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How to Profit from China's Consumer Boom Throttling Up GDP Growth

Economics / China Economy Nov 09, 2010 - 06:38 AM GMT

By: Money_Morning

Economics

Best Financial Markets Analysis ArticleKeith Fitz-Gerald writes: BEIJING, People's Republic of China – There's something inherently satisfying about waking up on a clear, crisp fall day in this bustling capital city, and seeing this headline atop the lead story in this morning's China Daily newspaper:

"World Bank Sees Change in Growth Pattern"


In essence, the World Bank has finally acknowledged what we've been telling you for several years – that China's accelerating domestic growth is already reducing its once-almost-total reliance on exports.

This is an important validation of our investment strategies and of China's newest economic policies. Investors who see and understand these developments can expect to enjoy some significant long-term successes.

A Strategic Shift
I've spent the better part of the last two decades watching, traveling through, and even living in different parts of Asia, which means I've had a ringside seat for China's economic makeover.
This Asian giant has undertaken a huge economic development plan aimed at modernizing the country's roads, water-and-sewer systems, and power-generation capabilities – just to list a few examples.

At the same time, however, Beijing has done a lot to spur domestic demand in an economy that has traditionally lived and died with the global export market. By boosting domestic consumption from consumers and companies, China's leaders have shifted the country's reliance away from having to rely too much on the economic policies of other countries.

That trend will continue – which is really fortuitous, given the big slowdown in global exports that we're expecting next year (something the World Bank is now apparently focused on, too, according to the newspaper headline we just mentioned).

Indeed, China's latest five-year plan, officially referred to as the Proposed 12th Five Year Plan covering 2011-2015 places an emphasis on "economic rebalancing," which is how the government refers to this shift in focus from external growth to more-sustainable internally driven economic growth.

The plan includes the acceleration of such non-export-driven sectors as healthcare, education, and services, while folding in such overlying macro concepts as urbanization. Urbanization, in case you are not familiar with the term as I've defined it here at Money Morning, is the mass migration of 500 million people into China's top-tier cities within the next 10 years.

That sounds like a long time, which is why many investors will be tempted to blow it off. After all, China was once only the fourth-largest economy in the world. Then it was the third. Now it's the second. And still, I'm amazed people tend to think China's ascendancy will happen "some day."

It's happening right now.

A Picture of Growth
To get a better understanding of what's taking place in China, let's take a peek at China's trade surplus as a ratio of its gross domestic product (Trade Surplus/GDP). This year, it's likely to drop below 5% – which represents a decline of nearly 50% from the pre-crisis level of 10%.

Even though China continues to export, this decline means that the value of those exports as a percentage of GDP is dropping. And that means the country is consuming more of what it produces internally.

If you think about it, this all makes sense. In China, purchasing power is accelerating, so that tens of millions of people are making the transition from lower-income living to become middle-class consumers. Once that occurs, these consumers will start looking to buy stereos, washing machines, cars and even houses – items that Western consumers take for granted.

Various studies show that consumer spending accounts for roughly 30% of the economy. Imagine what will happen when it hits 70%, putting it on par with the United States! It'll take some time before that happens – but not as much as you expect.

Retail spending is up 18% this year after advancing 15% last year. And some researchers suggest that the growth in Chinese retail spending is already larger than that of the growth in retail spending in the U.S., Japan and Eurozone economies, combined.

All in all, we're expecting to see China's GDP advance at a rate of 10% or better in 2011, up from the 8.5% to 9.0% rates that I projected in 2010. And this acceleration comes in the face of some global economic challenges that continue to hamstring such markets as the United States and Japan – as well as another round of global slowing and a drop in exports that I see for next year.

Moves to Make Now
In the decade that just passed, most investors who wanted to profit from China did so by focusing on the export trend. That's no longer the right lever to pull. With the economic rebalancing, it's time to look at consumerism, healthcare and such other domestically driven sectors as real estate.

"The export sector was the way to invest in China over the last 10 years, but it's not ... over the next 10 years," Isaac Souede, chairman and CEO of Permal Asset Management Inc., a hedge fund with a $150 million bet on China, told the China Daily. But now, "we are more interested in local companies with local consumption stories."

I've got to run to a meeting, so I'm going to leave you with this final thought – and some recommendations to consider.

Many investors have a hard time understanding China because it's so "different." But when you really get right down to it, consumers in China really just want what we want: A healthy economy and productive work force with enough good-paying jobs to allow for a growth in consumption spending.

The only difference is that Beijing seems to be pulling it off ... while Washington struggles.

But you can improve your own situation with a successful investing program based, in part, on what you'll see here – as well as in other issues of Money Morning.

Actions to Take: If you understand that Beijing is rebalancing China's economy to emphasize internal consumption over export-driven growth, you'll also understand that you need to invest (or adjust your investments) accordingly.

I suggest you get started this way:

•Root out those companies on U.S. stock exchanges that have already made up their minds to participate. Three examples that immediately come to mind consist of fast-food icons McDonald's Corp. (NYSE: MCD) and Yum! Brands Inc. (NYSE: YUM), and semiconductor-equipment giant Applied Materials Inc. (Nasdaq: AMAT). McDonald's just because it's the first western non-financial company to float yuan-denominated "panda bonds" to fund market expansion in China. Yum! operates the Pizza Hut, KFC and Taco Bell chains – each of which are doing well with China's growing consumer class. Applied Materials relocated its solar research-and-development arm to Xian knowing that it will be able to develop a full line of global products there – and also sell directly into China.
•Invest in small-cap Chinese companies in the healthcare, infrastructure and urbanization businesses. Some – like China Integrated Energy Inc. (Nasdaq: CBEH), which is an integrated fuels play – are pretty straightforward, while others, like Chinacast Education Corp. (Nasdaq: CAST), which is involved in private secondary education, may take some digging to identify and understand.
•Pick up one or more of the small-cap, exchange-traded funds (ETFs) centered on China's markets. I particularly like Morgan Stanley China 'A' Share Fund Inc. (NYSE: CAF), for instance, because it's focused on China's tough-to-acquire "A" shares. Thanks to its unique structure, it's one of the very few ways investors can currently participate with direct ownership in China.

[Editor's Note: Money Morning Chief Investment Strategist Keith Fitz-Gerald predicted a number of years ago that investors would see a big swing in IPO deals toward Asia, and specifically China. U.S. companies will list there. And they will even seek to raise more and more of their money there as the global capital markets become less Wall Street-centric.

That's the kind of foresight that's made Fitz-Gerald such a success as an investor - as is evidenced by the near-perfect record he's maintained in his Geiger Index advisory service. If you missed out on part or all of that stunningly profitable run, don't despair: He's looking for the same kinds of profit opportunities in his newest service, The MicroQuake Alert. To find out more about MicroQuake, please click here.]

Source : http://moneymorning.com/2010/11/09/...

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