7 to 14% annually for the last 20 years, during which America's GDP has grown at a rate closer to 3-4% annually. By projecting a 10% annual growth rate for China and a 4% annual growth rate for the USA, one sees that it will be only 13 years before China overtakes America as the world's biggest economy. The actual growth rates for both the US and China are always changing, and calculations on which economy is greater depend heavily on the exchange rate?a rate which is currently being manipulated (lower) by the Chinese.
As with all countries, there are risks in China. Some economists are expecting a housing bubble, and the political pressure on companies to meet certain targets can be greater than in the US. The political situation is significantly different as it is a communist country, and the currency manipulation may not be able to go on forever. If the Chinese currency manipulation ends, the Yuan will appreciate against the dollar, exports from China become more expensive on the world market and China's growth could slow.
Investors in America may want to be part of the Chinese growth story and it is easier than they think. Some Chinese stocks trade on US exchanges as ADRs, making it easy for Americans to buy and sell them. One stock that caught our attention is Guangshen Railways (GSH).
Guangshen Railway Company operates 231 passenger trains with its 33,000 employees, providing passenger and freight service in the Guangzhou and Shenzhen areas of China, areas known for the production of large amounts of Chinese goods for export. Many major international manufactures and assembly plants are located in the Shenzhen region of China, and Guangshen trains serve their employees, as well as bringing in raw materials and transporting out products to nearby ports from which they are shipped all over the world. The company also operates the only train tunnel linking Hong Kong with mainland China and operates in. Analysts expect revenues to rise 4% in 2013, and the company has been strategically streamlining operations to more effectively transport freight and goods. Passenger service is 55% of revenues; freight is 9% while network usage and other services are 36%. In 2011, 90 million trips were taken on the company's trains.
The company faces competition from companies with newer high-speed trains, as well as buses and personal vehicles. Most people in China still have a limited amount of money, so they do not have cars and cannot afford to fly. Lacking any equivalent of the U.S.'s interstate system, China's road network is limited and overwhelmed. Given the high population density of eastern China, passenger trains with frequent service make economic sense, just as they did in America before the advent of the automobile. While it is possible that in the long-term Chinese trains could lose out to automobiles, it is more likely that highly populated China will follow the path of Japan and keep the trains.
GSH is trading near $23 a share. The July 22.50 covered call at 21.45 net debit has a 5% simple return and a 12% annualized return. The trade has 5% of downside protection and the stock pays a 3% annual dividend yield. As you enter your order, don't be afraid to split the bid-ask spread, pushing for the best price possible at entry. A good portion of the Chinese goods you see may have come to you over the rails of GSH and been made by employees who got to work riding trains managed by the Guangshen Railway Company.
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