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Martin Lau: Now Is a Better Time to Buy China

An esteemed investor in Asian equities discusses what to make of the Chinese government's recent market interventions and whether China's sell-off represents a buying opportunity.

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Our guest this week is Martin Lau. Martin is a managing partner of FSSA Investment Managers, part of First Sentier Investors. He's been at the firm since 2002 and is the lead fund manager of various FSSA strategies, including the FSSA Asian Equity Plus Fund, the FSSA China Growth Fund, and the FSSA Hong Kong Growth Fund. Martin has been in the investment business for nearly three decades and is based in Hong Kong. Morningstar's analysts have recognized Martin's achievements on a number of occasions, most recently in 2020, when they named the FSSA Hong Kong Growth Fund the winner of the Best Hong Kong Equity Fund Award. Martin earned a Bachelor of Arts degree from Cambridge University, as well as master’s degree in engineering from Cambridge. Martin is a CFA charterholder.

Background

BioFSSA Investment Managers

Morningstar Global Fund Report: FSSA Asian Equity Plus Fund Class I

FSSA China Growth Fund Class I

FSSA Hong Kong Growth Fund

Portfolio Management and Investing in China

Some Chinese Stocks Are Starting to Look Like Bargains. Where to Look,” by Reshma Kapadia, barrons.com, July 12, 2021.

Tencent’s Margins Are Going Down, and That’s Great News for Shareholders,” by Billy Duberstein, themotleyfool.com, May 23, 2021.

Chinese Internet Stocks Are Riding on China’s Rising Self-Reliance and Policy Changes,” seekingalpha.com, June 13, 2021.

Didi Global Considers Going Private to Placate China and Compensate Investors,” by Jing Yang, wsj.com, July 29, 2021.

Factbox: From Education to Bitcoin, China’s Season of Regulatory Crackdown,” reuters.com, July 27, 2021.

China’s New Rules Raise Risks for Private K-12 Education Companies,” fitchratings.com, June 17, 2021.

Tap Into the World’s Fastest Growing Markets by Investing Into High Quality Companies Driving Sustainable Growth Outcomes,” by Martin Lau, fssaim.com.

Companies Mentioned in This Episode

Tesla
Tencent
DiDi
Alibaba Group
Apple
Google
PetroChina
China Mobile
Industrial and Commercial Bank of China
JP Morgan
Wells Fargo
China Merchants Bank
Kuaishou
ENN Energy Holdings Limited
Nike
ANTA Sports
Fila

Transcript

Jeff Ptak: Hi, and welcome to The Long View. I'm Jeff Ptak, chief ratings officer at Morningstar Research Services.

Christine Benz: And I'm Christine Benz, director of personal finance and retirement planning at Morningstar.

Ptak: Our guest this week is Martin Lau. Martin is a managing partner of FSSA Investment Managers, part of First Sentier Investors. He's been at the firm since 2002 and is the lead fund manager of various FSSA strategies, including the FSSA Asian Equity Plus Fund, the FSSA China Growth Fund, and the FSSA Hong Kong Growth Fund. Martin has been in the investment business for nearly three decades and is based in Hong Kong. Morningstar's analysts have recognized Martin's achievements on a number of occasions, most recently in 2020, when they named the FSSA Hong Kong Growth Fund the winner of the Best Hong Kong Equity Fund Award. Martin earned a Bachelor of Arts degree from Cambridge University, as well as master’s degree in Engineering from Cambridge. Martin is a CFA charter holder.

Martin, welcome to The Long View.

Martin Lau: Well, thank you, Jeff.

Ptak: Thank you so much for joining us. It's a real pleasure to have you on the podcast. You're a very accomplished investor but might not be as familiar to some of our listeners here in the U.S. You were trained as an engineer but found your calling in managing portfolios. To get started, can you talk about how you began your career in investment management?

