Renowned fund manager Neil Woodford has been concerned for some time about the Chinese economy, and what it means for the global economy as a whole. He discusses the subject in some detail in a blog post today.
Woodford suggests that recent growth figures coming out of China have lacked credibility when compared with other real economic data, noting:
“Even the Chinese Premier, Li Keqiang, allegedly mistrusts the country’s official economic statistics, preferring to track growth by looking at real data. The Li Keqiang Index, as it has become known, tracks growth in outstanding bank loans, electricity production and rail freight volumes, and currently shows a reading of just 2.5% year-on-year. It last visited that level in November 2008, just after Lehman collapsed”.
Woodford suggests that the number of reasons to be cautious about China is increasing. He particularly highlights what will be an inevitably long and bumpy transition from heavy infrastructure investment to a more Western consumption-based economy. Furthermore, he reckons the State is struggling to adopt the required political approach for such a transition, as demonstrated by recent interventions in the stock and currency markets.
The level of private sector debt in the Chinese economy is another big concern Woodford highlights. He says the level is “alarming” and suggests that the Chinese economy will have to go through “a period of prolonged debt moderation”. He also notes that China has scope to lower interest rates, which could export deflation to the rest of the world, with “signification ramifications for the global economic outlook”.
Woodford-watchers will know he has been concerned about the risks emanating from China for some years, and has built his portfolios in the expectation that there’ll be little help from macroeconomic tailwinds. As such, he has populated his portfolios with companies that are more in control of their own destinies — avoiding, oil companies, miners and banks.
The top holding in Woodford’s equity income fund, Imperial Tobacco (LSE: IMT), is a prime example of a company more in control of its own destiny. Tobacco consumption is not really dependent on buoyant economies. The industry does face some headwinds, caused by increased health awareness in developed countries, but Woodford reckons the prospects and cash-generative qualities of tobacco companies continue to be under-appreciated by the market. Imperial trades on a forward P/E of 15 and offers a prospective 4.4% dividend yield, which looks attractive for such a “defensive” company.
Woodford’s no. two holding AstraZeneca (LSE: AZN) may be at the other end of the health spectrum to Imperial, but it also has solid defensive qualities. In addition, the big pharma company should benefit from demographic trends of ageing populations. Woodford believes Astra did the right thing in rejecting a £55 a share takeover bid by US giant Pfizer last year. With the shares now trading at under £42 (forward P/E 16, yield 4.2%) you have an idea of how much value Woodford sees in the company.
BT (LSE: BT-A) is another of Woodford’s top five holdings. Increasingly, packages of fixed line, mobile, broadband and pay-TV are becoming more of a staple for consumers than a luxury. BT’s agreed acquisition of mobile group EE will extend the group’s capabilities, and, after some initial concerns, Woodford decided that the acquisition was a good move for BT and its shareholders. If he’s right, BT’s current forward P/E of 13 and yield of 3.5% represent excellent value.