Tong’s Value Investing Portfolio: Chinese yuan devaluation sparks slowdown fears

Tong’s Value Investing Portfolio: Chinese yuan devaluation sparks slowdown fears
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fd_momentum_emble_theedgemarketsCHINA’S surprise decision to devalue its currency spooked investors around the world, and sent global equities as well as emerging market currencies tumbling.

At first blush, the move re-ignited concerns of a currency war, where countries attempt to make their products cheaper — and therefore, more competitive in the global market — by weakening their currencies. It is a race to the bottom, often detrimental to all. 

Of greater significance though may be the tacit admission that the world’s second largest economy is losing steam faster than the government intended — or is comfortable with — when it embarked on policies to transform its investment-export led economy to one that is driven by consumption. Certainly, the devaluation came on the back of a rash of tepid economic data. 

For many investors, the fact that China risked capital flight, increased debt burden for  its companies with US dollar denominated debt and the ire of trading partners, including the US, underscores the magnitude of growth concerns.

This does not bode well for the rest of the world — especially for countries in direct competition with China in the export markets or commodity producers where China is a major consumer. A weaker yuan also means lesser purchasing power for Chinese consumers.

Over the longer term, the yuan’s devaluation would be beneficial to the world should China manage to boost exports and stimulate its economy to a stronger footing. Short-term pain for longer-term gain.

In the meantime, though, the commodities rout is unlikely to reverse. Strength in the greenback, in which most commodities are traded, will act as further dampener ondemand. 

The commodity Malaysia is most concerned about is oil, one of the country’s major income generators. Brent crude futures stayed below US$50 per barrel last week with little prospect for a material and sustained rebound for the foreseeable future. The oil market is forecasted to remain oversupplied through 2016.

The ringgit fell another 4% last week to close at 4.08 to the US dollar. Expectations for further weakness would only intensify capital outflow that would, in turn, perpetuate a negative feedback loop for the currency.

Local equities took quite a beating. The benchmark FBM KLCI is hovering at multi-year lows, at 1,596.8 Friday. 

The bond market also came under selling pressure. Yields on the benchmark Malaysian Government Securities traded as high as 4.25%, from 3.9% at end-May.

Falling stock prices creates negative wealth effect while rising yields translates to higher borrowing costs — the impact of which will spill over into the real economy. 

I expect most corporate earnings for the next few quarters to be affected by the unfolding slowdown in consumption and investments as well as the ringgit’s decline. 

My portfolio continues to outperform the benchmark index by 20.6% since inception – slightly off its peak of 22.3% at end-July. But absolute returns have fallen to 7.9%, in line with the broader market selloff.

Given the uncertainties ahead, I am shifting priority to capital preservation. As such, I disposed of my shares in Oceancash as well as those related to the property and construction sectors, Pintaras Jaya, OKA and Knusford. 

Pintaras, for instance, has seen its orderbook drop amid a slowdown in the property sector. Whilst the company’s balance sheet and management remain sound, earnings are likely to disappoint in the near to medium term. 

I continue to hold shares in export-oriented companies SCGM, Thong Guan, Willowglen, Wellcall and Elsoft.

After last week’s transactions, my cash holdings increased to RM127,529 or roughly 59% of total portfolio value.

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This article first appeared in digitaledgeWeekly, on August 17 - 23, 2015.