To OTC Journal Members: 
 

China: What's The Real Story?

Is the Chinese economy falling off a cliff, or is the market over reacting? As with most controversial issues, the truth falls somewhere in the middle.

In the short term, the stock market is a very emotional animal. It's schizophrenic- driven by mood swings. Today's market clearly has a major hormone imbalance.

China is a huge question- is it a problem or an opportunity? Based on the chart I'm presenting here, one would think 1.3 billion people have been swallowed up into the ground like the house at the end of the movie Poltergeist. (this metaphor only works if you have seen it - one of my favorites).

FXI represents the "DOW" like stocks of China. This is a weekly chart. As you can see, the value of FXI has fallen 75% from its high of about $73 in October of 2007. That's one major drubbing for DOW like stocks. The US Dow stocks have only fallen 40%. Being emotional in the short term, one can assume $73 was overly optimistic. Is China really worth 75% less than it was 16 months ago? Is the whole country's economy vaporizing into a black hole from which it cannot escape? Is the slow down in demand for cheaply manufactured goods by US Consumers a death knell for the country?

The way FXI is trading- one would think so. However, there is some evidence to suggest the market might be getting it wrong, and FXI could be the opportunity of a lifetime at its current level for those investors who can see through the emotional over reaction. I included a 61.8% retracement of the recent rebound, suggesting $24.30 is the perfect level to own the stock.

According to Tom McCabe, managing director of Standard Chartered Bank PLC, this recession knows no boundaries, but the Asian region is poised to rebound far faster than the Western world and come out far stronger than before.

McCabe, who has been managing banks in the Far East for the past 10 years, believes Asia will become the global engine for growth for the next 50 years. India and China will be driving this global growth train, powered by the largest emerging consumer class in history.

Here's your demographic stats: 70% of new consumers entering the market between the ages of 22 and 24 for the next 15 years will be in Asia. That age group is the key demographic for advertisers, and the mega consumers of the next 20 years.

Over the past decade the Western world invested capital in what McCabe calls a "shadow economy". While the West was did little more than handle the Y2K crisis, create 5 million financial products, and generate the mortgage crisis, Asian countries invested $2 trillion in creating jobs by building real infrastructure: roads, hospital, rail lines, water systems, and universities.

According to McCabe, higher education is our last bastion of strength. America will still be the most desirable place for higher education. American universities are hugely respected in Asia, he said, and demand will far outstrip supply in Asia, even at the current rapid pace of university construction there.
 

Where Will Growth Come From?

China has enjoyed double digit GDP growth for the past 20 years. In 2009, estimates have the Chinese economy slowing to 6% GDP growth, which is far better than the US's negative GDP growth.

In China, the consumer is only 35% of GDP vs 70% for the US. The savings rate is 50%. Therefore, growth in China could be easily fostered by its massive internal consumer base, rather than waiting for global manufacturing demand to resurface.

Today, there are more people in India under 25 years of age than the entire population of the U.S, providing a high quality labor force and retail customers from the next three to four decades.

The huge fiscal and monetary stimulus programs China has announced should enable its economy to keep growing at a reasonably fast pace. The process of moving its culture from one based on savings to one geared more toward consumption is happening now.

China will increase investment this year in agriculture and rural development, energy conservation and pollution control, social welfare, environmental protection, major infrastructure projects and raising living standards. The $600 billion stimulus package China announced for 2009 in November should have a major effect on growth. It represents a full 15% of annual economic output. The Chinese have also lowered interest rates 7 times.

There's plenty of evidence to support the thesis that the ongoing infrastructure build out in China can keep the economy growing.

Just last week the China Technology Development Group Corp and privately held Qinghai New Energy Group announced their plans to construct a solar power plant in northwestern China that could become the world's largest photovoltaic solar project.

Construction of the 30-megawatt solar power station in China's Qaidam Basin will begin this year with an initial investment of $150 million. The station will include solar power as a component.

China has already announced $29 billion in new energy projects, including a new natural gas pipeline, construction of 10 new nuclear power plants, and a new coal mine set to produce 14 million tons a year.

The Chinese economy has been the fastest growing in the world for the last three decades, averaging double-digit growth for the last seven years.  And while the credit crisis has slammed on the brakes in terms of growth in the West, China is still on track for a solid 6% growth in 2009.

With $2 trillion in foreign exchange reserves available, China can increase the growth rate of its economy - even as it works to boost economic recovery efforts elsewhere in the world.

By 2030, 1 billion of its people will live in cities, up from 600 million today.  About 170 mass-transit systems will be needed.  Another 40 billion square meters of floor space will be built in 5 million buildings - 50,000 will be high rises.

Plans for China's road system call for 12 major routes across the country from north to south and east to west connecting millions to new routes of commerce, according to The Wall Street Journal.  The system will stretch 53,000 miles by 2020, surpassing the 47,000 miles of roadways in the United States. It will take massive amounts of steel, cement, and bulk transportation to build those roads.

The opening of new highways is providing greater mobility to China's population, accelerating the massive move from the rural areas to the cities. China will have 221 cities with more than one million inhabitants by 2025 - compared with 35 in Europe and nine in the United States today. This urban migration will be responsible for creating the largest consumer class the world has ever seen - a middle class greater than the entire population of the United States.

The Chinese word for crisis is WEIJI. When translated literally, WEI means danger and JI means opportunity.  In the Chinese culture, Crisis translates to a mindset of Opportunity. 

The current level of Chinese equities is the opportunity of a lifetime. FXI should be in your long term portfolio. China Energy Recovery (CGYV) should be in the higher risk end of your portfolio. I have three more rapidly growing Chinese ideas to share as the year goes on. Stick with the OTC Journal.

When the oppressive irrational fear subsides, and capital seeks real growth for superior returns, it will find growth in China, and you'll be there ahead of the crowd.

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