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Portfolio Update: Chinese Insurance

By Yiannis G. Mostrous on November 25, 2009

For a little more than a year I’ve been haranguing you about investing in China’s insurance sector. Don’t expect that to change.

Chinese insurers are well positioned, especially because stock markets have done well, and premium growth has been solid.

In terms of scale, China was the sixth-largest life insurance market in the world in 2008 and was the largest in Asia ex Japan (including Australia). Chinese insurers wrote USD96 billion worth of premiums last year, giving China a 3.85 percent share of the global market.

Source: Industry Sources 

China’s market share has been on an upward trend over the past decade, driven by economic development and steady increases in average household income China is now 50th in the world in terms of life insurance premiums per capita.

The sector still offers great long-term upside potential because penetration remains very low at around 2.2 percent, the fourth-lowest in Asia. Companies have also started focusing on rural areas that are rapidly becoming the next frontier for Chinese growth.

China Life Insurance Company (NYSE: LFC) remains my favorite way to gain exposure to the sector. The stock has performed respectably since I originally recommended it, returning around 93 percent.  

The company is China’s largest life insurer in terms of premiums and geographic business reach. It has a policy base of more than 250 million people and controls 40.3 percent of the market; the top three players in the industry control 63 percent of the market.

For the first three quarters of 2009 China Life reported a net profit of USD2.9 billion, a year-over-year increase of 65 percent. Investment income, which increased 40 percent year-over-year, spruced up results, while operating expenses declined by 4 percent.

China Life is on track to deliver another strong year and will remain the premier insurance company in the country. China Life Insurance Company is a buy up to USD80.

Portfolio News

Chinese oil producer CNOOC (NYSE: CEO) reported solid third-quarter operating results. Compared to last year’s first three quarters overall growth was up 16 percent; crude production was up 21 percent, while production of natural gas was flat.

CNOOC produced 525,000 barrels of oil per day and 699 million cubic feet per day of natural gas in the third quarter. Management remains confident that it will be able to maintain a 6 to 10 percent cumulative average growth rate for the next 10 to 15 years.

CNOOC has traditionally focused in upstream production in offshore China. But it has also expanded overseas and now has significant interests in Nigeria, Australia and Indonesia.

The company’s parent entity also has controlling interests in oil services, refining, petrochemical, fertilizer and engineering assets as well as in liquefied natural gas (LNG) facilities.

Crude prices in China are internationally benchmarked, with a step-up windfall tax of 20 percent kicking in at USD40 a barrel. Natural gas prices are centrally controlled at USD3.50 to USD4 per thousand cubic feet and are expected to increase in the near future. CNOOC is a buy up to USD160.

Dongfang Electric (Hong Kong: 1072) manufactures equipment for large thermal-power, hydro-power and nuclear-power stations. It’s one of the three major power-generation equipment makers in China.

The company currently has a production capacity of 30 gigawatts per year and controls 30 percent of the domestic market for large-scale steam/hydro power equipment.

Dongfang reported a 17 percent year-over-year increase in third-quarter profit to USD55 million on revenue of USD1.1 billion. Gross margins increased to 15.5 percent, although the company suffered a small setback in nuclear product margins. On the other hand, thermal and hydro were star performers.

New orders were down 46 percent sequentially, better than the competition but still a drag on 2009 earnings. The stock weakened over in the past two months as investors adjusted to new expectations.

I’m still bullish on Dongfang Electric because it has good exposure to two of the energy resources that are critical to China’s economic future: coal and nuclear.

The company’s thermal business should grow along with the government’s push for bigger, more efficient coal-fired units. This plan calls for the closure of smaller, inefficient units that produce more pollutants in favor of modern power generation facilities.

On the nuclear energy front, nuclear power equipment represents the company’s second-largest business line, and these orders could generate more than 20 percent of the firm’s revenues in the next two to three years.

China is expected to add around 60 to 70 gigawatts of new nuclear capacity over the next decade–and many analysts believe this estimate is on the low end of the range. With nuclear power accounting for a little more than 9 megawatts of total capacity, there’s plenty of growth here. Dongfang Electric remains a buy in Hong Kong up to HKD45.

Taiwan Semiconductor (NYSE: TSM) also reported solid quarterly numbers. Revenue was up 21 percent sequentially, while utilization increased to 96 percent overall and 100 percent for some production lines.

The company reported its greatest strength in computing, which was up 29 percent quarter-over-quarter. Communications was up 25 percent, while the consumer unit reported growth of 11 percent.

Management noted that fourth-quarter results may slightly exceed market expectations of flat or slightly negative growth. PC sales are expected to lead the way. The company also raised its full-year capital expenditure estimate from USD2.3 billion to USD2.7 billion. Management expects to increase spending next year to support growth.

