Matthews China Fund Q2 2015 Commentary

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Jul 30, 2015

For the first half of 2015, the Matthews China Fund (Trades, Portfolio) returned 18.27% (Investor Class), outperforming its benchmark, the MSCI China Index, which returned 14.84%. For the quarter ending June 30, the Fund returned 10.64% (Investor Class) while its benchmark rose 6.22%.

Market Environment:

Chinese equities rallied strongly during the second quarter, driven by the central bank’s continued loosening of monetary policy as well as strong liquidity in the stock market. The central bank has lowered interest rates three times since last November and cut its reserve ratio twice thus far in 2015. The positive effects of these measures began emerging during the quarter, led by a strong sales volume recovery in the property market, and by increased signs of stabilization in the industrials sector.

Volatility in Chinese equities also rose sharply during the quarter, particularly among China’s domestic A-share market. With the A-share index reaching a seven-year high, investors are concerned about the valuation and are turning more cautious about the near-term outlook. The A-share market has experienced a roller coaster ride during the quarter, with some rocky patches in June, and market tumult in early July.

Performance Contributors and Detractors:

During the second quarter, our holdings in the information technology and financials sectors were top contributors to Fund performance. Within information technology, our long-term approach of investing in smaller, quality companies has done well. Kingdee International Software Group (HKSE:00268, Financial), a firm focused on enterprise resource planning systems, and Sina (SINA, Financial), a Chinese version of Twitter, are among two such companies that contributed most to Fund performance. Both companies belong to the small-capitalization category and fell under much selling pressure last year amid concerns that smaller companies would struggle under a slowing and uncertain business environment. However, the two companies were able to withstand the headwinds and eventually boost their underlying business.

In terms of detractors, the consumer staples sector continued to disappoint, and posed one of the biggest drags on Fund performance. China’s consumer price index inflation continues to hover at a low level, which has put pressure on the sector. In addition, China’s e-commerce players have been growing rapidly, which has also hampered the sector.

Notable Portfolio Changes:

The Fund continued to consolidate its exposure in the consumer discretionary and consumer staples sectors, and has focused more on the holdings in which we hold a high conviction. We trimmed or exited companies that appeared to be losing their competitive positioning, such as supermarket and hypermarket operator Sun Art Retail Group (HKSE:06808, Financial). We exited the holding during the quarter as it has been losing market share to e-commerce players in recent years. We raised our exposure in the financials sector, including property companies and banks, as we see increasing signs of recovery in those areas.

Outlook:

While we are encouraged by early signs of stabilization among China’s property-related firms and industrials, we also note that the economy has yet to achieve a full recovery. Exports remain weak and overall corporate earnings are still under pressure, especially in the consumer discretionary and staples sectors. We expect to see some further easing of monetary policies going forward to help stimulate the economy. In terms of reforms, China continues to take drastic action in several areas. In a recent move, officials aimed to lift a rule that caps lending by commercial banks in China at 75% of their deposits. This, along with the interest rate liberalization and measures to deal with local government financial vehicles, should help strengthen the entire banking sector over the long term.

We are cautious over the near-term developments of the A-share market, mainly due to its high valuations and volatilities. Compared to the A-share market, Chinese companies listed in Hong Kong are generally trading at more reasonable valuations and much less volatile. Currently, we continue to focus our efforts on finding solid companies within the Hong Kong universe.

During the second quarter, we also announced that Richard Gao, the Fund’s long-time manager, will commence a requested sabbatical at year-end. Effective July 1, 2015, Andrew Mattock, CFA, Co-Manager of the Matthews China Fund (Trades, Portfolio) assumed Lead Manager responsibility of the Fund. Winnie Chwang and Henry Zhang will continue to serve as Co-Managers of the Fund. In the interim period, Richard is serving as an analyst on the Matthews China Fund (Trades, Portfolio).

The views and opinions in this commentary were current as of June 30, 2015. They are not guarantees of performance or investment results and should not be taken as investment advice. Investment decisions reflect a variety of factors, and the managers reserve the right to change their views about individual stocks, sectors, and the markets at any time. As a result, the views expressed should not be relied upon as a forecast of the Fund’s future investment intent.

Statements of fact are from sources considered reliable, but neither the Funds nor the Investment Advisor makes any representation or guarantee as to their completeness or accuracy.


As of 6/30/2015, the securities mentioned comprised the Matthews China Fund (Trades, Portfolio) in the following percentages: Kingdee International Software Group Co., Ltd. 2.4% and Sina Corp. 1.4%. The Fund held no positions in Sun Art Retail Group, Ltd. and Twitter, Inc. Current and future portfolio holdings are subject to risk.