Posts Tagged ‘China’

Dividend funds. You hear and read about them every time you visit a site or watch CNBC or any other “popular” investment media. But dividend funds, while a great investment idea about, oh, three months or so ago make more sense than your typical bond funds, they are not for everyone. A couple of weeks ago, we proposed that there was a better alternative to dividend funds. And that fund, if you were able to make it through the long-winded post, was this, the DFA Emerging Markets Fund. (See what Morningstar has to say about it by clicking here).

Not a Dividend Fund… It’s Better

As far as mutual fund go, this is not a dividend fund. At the Mutual Fund Site, we actually think it is better. As a growth fund, the DFA EM Fund provides above average returns for below average risk. We believe all investors strive for that kind of relationship with their investments; we do and if you do not, then you should also. But what really appeals to us about this fund are the following big perks:

• Dividend Yield of 1.52% – this is on par and better than a lot of the most highly recommended dividend funds. If I managed a dividend fund, this alone would be an embarrassment and I do not think I could ask for a raise.
• Large/Giant Capitalization securities – this tells us right out of the gate that the companies will be higher quality in terms of risk and growth potential. More on this later.
• $2.1 Billion (no, that’s not a typo) under management – enough said about what people think about this fund!
• Performance that will have you reaching for a chair (I bet you are already sitting)

So we have already touched on the Dividend. Nice little yield, no questions about that right? (If you do, send us an e-mail at cfitch(at)mutualfundsite(dot)org and I will personally get back to you within a week).

About the holdings. Remember, first off that this is a growth fund, which makes it the kind of investment that risk-averse investors seek when they want something more stable. This mutual fund qualifies easily; just look at the Morningstar rate of 4-stars Overall. (It’s 10-year rating was 3-stars, but we do not see this as much of an issue after you look at some recent performance). Anyway, back to those holdings…

With 99.5% invested in non-US stock, it could seem a little intimidating to some. But here are the Top 5 holdings in descending order of their composition in the fund: Samsung Electronics (3.09%) which contributed 0% to the fund’s YTD returns; Reliance Industries (2.13%) which ate up 10.22% of returns but is a company out of India that has big growth prospects; America Movil SAB de CV which returned just 3.35% and is a Mexican telecommunications company that faces little competition; Taiwan Semiconductor Mfg which ate up 3.57% and is quite possibly the scariest of the fund’s large holdings, and finally; Petroleo Brasileiro which gobbled up more than 22% of the fund’s YTD returns, but is one of the must bullish companies in any emerging markets right now.

For many, these top holdings are highly recognizable. Yes, their collective performance stinks. What the Top 5 distract from are the 27% returns from a Brazilian bank that is also among the Top 25 holdings, the 25.5% returns from a bank in India that is also in the top 25, the 20% from another bank in Brazil and the list can go on.

What makes this such a beautiful growth fund is that it is so well diversified that stinkers like those above, which should not be stinkers at all, have their poor performance buried by the better-performing securities.

And yes, we realize our site is viewed as bullish on financial services (go figure, this fund’s largest sector holding is financial services but this is underweight compared to other funds in the Emerging Market category). But in our defense, all of the funds we “like” are not only awesome performers with awesome track records and awesome managers, but they are well managed mutual funds. And the same is true with this growth fund that happens to pay a great dividend and also happens to be pretty heavy into financial services (it also owns China Mobile, which makes us happy too!).

In terms of how it invests compared to its peers, it is more bullish in Telecom and IT Hardware than everyone else. These exposures are well managed, though, taking more conservative positions in other sectors like financials, manufacturing and so forth; which has helped them out for the most part.

So the bottom line with this mutual fund is this. DFA Emerging Markets is a well managed growth fund that will put some dividend funds to shame. So for people who have extended their welcome in their bond funds and need a niche mutual fund in which to invest, consider the DFA EM fund. While it is a growth fund, it earns a decent dividend and it takes on below-average risk.

Dividend funds are all the rage these days. Everywhere you look, including here at the Mutual Fund Site, you will find something about dividend mutual funds and how they are the perfect investment for people who are worried about rising rates, who need income and who also like the idea of enjoying capital growth through the equity holdings.

Adding Value

But that is where we ask ourselves where can we add value. Everyone talks about dividend funds, and aside from pointing out “top pick” (which, by the way, is the Vanguard Dividend Growth Fund (VDIGX) for those who want a solid mutual fund that is managed by steady and equally solid firm) what can we offer to our readers who want a little more, those intell-intense investors who want a bit of an edge of what “everyone else is saying.”

