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Andreas Roemer, head of emerging markets, DWS Investments

Comment: China inflation to peak soon

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The Chinese equity market has suffered from inflation fears, monetary tightening and policy uncertainty. However, Andreas Roemer, head of emerging markets, DWS Investments, expects inflation to peak soon and GDP growth should continue to be robust…

Following recent weak performance, Chinese equities are attractively valued, creating an appealing entry point for investors. We expect Chinese shares to rebound in the second half of 2011 as China’s economy should achieve soft-landing in the second half of the year, with CPI trending downwards after reaching 6.5% in July.

Given the recent turmoil in global financial markets, it is very unlikely that the Chinese government will further increase interest rates.

We are approaching the end of current tightening cycle as M2 growth has already dropped below the government’s target of 16% (although the government is yet to loosen its monetary policy).

Social housing will be a key driver for fixed asset investment as well as related consumption in the second half of 2011.

GDP should continue to be robust at around 9% in the second half of 2011.

The Chinese equity market is attractively valued with a price – earnings ratio of around 11x compared to 2010 figures (with expected earnings per share growth of 16-17%), which is at the low end of historical levels. 
 
We believe that the partially recent market sell-off is overdone and provides a good opportunity to buy high quality companies with strong business models and superior earnings power.
 
The DWS Invest Chinese Equities fund has returned 50.1% since launching on 15 December 2006. In the near term, the fund will maintain its high conviction in the key investment themes, which are defensive sectors with less policy risk as well as less exposure to global economy; namely companies in the consumer, healthcare, IT, and telecom sectors. These sectors will continue to perform during economic uncertainty and market volatility.

During the sharp correction over the past few days, weak domestic-demand oriented sectors, including consumers, telecom and property, were added to the portfolio, while export and global growth sensitive sectors, such as ports, energy and metal, were reduced.

Given the continued concerns on US growth outlook as well as European credit problems, the fund’s strategy remains cautious in and will continue to maintain a relatively high cash level. In the meantime, the liquidity risk is closely monitored and the exposure to illiquid or small to mid-cap stocks is tightly controlled.
In an environment with rising / high inflationary pressure, it is crucial to analyse the inflation impact on operating margins and corporate earnings. The fund avoids stocks which are suffering from margin pressure, due to input cost inflation and limited power to pass on price increases to consumers. For example, food and beverage companies lacking strong brands. Companies with strong pricing power can however benefit from current inflation levels, such as luxury goods companies or department store/supermarket operators who benefit from higher merchandise prices. 

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