Treading Carefully in China

by Christopher Mayer

“China is a much bigger opportunity than we’ve made it out to be.” So says our editor, Addison Wiggin, who has just returned from China. I was in Baltimore on Wednesday, meeting with fellow editors to air out some of our investment ideas, and Addison opened the meeting with his observations on China.

He certainly got our attention, because most of us have been talking and writing about China for some time now. Yet it seems that those who have traveled there and witnessed with their own eyes what is going on become more impressed. Jim Rogers, the famed Adventure Capitalist author and wealthy investor, has spent some time in China. He is a long-term enthusiastic China bull (though he sees a hard landing in the near term) and even recommends people learn to speak Mandarin.

The New York Times on Thursday, in a piece titled “China’s Reach,” notes the growing influence and affluence of the Chinese, and with it a confidence about the future of their country. The burgeoning middle class has some money to spend and some appetites to satisfy. Not only for food and drink, but for travel as well.

“As the new Chinese tourists from the rapidly expanding middle class travel,” writes Jane Perlez, “they carry with them an image of a vastly different and more inviting China than even just a few years ago, richer, more confident and more influential.” The bustling activity in China is unmistakable.

Investment analyst Anatole Kaletsky, commenting in a recent piece for GaveKal Research, pointed out that “a decade ago, one could walk calmly around Beijing’s Forbidden City and hear the flies buzzing. At the time, most Chinese citizens were living their daily hell of trying to make ends meet. Today, for a rapidly growing Chinese middle class, the daily struggle for subsistence is over and the new struggle of trying to catch a glimpse of China’s glorious past (in Beijing or Xian) or its shining future (in Hong Kong or Shanghai) is on.”

This trend could have enormous investment implications as the world caters to the Chinese and their spending patterns. Readers know that I have written about the growing number of Chinese tourists before, as some of our recent picks play to the idea of this “new leisure class” (to borrow a phrase from sociologist Thorstein Veblen). It doesn’t take a lot of imagination to picture how traveling Chinese with money burning holes in their pockets will benefit hotels, for example.

This brings me to an interesting point. Emerging market investing is cyclical and fraught with peril. While China presents enormous opportunities, it also brings special risks as well. Emerging markets can experience gut-wrenching peaks and valleys.

In 1997, the Russian stock market soared 200%, only to fall by more than 50% the following year. Mark Mobius, the globe-trotting Templeton money manager, commented that, “Investing in Russia had become like entering a rich gold field studded with land mines: laced with veins of rich treasure and riddled with pockets of pure poison.” Russia captivated the imagination of investors, but it has been a very bumpy ride to date. All of the world’s mature markets had to pass through these kinds of phases. The explosive growth in the United States during the 19th century was punctuated by booms and busts in canals, railroads, bank stocks, real estate and more. China will likely be no different.

China’s boom is being fueled in part by monetary and credit expansion.

According to economist Krassimir Petrov, “Money supply for 2001, 2002 and 2003 grew respectively 34.2%, 19.3% and 18.1%. Thus, during the last three years, money supply in China grew approximately three times faster than money supply in the United States during the 1920s.” All that money sloshing around is bound to cause problems, namely, by creating a massive bubble – and you see it in Chinese real estate and in certain Chinese stocks.

So we have to tread carefully in China, which is why I favor gaining exposure in a sort of oblique way. Mobius, in dealing with this problem in Russia, used the concept of establishing a beachhead where you could gain exposure to a promising market without gaining exposure to its problems. It’s a way to take advantage of global trends without assuming as much of the risk. That’s the challenge.

Safe to say, working out the investment implications of China’s prosperity will continue to be an important investment theme. China is the big story.

Christopher Mayer

Christopher Mayer is the editor of the Fleet Steet Letter.

His contrarian essays have appeared on a number of Web sites and publications, including, The Mises Institute, the Freeman, The Daily Reckoning,,,,, Grant’s Investor and Individual Investor Magazine. His views on financial matters have also been widely quoted, including in the highly regarded Grant’s Interest Rate Observer.

Chris began his career in banking, specifically, corporate lending, after earning an MBA with a concentration in finance, He later started writing Capital & Crisis, a monthly newsletter that gave Chris’ unique brand of financial commentary a more regular and expanded format.

With an unusual fondness for old books, old investors and old ideas, Chris fits perfectly into the Fleet Street mold. He claims a personal library of over 400 books, numerous periodicals, papers and pamphlets, which he brings to bear on understanding the financial world of today.

The Daily Reckoning