Hope You’re Sitting Down

Actually, this isn’t really anything new. What we want to is really much of the same story that we have told since the beginning of the year. At the Mutual Fund Site, we continue to feel that there is some great potential in value-type securities. This narrows down our search to something that achieves the following:

• Pays an attractive dividend
• Has a lot of value
• Invests in a way that we would love to invest ourselves

And of course it has to provide better returns than its peers while taking on less risk than its peers. It seems like an impossible treasure hunt. And based on our list of “must haves,” we actually thought we could be looking for a Small Cap Value with high dividend yield fund.

In reality we happened one of those interesting mutual funds that pays a healthy 1.52% Yield and is actually a Large/Giant cap blend fund.

Say that again!

That’s right, it completely baffled us. So much so that we are publishing this post before the actual review has even been begun on this fund. For those who want to get a head start (i.e. for those who do not find much value in our mutual fund reviews), check out the DFA Emerging Markets I (DFEMX) fund. Its vitals are: good dividend yield at 1.52%, low turn-over, large/giant cap holdings for a total 616 holdings in the portfolio, 4-star rating by Morningstar and consistent second quartile performance.

We like quite a few things about this mutual fund. And although it is not considered a dividend fund, it is positioned to behave like one.

Before we get too much into it before we have even begun our review process, let’s just leave it at that. It’s not a dividend fund, but it possesses all of the characteristics that many dividend fund investors want. But with a value add (for those with the risk tolerance) you will find only here at the Mutual Fund Site.

The lagging small cap category this year has been the small cap growth category. At the Mutual Fund Site, we decided to take a quick peek at a fund that fell into this category and like the top performers we examined last month, the Marshall Small-Cap Growth Fund (MASCX) is an above-average fund. Rated at four stars by Morningstar, it is considered one of the better performers in this category.

Small Cap Growth funds have been lagging behind Small Cap Value and Small Cap Blend funds on a year-to-date basis

In looking at the risk adjusted rating, this fund hold the coveted 5-star rating for its 5 year performance record, which should not go unnoticed. Not surprisingly, the latest management addition happened in 2007, possibly a large contributor to the fund’s 5 year rating.

Another note about management is that the previously high turnover was noticed by Morningstar in 2009 and mention was made. Ironically, the same author noted caution about the fund in 2009 (due to turnover) but less than 1 year later made not of how the “fund is making a name for itself.” More on this later.

One of the things that we feel is most important to a fund’s long-term track record is its underlying portfolio. With the Marshall Small Cap Growth fund, 38% is in small cap securities, another 38% is in Micro Cap securities and the rest is in mid-cap securities. This spread of risk is important because it ensure the right balance, particularly in periods of heightened volatility. We like this kind risk mitigation for a small cap fund; the spread is nice, but there does seem to be enough money invested in mid cap securities that one might question whether the manager is comfortable with the small cap sector in the first place. Why so conservative?

Digging deeper, however, we see that nearly 19% of their assets is invested in Healthcare; followed by 13% in IT Hardware and lastly they have just a little less than 12% in Telecom. The risk in these sectors may be enough to point to that heavy mid-cap presence and get the justification one needs.

With just 82 stocks under management, roughly 28% of their holdings are in the top 10 holdings. Their biggest holding, Energy XXI (Bermuda) Ltd., is an energy play; Ebix Inc. is a software play (number 3 holding) and Heckmann Corp is a financial play (number 6). Let’s look closer at these holdings:

Energy XXI (Bermuda) Ltd (4.52%)
This is the fund’s largest holding. It is also one of the top contributors as far as the fund’s returns go. The interesting thing with Energy XXI is that it reported a loss for 2009 of over 1/2 Billion. Since then, their revenues have been a lot more promising, enough so that the analysts polled by Thompson/First Call have a hold rating on it (recently, analysts have been a little more bullish on the stock).

The biggest problem facing this company is its liquidity. Current assets are insufficient. However, their property holdings conrtibute considerably to their overall positive equity position and the stock price speaks for itself. We would not be surprised if Marshall (which also owns this company in its Mid Cap fund) starts to trim their position, especially after the run up it has experienced on a YTD basis.

Ebix, Inc (3.22%)
This number 3 top holding is a software play. This company focuses on helping insurance companies with their management of independent agencies, policies, administration and claims management processes as well as accounting, reporting and rating tasks.

