Fidelity's Nicholls still confident on long-term China prospects

However, Dale Nicholls, manager of Fidelity China Special Situations (FCSS), says that he can still find attractive investment opportunities in China.

He admits that “things are very unclear” and it is not yet possible to know what the impact of the virus will be. But he adds that if this virus plays out in the same way as the Severe Acute Respiratory Syndrome (Sars) epidemic in 2003, it “will not have a huge impact” and the rate at which China can mobilise resources to contain the virus is “impressive”.

However, he notes that the wet markets of China mean  there is a risk of other viruses forming, while the sheer number of people in the country adds to the challenge. He is considering buying put options – contracts that enable you to sell a specified amount of a security at a pre-determined price within a specified time frame – on certain holdings in case they fall by a large amount.

In China, travel companies and luxury goods brands are likely to be impacted by the virus. Mr Nicholls’ largest travel-related holding is Trip.com (US:TCOM), which also faces challenges because of its exposure to Hong Kong. But Mr Nicholls thinks that the online travel agent is a “very strong long-term story” because the middle class in China, which is increasing, is looking to travel more. The company owns Skyscanner, is listed on the US Nasdaq market and has a strong international presence. 

Another holding likely to feel the effects of coronavirus and be impacted by unrest in Hong Kong is Luk Fook (HK:590), one of Hong Kong’s largest jewellery companies. But Mr Nicholls argues that its valuation is attractive and it does half of its business in China where it is “growing nicely”. In Hong Kong, Luk Fook's managers are asking for 40 to 50 per cent reductions in rental prices, which Mr Nicholls expects that they will achieve in some cases, leaving more scope for profitability if the Hong Kong market picks up. “Luk Fook [is a] potential opportunity when you can buy it at that sort of valuation,” he adds.

Although Chinese gross domestic product (GDP) growth has been slowing and exports have been curtailed by the trade war with the US, Mr Nicholls says that the “core theme” he is betting on is consumption and the rise of the affluent middle class. “We are seeing more aspirational spending [so] that's the thing to be betting on in China,” he explains. China MeiDong Auto (1268:HKG), a car dealer that sells brands such as Porsche and BMW in third and fourth tier [smaller] cities, is another example of a holding that has benefited from a rise in spending on upmarket products. 

The investment trust has a bias to mid-sized and smaller companies across China that Mr Nicholls thinks have long-term growth potential. He says that by focusing on these he can “ideally” identify mispriced stocks that move to fair value over time. And although smaller companies have lagged larger ones in China in recent years, the “opening up” of markets in China should help the prospects for smaller companies, as more information becomes available to investors. 

The trust also has about 5 per cent of its assets in unquoted companies, and Mr Nicholls expects this to increase over the course of the year. He says that the closed-end structure of the trust is “a real positive” when it comes to holding these kinds of assets as liquidity is less of an issue. “I can say this as someone who also manages open-ended structures,” he adds.