PERSONAL FINANCE

How it returned 18pc in the month of China’s tech sell-off

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The firm’s high turnover strategy, which involves holding stocks for an average of just three to five days, allows it to respond almost immediately to regulatory, macroeconomic or even company-specific events. It generally holds 200 to 500 stocks at any time.

But with speed, comes cost. And that is particularly the case in China, which has higher trading fees than countries such as Japan or the US.

“Having a fast quantitative strategy only works in markets where there’s either low costs, or where your trades have so much alpha in them that you can overcome those costs – and that’s where the China A market is right now,” Mr Prescott said.

Mingshi’s international funds, which launched in 2020, offer access to China’s onshore equity markets through two strategies.

Its Optima Fund is a market neutral strategy designed to perform in all market conditions, and posted a 33.3 per cent gross return for the 2021 calendar year in US dollar terms and before fees.

The firm’s long-only Maxima Fund generated 19.4 per cent gross returns for the same period, against the 4 per cent return of its MSCI China A Onshore Index benchmark.

However, both funds have had a more challenging start to 2022. The Optima Fund is down 7.8 per cent year-to-date, while the Maxima strategy has posted a 12 per cent loss, but is still 0.2 per cent ahead of its benchmark.

Mingshi’s top holdings in its Optima Fund include Naura Technology Group, United Winners Laser, and Yunnan Yuntianhua. The strategy is overweight industrials and materials, and underweight energy and financials.

With risk comes opportunity

Although some global fund managers have decided to avoid China because of geopolitical risks, Mingshi’s quantitative approach aims to take systematic advantage of the China A market’s unique qualities.

“The risks of investing in China are undeniably higher than many developed markets, and anyone who says otherwise is misleading,” Mr Prescott said.

“The regulatory framework and rules that govern the Chinese equity market are still new; the Shanghai Stock Exchange is only 35 years old compared with the New York Stock Exchange which has been around for 250 years.

“Of course there’s a larger risk, but with that risk comes opportunity.”

The China A sharemarket, which has about 3500 listings, is dominated by retail investors who account for about 70 per cent of daily trading. This compares with Australian retail investors, who make up anywhere between 10 per cent and 15 per cent of daily turnover.

The largest stockholders in Australia are institutional investors and superannuation funds but in China, mum and dad investors hold more than 50 per cent of shares.

“The whole psychology of the market is different,” Mr Prescott said. “China has an enormous amount of liquidity, it’s the second largest market in the world, and it also offers diversification because it’s less correlated with global events than other major markets.”

Although the Australian and US markets have exchange-traded fund (ETF) flows, these factors have less of an effect on China’s market because of its low inclusion in the MSCI indices. China makes up about 3.6 per cent of the MSCI All-Country World Index.

But Mr Prescott thinks the optimal asset allocation to China is actually about 38 per cent for a global equities portfolio.

“China only got added to the MSCI five years ago because before that, it wasn’t transparent enough, the rules weren’t clear, and the international access was messy, so there’s been a lot of work to get the markets ready,” he said.

“They weren’t going to put China at a 20 per cent exposure straight away, so I think there’ll be a gradual increase in its weighting over the next 10 years to represent China’s positioning in global equity markets in terms of size and influence . But adding China in larger weights than it currently is in MSCI indices is better for your portfolio from a risk-return perspective.”

The short of it

Mingshi also uses single-stock shorting in its Optima Fund, which Mr Prescott said was “arguably the best alpha opportunity in global equity markets over the next five years”.

“The only real way to do single-stock shorting is in the offshore market, out of Hong Kong, and it’s so attractive because it’s very hard to do – it’s expensive, the inventory is limited, you need to have good relationships with brokers, and you need a lot of research expertise,” he said.

“And because of those limitations, it’s not very crowded. So if you can get the inventory and if you have the strategies, there’s not many people alongside you.”

Single-stock shorting accounts for 30 per cent of Optima’s short portfolio, with that target to remain in place for the first half of this year. But the firm says that if offshore inventory availability increases, and performance continues to significantly beat the benchmark, it will consider increasing that target ratio.

Another opportunity Mingshi attempts to capitalize on is companies with an environmental focus. Prescott said that green stocks in China had outperformed the dirtiest stocks by an average of 16 per cent a year.

“The environmental focus in China over the last five years is a good strategy, and we believe it’s going to be increasingly important as China has very aggressive environmental goals,” Mr Prescott said.

“This often gets clouded by the trade and other geopolitical headlines, but China’s environmental stock story is going to be very interesting over the next 10 years.”

Biggest and baddest market

Mr Prescott, who grew up in Sydney’s inner west, gained a particular interest in Asia’s financial markets after moving to Hong Kong in 2007 for a graduate role at Deutsche Bank, working as a derivatives trader.

He spent 12 years in Hong Kong, also working for Citigroup and hedge fund Nezu, before moving to Shanghai to be with his wife.

A fluke encounter through a friend of his partner led Prescott to meet Mingshi’s chief operations officer Stephan Zhou and founder Yu Yuan, which led to him joining the firm in 2019.

“What attracted me to China as a young trader was that it’s the biggest and baddest equity market in the region,” Mr Prescott said.

With its headquarters in Shanghai, Mr Prescott thinks Mingshi’s biggest advantage is its access to local talent.

“The number of high-quality tertiary graduates and post-graduates coming out of China is immense, particularly in science, technology, engineering and maths (STEM),” he said.

“It’s insane the amount of talent coming out of Chinese universities, so to be able to tap into that labor market is an incredible advantage for an onshore, local firm.”

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