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Matthews China Fund's Top 5 Trades

GuruFocus.com

The Matthews China Fund (Trades, Portfolio) revealed its top trades when it released its second-quarter portfolio last week.

The fund, which is part of San Francisco-based Matthews Asia, is managed by Andrew Mattock and Winnie Chwang. They seek to achieve long-term capital appreciation by investing heavily in Chinese companies that are capable of producing sustainable growth. In its letter for the quarter, the managers wrote that while China's economic recovery is still in its early stages, recent data indicates "the pace and progress" may be sustainable.


The most notable trade of the quarter was the divestment of the Alibaba Group Holding Ltd.'s (NYSE:BABA) U.S.-listed shares in exchange for its Hong Kong-listed shares (HKSE:09988), which debuted in November 2019. The China Fund also added to its positions in Hong Kong Exchanges and Clearing Ltd. (HKSE:00388), CITIC Securities Co. Ltd. (HKSE:06030) and Luxshare Precision Industry Co. Ltd. (SZSE:002475). It sold out of New China Life Insurance Co. Ltd. (HKSE:01336).

Alibaba

The fund exchanged 600,500 U.S.-listed shares of Alibaba for 4.8 million Hong Kong-listed shares, giving the new stake 12.43% space in the equity portfolio. The stock traded for an average price of 202.05 Hong Kong dollars ($26.07) per share during the quarter.

Before exiting the position, GuruFocus data showed that the fund had gained 34.65% on the U.S.-listed shares of Alibaba. The shares traded for an average price of $207.72 each during the quarter.

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The Chinese e-commerce company has a HK$5.3 trillion market cap; its shares were trading around HK$245.6 on Monday with a price-earnings ratio of 31.32, a price-book ratio of 6.22 and a price-sales ratio of 9.17.

The Peter Lynch chart shows the stock is trading above its fair value, suggesting it is overpriced.

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GuruFocus rated Alibaba's financial strength 7 out of 10. In addition to having comfortable interest coverage, the robust Altman Z-Score of 7.92 indicates the company is in good standing.

The company's profitability scored a 9 out of 10 rating. Although its margins are in decline, they still outperform a majority of competitors. Alibaba also has strong returns that are outperforming versus the industry and a high Piotroski F-Score of 7, which implies business conditions are healthy. Due to consistent earnings and revenue growth, it also has a predictability rank of 2.5 out of five stars. According to GuruFocus, companies with this rank typically return an average of 7.3% annually over a 10-year period.

Of the gurus invested in Alibaba's Hong Kong-listed stock, the Matthews Pacific Tiger Fund (Trades, Portfolio) has the largest stake with 0.06% of outstanding shares. Value Partners (Trades, Portfolio) and the Signature Select Canadian Fund (Trades, Portfolio) also own the stock.

Hong Kong Exchanges and Clearing

With an impact of 2.83% on the equity portfolio, the fund expanded its position in Hong Kong Exchanges and Clearing by 252.15% to 967,000 shares. During the quarter, the stock traded for an average price of HK$267.78 per share.

GuruFocus estimates the fund has gained 32.08% on the investment since the first quarter of 2018.

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The company, which operates a stock market and futures market through its wholly-owned subsidiaries, has a market cap of $471.39 billion; its shares were trading $370.8 on Monday with a price-earnings ratio of 49.57, a price-book ratio of 10.55 and a price-sales ratio of 34.31.

According to the Peter Lynch chart, the stock is overvalued. The valuation rank of 1 out of 10 also supports this analysis.

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Hong Kong Exchanges and Clearing's financial strength was rated 6 out of 10 by GuruFocus. In addition to poor interest coverage, the low Altman Z-Score of 1.58 warns that the company could be in danger of going bankrupt. The return on invested capital is also lower than the weighted average cost of capital, indicating the company spends more money than it makes.

The company's profitability scored a 6 out of 10 rating on the back of an expanding operating margin, strong returns that outperform a majority of industry peers and a moderate Piotroski F-Score of 4, which implies business conditions are stable. Despite recording a decline in revenue per share over the past year, Hong Kong Exchanges and Clearing still gained a two-star predictability rank. GuruFocus says companies with this rank typically record an average 6% return annually.