This stock has skyrocketed in 2010. Currently trading in the $15 range, this stock has been as low as $1. (That is not a typo). Likewise, it has been as high as $51. A recent share buying announcement, increasing revenues on annual and quarterly basis as well as positive analyst opinion will certainly continue to drive this stock price upward.

Heckmann Corp (2.6%)
One of the worst performers in the portfolio with YTD returns of -19%, Heckman is the fund’s 6th largest holding. Although it is officially listed as a “financial” company, this company is actually a holdco for China Water and Drinks and Heckmann Water Resources. Both companies are involved in the delivery and transportation of water (like an oil pipeline, transport company, shipper, etc., except water).

Although this company has been losing a tremendous amount of money over the past 2 years, its concept remains sound and with greater demand for water, it may actually have a viable business model. Of course, the two analysts that cover this stock rate is as a buy and the firm not only has a ton of cash on hand, but virtually no debt whatsoever. In other words, it is a strong, viable company.

Our biggest beef with this holding is that the stock does not move all that much, thereby limiting potential gains. This could also be a selling point in that, as a top holding, its relative stagnant levels can provide stability to an otherwise fairly volatile portfolio (standard deviation is over 25%).

Overall, we like this fund. It’s low entry level, its low fees and decent Beta (at 1.1) suggest a medium risk investment (Morningstar rates it this way as well, giving it an “average” rating for risk and an above average rating for returns.

Provided that the fund remains closely managed, it could very well fit in a portfolio for someone with an apetite for volatility with the potential payoff of good returns.

There is a difference between investing in China and investing in China’s growth. This is a careful distinction that a lot of investors fail to make, yet it is a necessary one if one is seeking to profit from the undeniable growth that the Chinese people are expected to enjoy in the years to come.

Investing in China

The act of investing in China is the same as investing in domestic companies. The process involves narrowing down a large field of potential companies and ideas to a handful of prospects and then digging even deeper to determine whether that company meets fundamental basics to earn your investment.

These fundamentals would include such things as an appropriate equity level, satisfactory growth rates, margins and so on. The key difference is that such companies are actually based in China, so our everyday experience with them would be virtually non-existent (compared to investing in, say Wal-Mart or Ford or Apple, etc.).

Another key disadvantage to investing in foreign companies is that most people are unfamiliar with their political alliances, which becomes increasingly important in countries like China. To make an investment in a Chinese company, one should understand their political standing and how that bodes for their future growth and sustenance.

Investing in China’s Growth

In contrast to the above, investing in China’s growth is quite different. This involves taking positions in domestic companies that have the potential to profit from China’s growth. For example, companies that outsource key manufacturing processes would fall into this category. Such companies will be able to reduce their cost of goods sold (manufacturing costs) since labor in China is at a discount to domestic labor.

Another example would involve companies that are positioned to enjoy part of the expected growth in the middle class. This class historically creates a deeper demand for certain products and services, such as discretionary and luxury goods. Companies that have been allowed to establish a presence in China obviously stand to benefit from this and could offer great investment potential as well.

Summary

It is unquestionable that China is set to enjoy an aggressive growth rate in the years to come. Positioning one’s portfolio to take advantage of this growth is a little more complicated — does one invest directly in companies that have little relevance domestically and operate in a foreign political climate, or does one invest domestically in companies that have taken the steps necessary to enjoy part of this aggressive growth?

As often happens, the question becomes one of risk tolerance and investment knowledge. Knowing that there is a difference between the two surely helps.

There should be little surprise that so many investors are interested in learning more about China Mutual Funds. While the Mutual Fund Site has only spoken about China in a round-about reference to one of the world’s greatest portfolio managers (Anthony Bolton), it makes some sense to review some of the risks associated with an Investment Strategy that is so bullish on China as well as some of the potential rewards. But if we were asked where to invest in China, we would probably take a really long time to respond to such a question. The reason will reveal itself below.

It is generally well known and accepted that China represents a tremendous investment opportunity. For most investors, however, that means investing in China in order to sell one’s product or, less likely, services to the Chinese population. Think of General Motors, for example. They own Cadillac and, with a growing middle class in China the demand for discretionary luxury goods like Cadillacs will increase. The growing middle class is not a reason for General Motors to go and purchase or invest heavily in one of the nearly one hundred manufacturers. With this in mind, investors should be cautious about whether they want to invest in Chinese companies or invest in domestic (US) companies that are well positioned to profit from China’s rapid development.

