This article describes recent changes to the investment process we follow at WELREX and how we applied it to a client trade in China.
Evolving the WELREX investment process: “MVS-T”
In May the WELREX investment committee agreed on some changes to our proprietary investment process, introducing what we call the “MVS-T” framework – a methodology we use to determine the relative value of asset classes by region.
MVS stands for Macro, Valuation, and Sentiment. Whilst this can be used for the overall global environment, we find it most useful when split regionally – North America, Western Europe, and Emerging Markets – and by asset class such as equities and fixed income.
We score these 3 elements in the framework on a 5-point scale (but always uneven), 0 being neutral and then -, –, +, ++ either side for negative or positive evaluations.
When combined, the 3 elements provide an overall picture of value in specific markets, enabling the investment committees to determine relative value between asset classes. The resulting scores from this monthly process can then be used to determine which markets to invest in and how much to invest.
The T in MVS-T stands for Themes – typically current trends that we will discuss in the investment meetings, such as the application of AI, and lithium processing in support of electric batteries. We debate the validity of these trends and identify specific companies and securities that we could invest in to gain exposure to these themes.
We run this methodology once a month, with additional meetings ad hoc if deemed necessary based on macroeconomic releases or central bank meetings.
We concluded that discussing the MVS-T framework every week could potentially lead to unwelcome churn of portfolios. Also, external factors tend not to change that much on a week-to-week basis.
Updating the model monthly allows us to capture most changes in the investment environment without creating too many potential trading moments. Meanwhile, the weekly investment committee meetings where we don’t have strategic MVS-T discussions are used to look for tactical opportunities, discuss specific investment topics, or deal with specific client issues.
Applying the MVS-T framework in the case of China
In July this year in our MVS-T framework meeting we also discussed China and the Chinese stock market more specifically. At that point, the brakes had come on for the Chinese economy and a slowdown in the property sector was having wider ramifications for credit availability and the performance of the stock market. The word on the street was that the Central Committee was planning to issue a raft of new stimulus measures.
We already held positions in India, Indonesia, and Vietnam and initially thought that adding China on weakness ahead of any stimulus package to be announced would be a good idea. The market had been struggling and it seemed like we would be opening a new position at an opportune moment especially because we expected the Central Committee to take decisive action and present the markets with a comprehensive package of new measures. Therefore, we proceeded and for a suitable customer, we opened a position in China by means of the FXI ETF.
However, the expected stimulus package never materialised and the Chinese stock market kept getting weaker and eventually, a 10% stop loss was triggered. This index movement was somewhat mitigated by the fact that the overall global stock market was also in a sell-off at the same time and therefore on a relative basis the 10% loss did not look that bad. Nonetheless, we felt that the initial investment thesis was no longer there and at the start of August, we decided to close the position in China.
Eventually, there were some measures announced by China, amongst which a stamp duty cut and credit measures to stimulate the property market. These created a temporary uptick, but the effect did not last and since August the China stock market has been slowly trending lower.
In our estimation, a paradigm shift has taken place in China, and we have left the fast-growing phase of the economy behind us: a large portion of the population moved to the fast-growing cities and achieved relatively well-paid jobs that allowed them to consume and further propel the economy. Most importantly a large portion of the population was able to get onto the property ladder and purchase their own home.
China has now entered a new phase where these easy wins can no longer be achieved and the focus of the population has shifted from buying properties and consuming to saving for an uncertain future. China is now actually at risk of entering a stagnation phase like we have seen in Japan. Further stimulus measures are only temporary fixes and what we need is similar to what we have seen in Western economies: further advancement will have to come not from consumption but from technological innovation and innovative new products. This of course is not beyond the realms of possibility for an Asian economy, but for now, we are on the fence with regards to China and will monitor the situation closely to assess if there is any point in the future where we might wish to re-enter this economy.
The World Bank has revised down its growth forecast for China in 2024 to 4.4%, from 4.8% previously, citing weak economic indicators and rising debt levels, while warning that East Asia’s economies are on track for one of their slowest growth rates in five decades due to US protectionism and debt burdens.
In the meantime, we put the proceeds of the China sale to work in Japan, another market that we identified as attractive by means of the MVS-T framework and whose stock market has been performing well this year. Our clients did not have exposure yet to this market and as it was identified as attractive in the MVS-T analysis a position was opened for a client. Also, we invested some of the money in short-dated US credit where due to a yield curve inversion yields of around 5% can be achieved without taking much credit or duration risk.
We’re confident that our MVS-T framework will continue to enable us to make smart investment choices for our clients going forward.
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