Lau: Thanks, Jeff, for the time and for the question. I think you're right. So, when I went to university, I didn't think about becoming a fund manager. In fact, I chose, as you said, engineering. I studied in the U.K., I studied at Cambridge. So, when I first went there, I was just thinking, I like mathematics. I like analyzing things, and I like building things, not necessarily building portfolios, but building bridges and robots and things like that. So, I started with engineering when I was in university, and as you know, Hong Kong was and still is a financial center. So, I started to develop an interest in more like management and financial stuff. So, as the university years progressed, I was moving myself more to economics, management, and statistics and things like that. At Cambridge it was, and still is, a pretty flexible course, in terms of the things that they taught at that time. So, it was really random. And, of course, when I graduated, I was really thinking about what impact could I have, both for myself, maybe a bit financially and maybe a bit the opportunities. In Hong Kong there weren't and there are still not as many opportunities from the engineering side. So, Hong Kong is not like the U.S. Silicon Valley, and so on, as you probably know.

I just started with fund management. And one of the things which I was attracted to was, it's very transparent. So basically, I didn't, and still don't have, any kind of networks and relationship, and I'm actually from a relatively, or fairly normal, family. I think it just strikes me as a career where if you put in the effort, your results are actually very transparent. And, of course, over the years, I've been blessed as China actually emerged. When I joined the industry China was basically 0% of the world index. So that was before China started opening up. And as of today, of course, China is probably 10% to 15%, of the world index. So, it's been a very rewarding process.

And I will say the other thing, which I was attracted to, it's a very people-driven industry. There are not that many people. First of all, within the fund management firms, it is not like your engineering firm where you might have hundreds of engineers or thousands of engineers, and it's a very concentrated people-driven industry. And you've got the opportunity to interact with not just very talented colleagues or team members--more importantly, you've got chance to talk to CEOs. When I first graduated, I had the chance to talk to different CEOs, Chairmen, CFOs, and so on. So, in the very early years, I've had exposure to talk to very interesting people. And I think that has been, even up to today, a very interesting and enjoyable part of my career.

Benz: What formative experiences or professional influences shaped you into the investor that you are today?

Lau: Yes, that's a very good question, Christine. I will say, I think that's probably partly because I was trained as an engineer, and partly because I'm Chinese. I'm more sensitive to numbers. And I will say the training for engineers is not so much the accuracy of the number itself. Often, a mathematician might come up with two decimal places, and for engineers, someone with an engineering background listening to this call, they would agree it’s probably about the right kind of number is often sufficient. So, I think that kind of sensitivity to numbers. Also I observed over the years, is often it's about common sense. So you might build a lot of models and you might calculate, and you might hire a rocket scientist and things like that, but then ultimately if you look back to the past 10-20 years, and often it’s obvious with hindsight. But often when you look back, a lot of things are pretty obvious things. For example, lot of subprime mortgages in the U.S. when you saw there was a long queue or people rushing to do certain things like during the tech bubble, or to buy a China stock.

And often that observation, and I guess the sensitivity to the numbers, have really helped my career over the years. And I will say the more so on that one is, I think often in our industry, we have a lot of extremely talented people. And I will say most of them are actually more clever than myself. I guess it's more about how you try to pull yourself backward and have more thoughts about what's going on and take more distant observation on the markets, and things like that. So, I think those would be, I would say, some of the influences on myself basically starting off as an engineer.

Ptak: I wanted to shift to talk about a form of engineering, which you alluded to before, which is portfolio construction. If someone who knew nothing about you was trying to surmise your investment philosophy and style only by examining the portfolios you manage, what do you think is the most telling thing they'd observe? And then the other hand, what do you think they would find that's meaningful for its absence?

Lau: Yes. So first of all, starting from day one, we have had this belief when we started the team together about 20 years ago--or more than 20 years ago, essentially more like 25, 30--we wanted to make sure that, first of all, when we build a portfolio, we build it as if we are doing it with our own money. So we look at the portfolio as a steward of our own and our clients' capital. What I mean is, unless you're really confident about something, you shouldn't really do it. Often in the investment world, you have a lot of feeling, especially in relative terms, you feel that you should buy some, let's say, Tesla, because you know other people have got lots of Tesla and Tesla share prices are going up, for example. So, I think we make sure when we build the portfolio it’s based on conviction; it’s based on if you do it with your own money, what would you do. And also, another thing that we do on that note is that we don't look at the index. And, in fact, if you look at our portfolios across the board for FSSA, we typically have active share of more than 90%. In fact, we have been very proud over the years, as in, we haven't owned certain stocks in the market, which at one point might have gone up, let's say 10 times and subsequently fell by 90%.

