Guinness Atkinson Funds: Asia Brief

Guinness Atkinson Asia Brief

October 2004
Edmund Harris
Fund Manager Asia Focus Fund, China & Hong Kong Fund

In the past three months Asian markets have moved back into positive territory and are now above the levels they achieved after their strong run in 2003. We think that the remaining three months of the year should see further gains.

China

The markets have now come to accept that the reduction in economic growth from what was an unsustainable rate, unofficially estimated at above 11%, has been achieved with minimal disruption. Industrial output, lending growth and money supply have all come down gradually to levels where the Central Bank is comfortable. Inflation has not raced out of control. It stands at 5.3% and has been pushed up by higher food prices which are now coming down. Core inflation has hardly changed from 1%.

China’s efforts to slow the economy have been based on three pillars: relatively tight liquidity policies to restrain bank lending, “guidance” to banks telling them not to lend to aggressively watching the composition of lending, and finally administrative restrictions barring lending to certain sectors. We do not expect to see any easing of these measures; although there may well be some moderation in the guidance to banks to encourage lending to productive enterprises.

The good news for investors is that the most profitable sectors of the economy, being domestic consumption spending and manufacturing for export, have been unaffected by government policy measures. This growing realization has put stock prices back on an upward trend.

Hong Kong

The economy has been recovering steadily this year as the benefits of increased trade activity and rising numbers of tourists have spilled over into areas such as retail sales and real estate values. Price inflation has now reappeared having fallen steadily since November 1998. The growth in China’s exports has meant greater activity through Hong Kong’s port and the resultant activity in ancillary trade services has boosted job creation. The unemployment rate of 6.8% is now back down to the level last seen in February 2002 and it is still falling.

Tourist arrivals are up sharply with over 12 million visitors in the first seven months of this year. This compares with an average number of 8 million in the January to July period for the past 3 years. Equally notable is the fact that most of the increase is from Mainland China. Chinese visitors spend on average US$770 per visit which is more than visitors from wealthier developed nations.

Korea

The Korean stock market has had a difficult year as for the first time in many years, strong export growth has failed to translate into a stronger domestic economy. Export growth has started to slow and this trend is expected to continue as demand from the US drops away leaving the domestic economy exposed. Policy from both the central bank and the government is starting reflect this. Interest rates have been cut and so too have tax rates. A public works program also looks likely.

The need for a concentrated effort is due to a combination of factors that are dragging down business and consumer confidence. Job uncertainty and weak wage growth combined with household deleveraging has put a cap on consumer spending. This has also weakened business confidence and they also have to cope with rising costs. Many companies have been relocating operations overseas, particularly to China.

Nevertheless, the stock market is cheap and government moves to attempt to reflate the economy have created a positive environment for stocks. We therefore expect to see improved returns from the market in the next few months.

Summary & Conclusions

The China theme is the strongest and most durable in Asia. The rise in consumer spending has reduced the impact of slower investment spending and makes the prospect of a crash look much less likely. If this rise is sustained it will provide major boost to Chinese producers who have had little pricing power and had their margins squeezed by higher raw material costs. The authorities are now more confident that their efforts are working and this too is a major shift compared to comments coming out earlier this year.

Stock markets across the region do not look expensive and the environment for stocks is looking more favourable after a six-month period plagued by uncertainty. The oil price does remain a significant and volatile variable. However, unless oil prices remain above US$45 per barrel for a number of quarters we do not expect them to materially drag down Asian growth.

The Guinness Atkinson Funds invest in foreign securities which will involve greater volatility, political, economic and currency risks and differences in accounting methods. The Funds are non-diversified meaning they concentrate their assets in fewer holdings than diversified funds. Therefore, these Funds are more exposed to individual stock volatility than diversified funds.

This information is authorized for use when preceded or accompanied by a prospectus for the Guinness Atkinson Funds. The prospectus contains more complete information, including risks, fees and expenses related to an ongoing investment in the Funds. Please read the prospectus carefully before investing. Mutual fund investing involves risk and loss of principal is possible.

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