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Fidelity China Special Situations - far from a silk road

Trade wars and slowing growth have troubled the Chinese stock market. Find out what the manager thinks the future holds for companies in China.

Important notes

This article isn’t personal advice. If you’re not sure whether an investment is right for you please seek advice. If you choose to invest the value of your investment will rise and fall, so you could get back less than you put in.

  • Dale Nicholls invests in companies he thinks will benefit from China’s booming middle class.
  • He thinks international trade disputes will have limited impact on his domestically-focused companies
  • NAV fell 5.3% compared with the benchmark’s 0.9% gain.
  • Share price fell 0.9% so the discount narrowed.

The rise of China has been staggering. Its economy has grown faster than any other in history. China has been the biggest contributor to global growth since the 2008 financial crisis. Over 850 million people have been lifted out of poverty, which has led to an explosion in domestic wealth – China’s so-called New Economy.

As manager of Fidelity China Special Situations, Dale Nicholls invests in companies he thinks can profit from the surge in China’s middle class. They include technology giants like Alibaba and Tencent. But many are higher-risk small and medium-sized companies, as that’s where he sees the best opportunities for growth. He normally avoids banks and large government-owned enterprises, which make up a big part of the Chinese stock market, so the trust can perform differently to the market.

Nicholls is an experienced manager and has done well over the long term. He’s performed better than the benchmark since he took over the trust in April 2014, although there’s no guarantee that’ll continue, past performance is not a guide to the future. By investing in a single higher-risk emerging market like China, we think investors should hold the trust as part of a well-diversified portfolio. The trust also uses gearing (borrowing to invest), and has the flexibility to use derivatives, and these increase risk too. You can find more details about the risks and charges in the latest annual reports & accounts and key information document

How’s the trust performed?

Big state-owned enterprises were among the strongest performing companies in China recently. Shying away from them hurt the trust’s recent performance. Its Net Asset Value (NAV) fell 5.3% over the 12 months to 31 March 2019, while the benchmark rose 0.9%. The share price also fell, but by 0.3%, so the trust’s discount narrowed. The discount is currently 9.7% at the time of writing. Remember past performance isn’t an indicator of future returns.

A final dividend of 3.85p has been proposed, to be paid on 30 July 2019. This would be a 10% increase on the previous 12 month’s dividend. Income is variable though and not guaranteed.

Annual percentage growth
May 13 -
May 14
May 14 -
May 15
May 15 -
May 16
May 17 -
May 18
May 18 -
May 19
Fidelity China Special Situations 69.9% -19.1% 50.6% 28.3% -17.9%

Past performance is not a guide to the future. Source: Lipper IM to 31/05/2019

Disappointing returns from consumer and technology companies were a big part of the trust’s weak performance. Goodbaby, a baby product manufacturer, suffered when its key US distributor, Toys R Us, went bust. China Pacific Insurance also performed poorly due to profit concerns. Nichols stayed invested in these two companies though as he believes their long-term prospects outweigh short-term disappointments.

There were some pleasing performances too. CITIC Telecom reported good earnings and increased its dividend. Car dealership China Meidong Auto grew its profits, partly by selling more after-sales care and servicing. Hot pot condiment manufacturer Yihai rose more than 68% after its restaurant partner rolled out new locations. Nicholls took profits and sold the shares though, as he couldn’t see enough growth potential to remain invested.

What’s changed in the portfolio?

New additions to the portfolio include investment banks CITIC Securities, China International Capital Corporation and China Renaissance. Nicholls also added to investments in insurance companies. He thinks their shares are attractively priced and will grow with the rise of middle class affluence.

Three new investments were made in Chinese companies not listed on the stock market. They were drone maker DJI International, artificial intelligence company Sensetime, and content platform operator ByteDance. The trust currently has five ‘unlisted’ companies, making up around 5% of the portfolio. Investment in these companies adds risk.

Investments in several travel-related companies were either sold or reduced, including duty-free provider China International Travel Service, Shanghai International Airport and hotel operator China Lodging. Nicholls thinks the industry still has room to grow, but thinks the companies’ shares are over-priced for what the businesses are worth.

Manager’s outlook

The Chinese stock market has had a volatile 12 months. The trade spat with the US continues. Growth in the Chinese economy has slowed. Yet Nicholls is still positive about the prospects for the trust’s companies. Most of them earn their money from the domestic Chinese economy, so he doesn’t think international trade troubles will affect them much. He also thinks a deal will be struck between the US and China, as a full-blown trade war would be in neither countries’ interest. And despite slowing growth, the Chinese economy is still growing at an impressive rate.

Nicholls thinks economic and political noise will keep the Chinese stock market volatile. But amongst the turbulence he thinks there are lots of companies with the potential for long-term growth. He remains focused on consumer, technology and healthcare sectors, as that’s where he expects much of that growth to come from.

Fidelity China Special Situations Key Information Document

Find out more about this investment trust, including charges

Important notes

This article isn’t personal advice. If you’re not sure whether an investment is right for you please seek advice. If you choose to invest the value of your investment will rise and fall, so you could get back less than you put in.

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