Greater China equities rebounded strongly post Brexit, with the MSCI Golden Dragon Index returning 5.1% in US dollar terms as of July 31,2016. Almost all sectors saw positive returns, driven by funds flowing back into emerging markets. Companies in the property and construction, as well as the services and conglomerates sectors, led the market higher, while companies in the oil and resources sector detracted. High dividend-yielding companies performed better as investors looked to increase income generation within the equity markets.

Looking at the macro front, there has not been much of an improvement or recovery in the Chinese economy. China's official Purchasing Managers' Index declined marginally in July to slightly below 50, due to slowing global demand. Private investment remains weak due to falling returns and waning business confidence. In Hong Kong, retail sales and export numbers remain weak amid the sharp slowdown in tourism and uncertainties over US interest rates and weakness in the Eurozone weighing on consumer sentiment. On the other hand, some earnings preannounced by Chinese listed firms have shown signs of stabilization, or even acceleration, in earnings for the second quarter compared with those of a year ago.

Fund Review

During the month, the Fund's Net Asset Value ("NAV”) price underperformed the MSCI Golden Dragon Index (the "Benchmark Index”). In contrast to June, stock selection in financials was the largest contributor to performance, while stock selection in industrials was the main detractor.

The top detractor during the month was our position in China Everbright International Limited, a Chinese waste treatment company that should benefit from the rising urbanization and demand for waste treatment. Given that this is a business that requires economies of scale, we believe an established player such as China Everbright International Limited will have an advantage in gaining further market share, especially given its strong track record in securing projects with local governments. We believe this is a multi-year structural growth story and the company remains a core holding for our portfolio. However, the sentiment favoring yield stocks worked against China Everbright International Ltd. as the company has negative cash flow under its current expansionary phase. We believe this weakness is temporary, and are willing to hold the position through the current rough market conditions for its long term growth prospects.

On the other hand, Sun Hung Kai Properties Limited, a leading Hong Kong property developer, was the top contributor to performance. The developer saw strong sales at its recent property launches, reflecting its strong execution capabilities in tough market conditions. The company also benefited from its recurring rental income that can support a sustainable dividend of about 3%. At the beginning of this year, we argued that a 50% discount to NAV makes this company too cheap to ignore, especially given its high quality projects and strong track record. Our investment case gradually materialized recently, as investors turned their focus to cheap, dividend yielding stocks. We also expect the market to reevaluate the property sector as the physical residential market continues to improve.

Key Transactions

In July, our major portfolio changes focused on adding to companies that can provide sustainable growth with good cash flow and trimming positions on companies where we might face a potential earnings downside. For example, we initiated a position in China Resources Power Holdings Company Limited to narrow our underweight in the utility sector. This sector has been de-rating over the past nine years due to concerns about overcapacity, a potential tariff cut and a structural shift from coal fire power plants towards renewable energy. However, we believe most of the negatives are priced in and expect the 7% dividend payout to be well supported by a Capital Expenditure (CAPEX) cut and dividend discipline.

Outlook

The Greater China markets have rallied post-Brexit, benefiting from the 'lower for longer' expectation for US interest rates. However, we are mindful that despite the feel-good factor currently in the Chinese markets, fundamentally little has changed. The macro situation remains challenging in China, which will continue to weigh on aggregate corporate earnings, especially the over-capacity sectors. While monetary easing measures are yet to boost firms' willingness to invest for growth, we believe the government is more inclined to rely on fiscal stimulus to boost economic growth going forward

 

 

 

 

High / Low Ranges (52-Week)

 

Fund Data (Common Shares)

1. MSCI Golden Dragon Index.

 

The investment objective of the Fund is to achieve long-term capital appreciation. The Fund seeks to achieve its objective through investment in the equity securities of companies and other entities with significant assets, investments, production activities, trading or other business interests in China or which derive a significant part of their revenue from China.

The Fund has an operating policy that the Fund will invest at least 80% of its assets in China companies. For this purpose, 'China companies' are (i) companies for which the principal securities trading market is in China; (ii) companies for which the principal securities trading market is outside of China or in companies organized outside of China, that in both cases derive at least 50% of their revenues from goods or services sold or produced, or have a least 50% of their assets in China; or (iii) companies organized in China. Under the policy, China means the People's Republic of China, including Hong Kong, and Taiwan. The Fund will provide its stockholders with at least 60 days' prior notice of any change to this policy.

 

---

Sector Allocation

 

	Fund	Benchmark1
Information Technology	32.41%	31.35%
Financials	26.18%	33.42%
Industrials	13.92%	6.73%
Consumer Discretionary	8.99%	7.41%
Telecom Services	8.58%	6.55%
Energy	2.38%	3.69%
Consumer Staples	1.58%	2.31%
Utilities	1.03%	4.45%
Health Care	0.91%	1.19%
Materials	0.20%	2.90%
Other assets & liabilities	3.84%	0.00%

 

 

	Fund	Benchmark1
China	73.78%	74.67%
Hong Kong Red Chips	31.26%	10.53%
Hong Kong 'H' shares	13.58%	20.79%
Equity linked securities ('A' shares)	1.82%	0.00%
China 'A' & 'B' shares	0.00%	0.15%
Other Hong Kong securities	27.12%	31.67%
Others	0.00%	11.53%
Taiwan	22.40%	25.33%
Other assets & liabilities	3.82%	0.00%

 

---

 

TAIWAN SEMIC CO LTD (Taiwan)	8.76%
SUN HUNG KAI PROPERTIES LTD (H.K.)	6.70%
TENCENT HOLDINGS LTD (China)	6.62%
HONG KONG EXCHANGES AND CLEARING LTD (H.K.)	4.29%
CHINA MERCHANTS BANK CO LTD (China)	4.14%
CHINA MOBILE LTD (China)	3.59%
ALIBABA GROUP HOLDING LTD (China)	3.44%
QINGLING MOTORS CO LTD (China)	3.36%
PING AN INSURANCE (China)	3.08%
DELTA ELECTRONICS INC (Taiwan)	2.96%

 

Portfolio Characteristics
	Fund	Benchmark1
P/E Ratio	13.71	12.85
P/B Ratio	1.42	1.39
Issues in Portfolio	42	283
Foreign Holdings (%)	96.16	100.00
Other assets & liabilities (%)	3.84	0.00
Yield (%)	2.99	3.00

1. MSCI Golden Dragon Index.

---

---

The China Fund, Inc.

 

---

Portfolio in Full

 

Sector	Company (exchange ticker)	Market Price	Holding	Value US$	% of net assets
CHINA RESOURCES POWER HOLDINGS CO LTD	836	12.36	1,778,000	2,832,371	1.03
Health Care					0.91
CSPC PHARMACEUTICAL GROUP LTD	1093	6.71	2,892,000	2,501,040	0.91
Materials					0.20
TIANGONG INTERNATIONAL CO LTD	826	0.58	7,246,000	541,659	0.20