It goes without saying that China continues to censor and control much of the local industries. Recently, Google pulled out of China as a result of this (it can be speculated that Google became frustrated with China’s insistence that Google operate in a manner satisfactory to the China government). Luckily, Google had the resources to call it quits; other companies might have been forced to alter their business model and integrity and comply for financial reasons. Given Google’s frustration, it should be seen as rather risky to invest directly in China.

In terms of China Mutual Funds, there are but three that Morningstar considers 5-star. One of them, the Templeton China World Fund has returned nothing (okay, it returned -0.17% as at April 19, 2010) and still manages to outpferform its peers. AllianceBernstein’s Great China ‘97 has performed similarly and is currently ranked as a 2-star fund. Clearly, even the professionals are having difficulty finding the right securities to invest in. And when highly regarded professionals like those running these two very similar (yet greatly diverse by Morningstar rating) funds, then it goes almost without saying that individual investors will have a tough time making money in China Mutual funds.

On the positive side, China growth translates into a hunger for many of the resources found domestically. This results in a strong demand from one of the world’s largest populations and potentially soon-to-be wealthiest nations. This was evidenced when China recently announced a multi-billion dollar investment Venezuela in exchange for future delivery of oil.  Such an investment suggests that perhaps it would be more wise to invest in some of Venezuela’s larger oil companies and not China itself. As well, both funds listed here returned more than 40% for their 1-year performance. Obviously, there was some growth to be had.

Perhaps the popularity of China mutual funds is just that — popularity. And when we think back to high school, not all of the popular kids were among our best friends. Maybe the same holds true for investing there. Maybe it is smarter to invest in less popular areas and enjoy the future growth potential that comes with a contrarian approach.

As one of the BRIC nations (Brazil, Russia, India and China), China represents a huge opportunity for investors with nerves of steel and a risk tolerance that most people would love to have (particularly when it comes to alpha-male poker tourneys). When it comes to mutual funds, legendary manager Anthony Bolton has come out of retirement specifically to head up a brand new, China-based mutual fund for one of the leading fund companies in the world – Fidelity. So what does that tells us regular folks about the merits of China insofar as growth funds are concerned?

For starters, it confirms the global opinion that China certainly presents a huge investment opportunity. This is not simply a North American view (Bolton is, or was, based out of the UK and his track record from 1997 to 2007 with Fidelity’s Special Situations Fund speaks for itself). But investment field aside, all industries are a little nervous about China. Why? Because of what will happen as their economy grows.

See, as China’s economy continues to grow, the financial demographics of their population will shift. There will be a growing middle class, regardless of what naysayers might preach about the socialist possibilities of their government. There is already evidence of this as Chinese workers outsource their skills to the world through the internet and other legitimate venues. In addition, China is one of the world’s largest student’s of the English language. It is estimated by People Stream that as China becomes the world’s largest English-speaking nation, the market will increase by 300 million possible employees. Even at 1/2 of the salary (this is being generous) of North American employees, Chinese candidates present a huge cost savings for companies that need English-speaking individuals. (You can view their 5-minute YouTube presentation here). For the Chinese, this translates into a growing middle class with growing middle class wants and vices. Even if the naysayers are right and a “socialist” government controls Chinese markets when they cannot control the inflow of wealth, they may be able to control where that wealth is spent. Regardless of whether there is much control, a lot of that wealth will be spent in China, allowing Chinese companies to see a long road of prosperity ahead of them. And that is as of today! Not five years from now, but right now.

Some of the risks to investing in China are well-known already. They include poor transparency in terms of environmental controls. Poor transparency in terms of financial reporting. They include a currency that the government will not allow to fluctuate on the free market (it is pegged to another currency, the US dollar). These are all risks; an investor might find a great Chinese company one day only to find that it has not made a dime or was bankrupt or presented inaccurate financial records or was penalized for not having the right government contracts and so on and so forth. In other words, it could be gone within a matter of days… These are real risks with investment in China.

By holding a growth fund with a China focus, investors would hope that the mutual fund manager has done his or her due diligence. Some funds, however, will not do this properly, they will not visit the company or do more than analyze the figures. There could be more risk with funds with low assets under management than larger funds with enough of a capital base to fund such trips to China. The bottom line is that investors should approach these types of investments with a great deal of caution. They should understand the thinking behind the fund itself and should be comfortable with the management team. With such things out of the way, investors looking to enjoy long-term growth will surely be rewarded.