And I think in portfolio management, when I say when you try to construct a portfolio, over the years what we've learned is also that performance, not just come from what you own, but the longer you try to draw the time horizon, it's more about what you don't know. The fact that you've managed to avoid certain pitfalls and certain bubbles along the way, as I said, often when you look back, a lot of things are very, very obvious with hindsight. And I think the other thing, which when we build the portfolio, we also want to come up with an ESG perspective, and we are not saying this because nowadays people talk about it a lot. What we have always told our team members is when you invest into your portfolio it is not just about the return, it is about whether this is the right thing to do. And it's also about your responsibility as a shareholder. So, if someone asked me, explain your portfolio, we typically can explain very much as in why we own them, why we want to be shareholders of them; not just because of the attractiveness of their businesses, but also because why we believe they're responsible companies in their respective fields.

And also when people ask about our weighting, and again, we can very easily explain as in we are more confident about the stock in different ways, and therefore we have a high weighting rather than just saying that we are 2% overweight or 3% overweight, and so on. So, I think these are the things that we typically do when we construct our portfolios.

Benz: We're going to dive into other aspects of how you run money, but before we do that, we should discuss China. You're a seasoned investor in the Chinese stock market, which has sold off in recent months. I believe you've said that the best time to invest in Chinese stocks is when everyone thinks they're bad. So, is this one of those times? And if so, what has your team done in response?

Lau: Yes, that's a very timely question. And thanks for that, Christine. I think you're right. First of all, I'm Chinese myself, and as I said, I was educated overseas. And I will say, half of my brain is kind of Chinese and half of my brain is Western, if you want to call it that way. And typically, I would find it quite interesting that from time to time, let's say, the Western world, and put it this way, a lot of the marginal investments into China are still driven by foreign capital. So, the Western world, typically, will have some kind of imagination on China when exactly I would say, three to four years. So just before two months ago, the consensus was pretty much positive across the board. So if you ask people, at the end of last year, what are the best investment opportunities in the whole world, and quite a few of them, and including some of the very famous tech investors in the U.S., they will say China. They will say, China electric vehicles, China Internet and China delivery, Internet platforms, they're as strong as the U.S. ones, and so on. And so, the consensus was pretty much buying China and that was on the back of China being the best-performing market last year.

And if you count the Asia markets, China actually has been the best-performing market globally for two years in a row up to the end of last year. So, the Western view, or the general view on China, typically moves in cycles; of course, after a few months and triggered by some regulations on Internet and lately regulation of the education industry. The sentiment took a U-turn basically. I was talking to someone yesterday, and he was comparing China to Russia, and with all due respect to those people from Russia, saying: you basically cannot rely on and don't know what's going to happen tomorrow. And there's so much political risk, and you should just forget about the market. Yesterday, we saw a huge selling by foreign investors. So, I can understand that, as I said, I'm kind of, if you want to call, half-Chinese and half-Westerner.

From my point of view, China has never been as great as you think. And China is probably not as bad as you think also. So, my view is regulation has always been there. Does it surprise you that the Chinese government is a very strong government and probably has become stronger in recent years, as you can see from the interactions that China has had with other countries. And China has always been very top down and interventionist. And, to be fair, the financial thing happened in the middle of last year. So, I think people are all of a sudden waking up to the fact that there's actually top-down policy risk. From our perspective, the fact that markets are aware of risks is a positive. And the same thing goes with the inflation interest rate. You might think that we never have a view as in whether interest rate is going to rise and how much and when, and if we do, we have been wrong for 10 years anyway.

But we often view, whenever markets are concerned about inflation, concerned about interest rates, and now concerned about China, it is actually a good thing. Because at the end of the day, the best time to buy a market or to buy something, is when the risk premium is high, when people don't actually believe in certain things. So, I do think, compared with, let's say, one or two months ago, now is a better time to buy China; but then, as in whether you should buy China, instead of other things, you can debate. But we've always held the view that, as I said, we are long-term investors, we focus on companies. If we say the same company--that we've always liked--if the share price I'd say over the last few days has fallen 20%, everything being equal, it is actually more attractive. The risk/reward is actually better to buy the same stock today as compared with, let's say, two weeks ago.

