Lou Gerken
March 4, 2008
Dear Friends & Co-investors,
January was one of the most difficult months in recent years for all stock markets and the emerging markets were the hardest hit. We witnessed high levels of volatility during the month and the markets closed down sharply. For the month, the Hong Kong H-share index, B-share index and China A-share index fell -22.5%, -17.3%, and -13.4%, respectively. Reflecting the unsettled markets, we conservatively positioned our portfolio during the month with a high net exposure and as such our NAV was -3.91%. While not pleased to show a down month, in context the average China focused hedge fund was -9.48% for the period.
The correction was mainly caused by: 1) continued deterioration of the US credit crisis and investors continued worries that the sub-prime turmoil may spread into other consumer credits such as credit card and car loans; 2) further tightening in China – the Chinese Central Bank increased the required reserve ratio another 50bps in January and the market expects more tightening policies ahead; and 3) the worst weather in 50 years – a nationwide snowstorm hit China in the last two weeks, disrupting economic activities in every aspect.
The Chinese stock markets have corrected substantially from their Oct.’07 peaks in the range of 30% to 40% for A, B and H shares indices. The silver lining in the news is that valuations are becoming more attractive at current levels. H share is now trading at 15X 2008 PER with EPS growth of over 20% and A share is trading at 25X 2008 PER with EPS growth of about 30%. Following recent speeches by Premier Wen and President Hu, we have started to see a change in tone of the Chinese Government on risks of a domestic economy slowdown. We do not expect further tightening polices in the near future and may see some loosening if the global economic environment continues unsettled. This will give support to the stock markets. We believe the impact from the bad weather is short-lived. The Chinese economy in general remains healthy in the medium-long term.
To help put the current market setback into perspective, I attach a 20-year chart for the S&P 500. As is evident, despite the highlighted points of turmoil which were accentuated by the “Dotcom Bust” in 2000, there has been a continuum of significant progress. Similarly, notwithstanding today’s pessimism it is our view that the most recent/current setbacks are not indications of a bear market, rather a bull market correction. We have been closely monitoring developments in the global markets and believe it is a good buying opportunity as we see signs of stabilization in the US market. Although beginning the year in “troubled waters” our objective remains to deliver a 20%+ return (net) for 2008.
Attachment: Events vs Indices (pdf)
Best,
Lou Gerken
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