Hermes fund manager Gary Greenberg has warned of “false Cassandras” predicting an impending crisis from China’s growing debt as his Global Emerging Markets fund takes a contrarian overweight in the country.
The IMF upgraded China’s growth outlook in its latest annual report, released in August, but said this came at the cost of rising debt to GDP, which is expected to reach 300 per cent by 2022, up from 242 per cent in 2016.
GDP growth is forecast to be 6.4 per cent annually until 2021, according to the IMF.
The IMF warning followed Moody’s downgrade of China’s sovereign rating in June due to concerns about the country’s increasing debt levels and stalling growth.
Fund manager Neil Woodford has also said he is concerned about China’s debt and said it has contributed to his fund’s underperformance as global markets take a consensus view that “China is good, the UK is bad.”
“China’s debt to GDP has grown a lot,” says Greenberg. “This had led false Cassandras to say it’s all going to fall apart.”
Greenberg says most of China’s debt is owed to itself.
“The property market everyone thinks is about to collapse is mainly funded by cash rather than debt. A lot of this debt is local government debt, some of it is corporate debt,” he says.
The Hermes Global Emerging Markets fund is approximately 3.5 per cent overweight the benchmarks in both China and India. Greenberg says they are a “little contrarian” on China, but “everybody’s overweight India”.
Given the country’s GDP growth momentum, the IMF has said now is the right time to intensify deleveraging efforts.
“China has done a good job of reducing the external part of the debt, the dollar part of the debt, so its external holding vulnerability is low. It’s property market vulnerability is not too bad,” says Greenberg.
The country’s shift to a new economy based, heavy on consumer discretionary and staples, healthcare and tech, is a theme Greenberg is looking to play in his allocation to the country.
Those sectors represented $806bn of the MSCI China index in 2016, almost quadrupling since 2011 when they represented $213bn. In contrast “old economy” sectors like energy, utilities, telecoms and real estate, have only gone from $980bn to $1.1trn over the period.
Chinese bank ICBC is a “very contrarian” stockpick the fund introduced recently, Greenberg says. “People are convinced the Chinese banks are full on non-performing loans and it’s a matter of months if not weeks before they all blow up.”
Greenberg doesn’t think that’s the case with the big four banks, but says some smaller banks may face trouble.
China has been the best performing MSCI country index in the year to date delivering 43.4 per cent, according to September figures.
The fund has almost doubled the returns of its peers over the last six months, returning 15 per cent compared to 8.1 per cent in the IA Global Emerging Markets sector. “This year when the commodity trade fell apart it helped us a lot,” says Greenberg.