So I think this is actually the time to test our confidence, or investors' confidence, and, in fact, whenever people are scared or whenever things are uncertain, like last year with COVID, is often the time to test your confidence on the stocks that you actually own. We are a strong believer that share prices follow earnings. So, if you tell me today that you are very confident about a company, whereby the earnings would be, let's say, 50% higher in five years’ time compared with today--and today is actually quite attractively valued--I would say the return from that stock would have very little to do with whether China is tackling one or two industries today. So really, at the end, you need to believe that share prices follow earnings. And we are bottom-up investors who try to find companies that we believe that is going to be the case.

Ptak: That all makes sense. I do want to ask, though, if any of the assumptions that you might have made formerly about the state of the public/private partnerships, so to speak, in China, whether those have changed any ways that's had implications on the way you pick stocks or structure the portfolio? But it sounds like you're still relatively sanguine. And I think that you were sanguine even earlier in the year when regulators were cracking down on some of the monopolistic practices in the e-commerce space. I think you had pointed out it was already quite competitive. And if it grows, and even if growth slows, it could spell for larger profits for the players in that space. And I don't know if you feel the same way, or whether you think that the recent events that have unfolded have changed that thinking even in somewhat modest ways?

Lau: Yes. Our views on this public-private partnership, or to describe it in another way, let's say state-owned companies versus private companies, over the years has actually changed. When I first started looking at China, it was basically all state-owned companies. So, everything was controlled by the state; almost all the listed companies are Chinese companies. And then the problem is, of course, the misalignment of interest, the lack of incentive, and often state-owned companies are typically more focused on expansion or revenue, rather than return in profitability or shareholders. And then the private companies started to emerge--the likes of Alibaba, Tencent, and actually many more on top of that, and typically, they are entrepreneurial, they are more driven, they are more focused on return. It is their own business, so they actually care about cash flow and return and everything. And, of course, from time to time, they took too much risk. And, of course, from time to time, there was also government intervention.

If you look back to the past, even before Internet happened, it was actually quite common that certain businessmen, let's say, got arrested and subsequently the business failed. For many years, we were actually looking for entrepreneurs and strong, private companies that are driven with the right culture; they want to achieve something and do something in China. And to a large extent, let's say, if you look at Tencent, which we've been a shareholder since 2005--it's been a phenomenal achievement. We saw that growing from a small company into a gigantic company. So the process has been extremely rewarding. However, over the last two years, we're starting to see some changes. And these changes happen before the recent scare over the intervention. What we've seen is, first of all, I will say the companies have become very big. If you look at DiDi, they dominate ride sharing; you look at e-commerce, Alibaba dominated and still dominates the e-commerce space with 70% plus market share.

First of all, there's a question about dominance, even without the intervention from the government, where is the extra room for growth? So, we have been looking at, let's say, the results from Apple, which just announced results last night and results from Google, and so on. They all reported pretty decent results. However, if you look at the Chinese companies, even before the Chinese government intervention recently, they are starting to see some enlarging pressure because there are quite a number of big companies and they have been competing with each other. When China already has more than 1 billion e-commerce or Internet users. So, basically, China just has 1.3 billion people. So, you're really competing for the very marginal extra new users and it becomes very, very competitive.

So, I will say before that we have been thinking about the whole thing and, and I think on the intervention, what we've also seen, and I think this intervention is also cyclical. And I'm going to explain where they start. What we've seen is Chinese government, I think for many years people would say Chinese government is certainly the most capitalist, even though they call themselves socialist or communist. And they are very pro-business. And when Deng Xiaoping, which is the first leader who opened up China said, we need to let a small group of people to become wealthy first, and then that really triggered all the reforms. But then in recent years, obviously, it became more socialist. I will say this is actually not just a China phenomenon, it is probably a global phenomenon as well. The government started to question more about the rights of employees, the rights of workers, the rights of small businesses. And therefore, you see all these kinds of measures, which are targeted at the more monopolistic companies.

I would say this is actually a quite a big change, and this is going to stay for quite some time. When I say this is cyclical, for all governments, economies, and things like that, so these things come in cycles. So, when we started off, you probably have very little regulation, and certain companies became very, very successful. And then whenever the companies become big, of course, the politicians or the government would start to concern, and this is a global phenomenon also. And they would start to regulate, intervene, and so on. When they overdo it, there's a case that they have already overdone it a bit, and then they will observe the market. They observe the capital being raised, and subsequently capital being raised is still important for the economy. And then they would also adjust.

