Fidelity China Special Situations reports that, for the 12 months ended 31 March 2023, its NAV total return was 2.6%, just ahead of MSCI China, which returned 1.4%. The return to shareholders was 0.3%, as the discount widened to 9.7% at the end of the year compared to 7.5% last year. The dividend was increased by 13.6% to 6.25p.
Eking out positive return was only possible after China bounced when its zero COVID policy was scrapped. The NAV and share price rose by 12.1% and 11.2% respectively, over the second half of Fidelity China’s accounting year, well ahead of a 7.3% return on the benchmark.
The strength of that bounce in the trust’s returns reflects its gearing. Net gearing at the year-end was 21.1%, largely unchanged from a year earlier when it was at 23.5%. The company recently renewed its loan facility for a period of one year at a fixed interest annual rate of 6.335%. The board would prefer to have a diversified source of finance in the future, as well as CFDs, and depending on terms hopes to be able to put in place longer-term borrowing when the borrowing facility ends.
The trust bought back 25,631,781 shares (about 4.5% of the company) into treasury at a cost of £57.25m.
The board has agreed a revised fee with the manager with effect from 1 July 2023. The revised fee will be 0.85% (reduced from 0.90%) on the first £1.5bn of net assets. It will remain at 0.70% on net assets over £1.5bn. The variable element of the fee of +/-0.20% remains unchanged.
The ongoing charge edged up to 0.98% from 0.94% over the year but the manager also earned the full amount of its variable fee this time and for the prior year, so the ongoing charges ratio including the variable fee was 1.18% for FY23 and 1.14% for FY22.
Owing to the changes in its composition during the year, the board no longer meets the target of 40% of FTSE 350 board members to be women. The present plan is to recruit a female director before the AGM next year.
Extracts from the manager’s report
Which stocks have performed well during the period and why?
Macroeconomically, sensitive names in the consumer discretionary space have fared well as faster than expected reopening led to an accelerated consumption recovery in China. Among the top contributors in the portfolio were positions in branded variety retailer MINISO Group Holding and home appliances manufacturer Hisense Home Appliances Group. MINISO’s recent results were better than expected, demonstrating good execution in brand and product upgrades, overseas expansion and solid efficiency gains. Hisense’s profit recovery remains well on track, led by robust overseas growth and solid ongoing profitability from its joint venture with Hitachi. In addition, retail jewellery player Luk Fook Holdings International has enjoyed a rerating in the market, driven by pent-up post-pandemic demand and market share gains as a result of channel expansion. Also, within the consumer discretionary sector, a short position in an auto manufacturer, known for their design in electric vehicles (EVs), added to performance as the stock declined owing to concerns of consumers favouring other brands. The risk of lower market share was a key aspect of our investment thesis for shorting the stock.
A holding outside the consumer sector that also proved rewarding was the position in COSCO Shipping Energy Transportation (“CSET”), the largest global oil tanker operator. CSET benefited from tailwinds associated with a recovery in oil demand as air and road traffic regained momentum.
Conversely, the lack of exposure to Chinese online retailer PDD Holdings and an underweight stance in internet and gaming giant Tencent Holdings held back relative returns. Tencent’s share price was further boosted as it received new game licenses from the Chinese regulator at the start of this year. This type of news, such as the issuance of new gaming licenses, has been another signal that regulatory pressures on the internet sector have eased.
Within financials, shares of credit facilitator Lufax Holding declined, triggered by concerns over fintech regulation, deteriorating asset quality and heightened risks about a de-listing of its American Depositary Receipts (ADRs) shares. Nonetheless, we feel Lufax remains substantially undervalued and provides upside potential given its leading position in small and medium-sized enterprises’ (SMEs) online lending. Further, it is likely we will see an easing of regulatory headwinds, albeit they will not completely disappear. Challenging market conditions and weak sentiment in 2022 also negatively weighed on the performance of third-party wealth management company Noah Holdings. Despite these challenges, Noah’s assets under management remain resilient. It continues to grow its client base, positioning itself for robust growth. Its strength is underpinned by structural tailwinds from growth in the wealth management sector in China amid rising household assets and its shift into alternative capital market products.
Within the IT sector, a position in Chinese data-centre operator VNET Group detracted from returns amid some corporate governance concerns – notably, privatisation offers and then the forced selling of the founder’s pledged shares by a large shareholder. The company remains undervalued from a fundamental perspective and its core business remains resilient as evidenced by its recent huge order win from a new, sizable and well-regarded client. Finally, it is worth highlighting that the holding in AI (artificial intelligence) software maker SenseTime weighed on performance owing to issues over a higher loss ratio and a lack of standardisation in scaling up the business. We closed out our position in the company in the third quarter.
FCSS : End to zero COVID policy and gearing boost Fidelity China