Taiwan Semiconductor remains the ultimate company to own in the sector because it combines growth with defensiveness. It offers good cash flow returns due to its pricing and scale advantages, and management invested proactively to sustain the company’s lead in its strategic sectors. Buy Taiwan Semiconductor up to USD15.

Chunghwa Telecom (NYSE: CHT), the fixed-line incumbent in Taiwan, provides local, domestic long-distance and international long-distance services.

The company is also the dominant player in the mobile and broadband markets. The Ministry of Transportation and Communications (MOTC) is the largest shareholder with a 36 percent stake.

Expansion in the broadband segment has been a source of growth for Chunghwa.

Management recently said it will accelerate its broadband rollout in order to defend its broadband market share from cable operators. This move should result in higher capital spending for 2010.

The company plans to offer 50 Mbps (megabits per second) FTTx (fiber to the user) services in 2010, while also cooperating with its strategic partner, So-net, to offer low-speed ADSL (asymmetric digital subscriber line) services at competitive pricing in an effort to narrow the discount offered by cable broadband when bundled with cable TV.

Chunghwa will also focus on content enrichment and is looking for regulatory change to reduce the hurdle to acquire content from cable operators.

The company is the quintessential income telecom to own in Asia because management is stockholder-friendly. The company also offers some growth. Buy Chunghwa Telecom up to USD20

Philippine Long Distance Telephone (NYSE: PHI) reported a nine-month profit of USD665 million. The third quarter was particularly positive, as the company saw growth of 11 percent, although wireless net additions were the lowest in three years. Lower taxes for the period helped overcome the soft spot. 

In contrast to the slowing wireless segment, the broadband business was robust. Philippine Long Distance added a record 151,000 broadband subscribers during the third quarter, raising its broadband subscriber base by 11 percent sequentially.

The company’s total broadband subscriber base was 1.37 million at the end of September. The revenue contribution from broadband was 10 percent in the third quarter, up from 7 percent a year ago. Buy Philippine Long Distance Telephone up to USD60.

Fresh Money Buys

The investment process is constant. If you’d like to add to your positions in Portfolio recommendations or allocate new funds in a diversified way, focus on the following markets, in order (for both countries and sectors). Consult the Portfolio tables for details.

The ranking starts with the countries I prefer and then lists specific sectors you should look into. When I mention a sector, the first pick will be from the Long-Term Holdings.

For example, below you read: China (insurance, etc.). This means that China is the favorite market and insurance the favorite sector. A glance at the Portfolio table reveals that we currently recommend only one Chinese insurance name: China Life Insurance (NYSE: LFC).

Going down the list, India is the second-favorite market, and pharmaceuticals are our favorite industry. Dr. Reddy’s Laboratories (NYSE: RDY) is the stock in the Portfolio table that meets this criteria.

  • China (insurance, footwear, port, machinery, oil, consumer)
  • India (pharmaceuticals, banking)
  • Russia (energy, telecommunications)
  • Hong Kong (real estate, banking)
  • Indonesia (telecommunications)
  • Malaysia (ETF)
  • Japan (banking)
  • Singapore (industrial)
  • Taiwan (telecommunications, technology)
  • Philippines (telecommunications)
  • Vietnam (ETF)
  • Cambodia (casino/hotels)
  • Macau (casino/hotels)

Buy the Local Markets

Buying a stock on its local exchange is your best option. The reason is liquidity. The pathetic and often illiquid over-the-counter market can be an investor’s worst nightmare, especially when you’re trying to sell.

Many brokers offer the opportunity to trade on a foreign exchange with the same ease as you do on the New York Stock Exchange (NYSE). You don’t even have to open a different account to buy a stock listed in London or Hong Kong.

However, stocks listed on many local exchanges, such as India, can’t be easily traded. But many Asia-based stocks are listed in Hong Kong, the most accessible market in the region for any serious broker.

Not every brokerage is serious, though. Some simply don’t want to expend the effort needed to open their business beyond run-of-the-mill NYSE or Nasdaq common stocks. If you find your broker isn’t being cooperative, one option is to open an account with Interactive Brokers.

Interactive Brokers’ trading platform offers easy access to US-, Canada-, Europe-, Japan- and Hong Kong-listed stocks alike, among others. The company boasts cheap commissions and also has a great system for handling currencies.

You can choose to convert all or part of your account into British pounds sterling or Euros to handle buys in Europe at favorable rates. The minimum amount to open an account is USD10,000.

A more mainstream broker that can now handle international trading online is E*Trade. Commissions are slightly higher, but the website is particularly easy to use and includes solid news and quote feeds for most foreign markets.

If you’ve had positive experiences buying foreign stocks with other brokers, please drop me an e-mail, and we’ll include them in an upcoming issue. And if you plan on getting into some of our non-US-traded stocks, be sure to check out your current broker’s capabilities.


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