So, I think the regulators are also learning along with investors as to how to adjust for this new kind of thing that some of these companies have become so big. So, my view on this one is, it's an ongoing thing. The education regulation was a surprise, even to us. It has been very, very strict. I guess that's also a wakeup call for people to look at China. There are certain risks which are attached to China, because China is a very top-down country still. I think investors will still adjust and just move forward.

Benz: You define risk as permanent loss of capital that's increasingly uncommon in the fund world where relative measures of risk, like standard deviation or tracking error are more dominant. Why did you decide that that was the right approach to take?

Lau: Yes. So, as I started out, we encourage people to look at our portfolios as our own money. So if you manage your own money, what do you care about most, is a steady capital appreciation on a decent, attractive risk-adjusted basis. You probably don't care about the benchmarking; you probably don't care about tracking error, which is relative volatility versus the benchmark. So, I think that's the case. And also another thing what we've observed over the years is, when we start to pick companies, one by one, from a really bottom-up perspective, without any reference to the benchmark, we subsequently found that, first of all, our portfolios are actually less volatile than the benchmark. So again, if some people define risk, as in, try to reduce your relative risk to the benchmark. And if the benchmark itself is more volatile, you are wondering why you're trying to reduce risk by following something which is even more risky or volatile than itself.

I think the other thing is, if we try to reduce the tracking error, we've always believed the benchmark is the last thing that you look at. And I think for the fixed-income world, it's probably easier to see it that way. We've tried to follow the fixed-income index. You're trying to buy more of those debts of the most indebted companies. So, by definition, if you owe more money, you have a higher benchmark weighting and you should buy more of that. It doesn't make any common sense. And the same with the index. And if you look at the China index, if you look back to the last, say 15 years, PetroChina, may sound quite surprising. Now we tell you that PetroChina about 10 years ago was actually the largest stock in China and also one of the largest stocks in the world. And that was when oil price was $150 and above. And if you look at the end of last year, oil was probably about 1% of the MSCI China.

So if you try to follow the index and try to buy into PetroChina thinking that you're reducing the risk for your clients, or even for yourself, because you're following the benchmark, you basically would have lost a lot of money. And the same with ICBC--it used to be the largest, and China Mobile used to be the largest. And there's a rule of thumb, at least in China universe, and I think this is also global, you can also apply that as well--whenever a company becomes the largest in China, you need to be really concerned. It happened with China Mobile, it happened with PetroChina, happened with ICBC, and last year it happened with Alibaba.

I think there's really no reason why you should follow the benchmark or try to look at tracking error and things like that. It has always been the approach. And I think we've proven--hopefully, and I think we have--that approach has actually generated a very steady return over the years.

Ptak: It is remarkable. And one of the things that's most striking, and I could be wrong about this, is that your portfolios tend to be pretty fully invested. I think Christine and I think about absolute return-oriented equity investors--they tend to have a big slug of cash in the portfolio. It's just always there--that anchor of cash that's in the portfolio, but that hasn't tended to be true of your portfolios. Furthermore, when I look at the portfolio, whether high-quality businesses, they're not screamingly cheap, at least not from a value-purist standpoint. So I wonder if you could talk about how you build risk management into security selection and portfolio construction? I would imagine that one of the things that you probably feel like you do to fortify the portfolio is editing out all of those things in the benchmark that you don't want to own because they don't pass your screens. But what about the things you do own when it comes to security selection portfolio construction? How do you fortify the portfolio against loss of capital?

Lau: First of all, the cash, I think you're right. I would say that's partly personal behaviour. Often, when I look at cash, it's a derivative of what you think about markets. Basically, if you find a company, which you believe can generate good return over the next five years, we take a five-year-and-above view on every single company. That by definition, especially under the current interest-rate environment, would outperform cash. Of course, alongside that would also be risk. The cash is derivative, and it is basically a function of whether you find the sufficient number of companies that can generate an absolute return over five years.

The result of that has been, I've had very little cash over the years. Another thing which I've also learned, and, of course, you're right, cash can preserve capital when markets fall. But at least based on my experience, and what we've found is we basically have very little ability to time the market. I'm sure you can get this data from all the fund managers that you monitor. I would suspect that the cash level is actually a coincidental indicator versus the market. So whenever you're concerned, and then you raise your cash level, and then by the time you maximize your cash level, that's basically the trough of the market.

