3 Chinese Stocks to Watch

Doug Turnbull: Hi, Emma.

Wall: So what is your first stock?

Turnbull: The first stock which I'm excited about at the moment is Wynn Macau (01128), which is a gaming stock, running casino resorts within Macau. And there are a couple of reasons, I think this is really exciting. First of all, structurally, the Chinese love to gamble and increasingly, they love to travel as well. Outbound travel from China is a massively fast-growing trend. You put those together though and you've got a really interesting demand and supply dynamic. The only place that 1.3 billion people in China can gamble is the tiny little state of Macau, smaller even than Hong Kong.

So you have a massive amount of demand coming in, but within Macau, supply is quite constrained. The government control how many hotel rooms are allowed to be build, how many gaming tables there are, which keeps the return on invested capital for the casino companies actually really high.

Wall: Is that not a restriction though? I mean you say that there is, they are – they do have these controls and so that keeps revenue high and profit high, but is that not a tipping point where actually, if it's not big enough to continue to grow, that restricts the Company's growth?

Turnbull: Ultimately there is still a lot of unused space in Macau, and one of the reasons I'm particularly excited about Wynn is that in the last few years they have actually lagged their competitors because they have been supply constrained.

However, in the next few years, as some of that bigger projects come online, they would be gaining thousands more hotel rooms, which means they can get more gamers, better quality gamers by comping them the rooms, and indeed get those gamers to stay for longer within their casino, meaning their casinos, which are by common admission probably the highest quality casino operations; and get those revenues up, get the table yields higher. We see that actually they are probably really the best-paced people in the next three to five years to take advantage of the continued massive growth that we see within this massive demand and supply mismatch.

Wall: And what's your second stock?

Turnbull: The second stock I'm interested in is called Kerry Logistics (00636). They've recently been spun out of the Kerry Group, a big Hong Kong conglomerate. And they are actually a very sophisticated supply chain operator. They get very deep into their customer supply chains, and these are global brands who they operate for. They have a logistics network that goes all the way through China and indeed penetrates deep into Southeast Asia as well.

This is ultimately a play on global growth and of global trade growth, especially. And I'm particularly excited about it at the moment in an environment where concerns have been raised certainly looking at major developed markets about the prospects for economic growth and where that's been in the last six months. I think we're getting in at a moment where perhaps global trade growth is underestimated and leaving a stock like this, who is a prime player on it and a very high quality with high barriers to enter around their operations type play, substantially undervalued.

Wall: You say that you think that global growth has been underestimated. Is there a risk though with the U.S. only managing 0.1% growth in the last quarter, perhaps actually developed market growth is slowing down, and therefore the revenue stream to this company will be restricted?

Turnbull: Yeah, that is the prime risk is that global trade growth is underestimated, but, if you look at the growth rate of the U.S. in the first quarter, which was undeniably very slow, that is I think exactly your entry point. Because people look at that growth rate and see the so-called structural stagnation.

However, we think, if you look at the economics, if you look at the statistics behind the economics rather, the effect that the polar vortex, the extreme weather played had a huge role to play, and I agree there is some cynicism around that. You never hear a CEO saying, our company did brilliantly because the weather was great. However, when they've turned around and said, we really struggled because the weather was so bad, people couldn't really leave their homes, this has a huge impact, and I think we're already in March and April, states are starting to see some kind of rebound from that – again, it (doesn't) justify the faith in a company like this.

Wall: And what's your third stock?

Turnbull: Third and final is PetroChina (00857), which is a slightly more old economy stock in China. However, we think it's actually a strong beneficiary of a process of reform. Now, PetroChina is in large part a gas play. They have two – at the moment they import natural gas because they can't produce enough domestically in order to sell gas-related products on. The problem is all the prices are regulated. They pay a market price for their imports, but the prices at which they can sell their products are capped and capped lower, meaning they are losing money on this whole business, and we're seeing two things changed, I think which will help this substantially.

First of all, there's downstream pricing reform. Seeing those capped prices lift up a little bit closing some of those losses; and secondly, we're seeing a big influx of gas into China especially since the recently signed Russian and Chinese gas accord which took so many headlines recently, and again I see that as being positive for PetroChina's volumes and pricing in the medium-term, unlocking what is currently a very substantial discount to what we see as fair value in this stock.

Wall: And, of course, gas is one of the cleaner old school energy types and China has made quite a lot of movement towards the sort of environmental reforms, hasn't it? Has that had an impact – a positive impact even?

Turnbull: Yeah, absolutely. So, the environment is actually one thing which I think has changed quite substantially in China. Over the last two or three years, this has really gained traction, both in terms of the sentiment of the Chinese people, and if you look at surveys of what they care about, the environment now is right up there. But it's also now filtered through to the political classes, and compared to where we were 18 months ago, 12 months ago, I think the market has been surprised at just how seriously, just how strenuously, they have started to impact, as you've see an impact of environmental policies of tightening environmental standards. And absolutely, the move away from coal to gas is a really key part of this, and PetroChina, we believe stands to be one of the key beneficiaries of this.

Wall: Doug, thank you very much.

Turnbull: Absolutely. Pleasure.

Wall: This is Emma Wall for Morningstar. Thank you for watching.