The Pacific Tiger Fund is the company's largest guru shareholder with a 0.48% stake.

CITIC Securities

The China Fund boosted its CITIC Securities stake by 112.06% to 16.19 million shares. The stock traded for an average per-share price of HK$14.55 during the quarter.

GuruFocus data shows the fund has gained 6.36% on the investment since the fourth quarter of 2015.

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The full-service investment bank has a HK$548.92 billion market cap; its shares were trading around HK$18.34 on Monday with a price-earnings ratio of 30.8, a price-book ratio of 2.21 and a price-sales ratio of 8.27.

Based on the Peter Lynch chart and GuruFocus valuation rank of 1 out of 10, the stock appears to be overvalued.

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Weighed down by approximately 42 billion yuan ($6.02 billion) in new long-term debt that has been issued over the last three years, CITIC's financial strength was rated 3 out of 10 by GuruFocus.

The company's profitability did not fare much better, scoring a 4 out of 10 rating. In addition to having margins and returns that outperform at least half of its competitors, CITIC is also supported by a one-star predictability rank. GuruFocus data shows companies with this rank typically return 1.1% per year on average.

The China Fund has the largest position in the company with 0.13% of outstanding shares. The Pacific Tiger Fund is also invested in the stock.

Luxshare Precision Industry

Matthews expanded its stake in Luxshare Precision Industry by 22.57%, impacting the equity portfolio by 1.41%. It now owns2.9 million shares. The stock traded for an average price of 37.09 yuan during the quarter.

According to GuruFocus, the fund has gained 104.61% on the investment since the first quarter of 2019.

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The company, which manufactures electronic components, has a market cap of 414.23 billion yuan; its shares were trading around 59.24 yuan on Monday with a price-earnings ratio of 76.25, a price-book ratio of 14.7 and a price-sales ratio of 5.36.

The Peter Lynch chart and GuruFocus valuation rank of 1 out of 10 suggest the stock is overvalued.

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Luxshare's financial strength was rated 7 out of 10 by GuruFocus. Although the company has issued approximately 9.4 billion yuan in new long-term debt over the past three years, it is at a manageable level as a result of sufficient interest coverage. It also has a high Altman Z-Score of 10.34. The ROIC also significantly outperforms the WACC, indicating good profitability.

The company's profitability scored a 9 out of 10 rating even though its margins are in decline. Luxshare also has strong returns that outperform a majority of industry peers, a moderate Piotroski F-Score of 6 and consistent earnings and revenue growth that resulted in a perfect five-star predictability rating. According to GuruFocus, companies with this rank return an average of 12.1% annually.

The fund holds 0.04% of the company's outstanding shares.

New China Life Insurance

With an impact of -1.35% on the equity portfolio, the fund sold out of New China Life Insurance. Shares traded for an average price of HK$25.63 each during the quarter.

GuruFocus data shows the fund lost an estimated 16.09% on the investment.

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The life insurance company has a HK$151.67 billion market cap; its shares were trading around HK$30.1 on Monday with a price-earnings ratio of 10.3, a price-book ratio of 1.86 and a price-sales ratio of 0.85.

According to the Peter Lynch chart, the stock is undervalued.

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Despite having a comfortable level of interest coverage, GuruFocus only rated New China Life Insurance's financial strength 5 out of 10.

The company's profitability fared even worse with a 4 out of 10 rating even though its margins and returns outperform at least half of its competitors. It also has a one-star predictability rank.

Value Partners (Trades, Portfolio) is now the company's sole guru shareholder with 0.09% of outstanding shares.

Additional trades and portfolio performance

During the quarter, the portfolio managers also established new holdings in social media platform Joyy Inc. (YY), streaming service Tencent Music Entertainment Group (TME) and clean energy distributor ENN Energy Holdings Ltd. (HKSE:02688).

The China Fund's $1.04 billion equity portfolio, which is composed of 39 stocks, is most heavily invested in the financial services and consumer cyclical sectors.

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According to its website, the fund returned 34.56% in 2019, outperforming the MSCI China Index's 23.46% return.

Disclosure: No positions.

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This article first appeared on GuruFocus.