So, I would argue, there's relatively little value added for managing the cash. And finally, what we've also found, and this is a more philosophical question--when our clients, let's say they buy the China fund, or the China fund that I manage, they have already taken the view that they want to invest in China. In a client meeting, we want to scare the clients as much as possible. We want to persuade them, China is the last thing that you want to buy. If they still have made up the decision that they want to buy into China after listening to all the scary stories that we've told them, in a way we shouldn't really hold cash on their behalf, because they have already made the decision that they want to allocate us, usually a small percentage of their portfolio into China. I think there's also a philosophical part, and we charge fees on everything--the whole portfolio--and whether you should really be holding cash when your client has already decided that they want to invest into a sub-regional market.

So with that aside, I think you're also right, as in after you are fully invested and generally if valuation is not attractive, as we all know, and how to try to minimize risk. Or how to try to look at risk, if you're already fully invested. I think that's a very good question. First of all, I will say, there's always a point about diversification. So, let's look at the market today. Education stocks have fallen 99%. And Internet, and some of the software-as-a-service companies have fallen by, let's say, 30%, 40%. At the end of last year, when we look at the portfolios, our peers' portfolios, and you'll be surprised how similar they are. Basically, for the last two years, there's been a competition for how much technology shares you actually own, how much high-growth stocks you actually own. Your performance is a function of how many electric vehicles, how many and how much, some of the most popular stocks that you own. And you see everyone being very concentrated into a small number of roughly five to 10 names, and everyone is doing the same thing.

We've always believed the portfolio should be reasonably diversified. You can actually reduce your risk by diversification, as in whether value and downside protection. That's also a very interesting question. So definitely, by definition, a lower-valued, a cheaper stock would have less downside protection. But then, because of the very low interest rate for more than 10 years now, anything with a decent quality, the chance is that is not as cheap as before. So, when we build a portfolio, we really look at every stock individually, and we come up with what we call the fair market values. So we take a five-year-old view and look at them individually, and try to look at the upside and downside. But, you're right, if you look at the valuation as a whole, it is not as cheap as, let's say, compared with 10 years ago.

Benz: We wanted to switch over to discuss investing in high-quality companies. Would you say competitive advantages are as durable now as they were before? And if they're not, how has that changed the way that you pick stocks and manage risk in your portfolios?

Lau: Yes, thanks a lot, Christine, for that question. I think our view on competitive advantage is, and the way that we define them, is actually durable. Whenever we look into a company, one of the key things that we look at, let's say a financial company or bank, is the competitiveness or the cost of funding. So, which we believe is by far the most important for a bank. And typically, if you look at such competitive foundation for a bank, let's say, if it’s JPMorgan or Wells Fargo, has a low funding cost. And the same goes with China Merchants Bank, which is one of our major holdings. It's actually very sustainable. It's related to your branch networks and it is related to your customer base. And a lot of factors go into that and it doesn't really change that much. And the same goes with let's say, we go into buy a manufacturer and there are plenty of manufacturers in China as you know. China is essentially manufacturing country. We would typically look at their cost base as compared with their peers. So, usually because of scale or because of management and because of the way they look at processes and apply technology, and so on, it is also quite durable.

And I think, of course, certain competitive edges. I think the least durable--and we've never invested based on that--is probably something which is, first of all, quite an improvement or quite new, let's say, video streaming, which is a recent phenomenon in the last two years. There's a very popular company, which is called Douyin, of the TikTok in the U.S., and there is actually another company, which just recently listed called Kuaishou, which is also about video streaming. Because of the short history for both the companies and also for the industry itself, it is a lot more difficult to judge on the competitive advantage and how durable it is, because there are simply not enough data points for you to make that decision.

And usually for our investment process, as I say, we are relatively conservative; we take individual views on stocks. If we're not certain about the competitive advantage, we would simply not buy. And another advantage that we have identified in China over the years, which we have never invested or relied upon, is the advantage based on some kind of licensing, or some kind of relationship. As I said, policy keeps changing. So, you might have a good relationship, less common these days, but in the past, some businessmen could build a very big business based on a strong relationship with somebody in China or other countries. And you never know, with that kind of relationship or licensing change, you basically have nothing else to rely upon. And we have observed this in India and in other emerging markets, too. So that's the last thing that you want to build your investment case upon. But usually, if you build upon it on some kind of cost, as I said, with banks and with manufacturers, it is quite sustainable.

And then last thing that I want to highlight is also when we invest, we also look at the people a lot. If there's one thing that is the most important when we make our investment decision is actually on the people. So often we look at the reasons behind the cost-competitive advantage, and usually it is related to some kind of management, who are really forward looking, who are really nimble, who are actually innovative in terms of mindset, know how to apply technology, will never feel complacent. And we would also feel relatively comfortable that they are actually our stewards. So, we rely upon them to keep changing so that their competitive advantage can be maintained.

Ptak: You mentioned the importance of management. I know that's something that you and your team spend a lot of time analyzing, evaluating. It's pretty apparent from your holdings, which management teams you hold in high esteem. But maybe you could talk about an example of a name that you think is exceptionally well managed, but just hasn't gotten cheap enough for you to justify taking a big stake. Are there any stocks that jump to mind that fit that description?

Lau: There are actually quite a lot of strong management teams in China. The stock market basically happened about 30 years ago. So, as I said, when I started off in investment, I was lucky enough to be among the first generation of fund managers in China. But what I'm trying to say is China still has a lot of first-generation entrepreneurs, the likes of Steve Jobs, if that makes any sense. They're really driven, they are really capable. Sometimes they take excessive risk. And sometimes they don't agree with what they do. But there are actually quite a number of such companies. And by definition, if you look at our top holdings, and because, as I say, we build everything from a conviction perspective, and we say we focus most on people. The top 10 holdings will reflect the companies whereby we believe have the strongest management team.

I will use one example of the top 10 holdings. One example, as you say, too expensive and maybe if it gets cheaper then we can have a chance. Among the top 10 holdings there is a company, I wouldn't use the common ones like Tencent because that’s too boring. There's a holding called, ENN Energy. When you look at the company--and we've been a shareholder for more than 15 years—and you look at the company and say, why are you looking at energy? It's basically a natural gas distributor. And the reason why we like it is because the company keeps evolving. So, they started off as natural gas distributor, and over time they have evolved into different kinds of energy solutions. And lately, there's this question as in, what's the future of fossil fuels and whether renewable energies would take over the world and hydrogen and so on.

As we keep engaging with the company, because we are shareholders and discuss with them--we just find that they constantly think about what the next challenge could be and what could be the next opportunity. And over the last few years, they have built a business called the Integrated Energy Solution business--which I won't go into details, because this is not the right forum to talk about details--but that kind of mindset of constantly worrying about the trends and constantly thinking about the opportunity, and so on, and doing so, over the course of the last 15, 20 years, makes us really believe in the management.

Another thing is, of course, as we engaged with this company over the years, they listen, so they are very forthcoming in terms of discussing and accepting mistakes. So, a bit like fund managers, who probably want someone who constantly reflect and learn from their mistakes. It's a company that we have a lot of confidence on. I will highlight one, which is more on the expensive side, but if it falls then maybe it's more interesting. We are actually shareholders in a small way. There's a company called Anta Sports. We've looked at Nike and how successful Nike has become over the years, and, of course, there are many, many books written on Nike.

We've constantly thought about what could be the Nike in China, and, of course, as of today, Nike in China is still Nike. So, the most popular sports brand. But we do think that's going to change over the course of the next 10, 20 years. We believe that's a function of national pride, which of course is for good and for bad has been increasing in China. And we look at Anta Sports--they've actually done a lot of good things over the years. They've made a number of good acquisitions. They acquired probably too much in the details and into something called the Amer Sports. They acquired some really strong brands in the world, like Columbia, like Wilson, and tried to introduce them into China. They've done it with Fila, which is also a very successful brand in China, and being from the U.S., you probably will find it quite difficult to understand, because I know Fila is not as strong in the U.S.

It's a company that has done quite a few big strategic moves, which makes a lot of sense over the years, and has got a phenomenal track record since the company was founded. But then we come to price--as of today is actually more like 40 to 45 times depending on which year you're looking at. And sportswear is a very, very popular industry for investors at the moment. We're a little bit mindful about that. But in terms of the management, I would have you put it right up there, along with maybe another 10, 20 companies in China.

Benz: Our colleagues shared that one of the things that impresses them about you is your hunger to learn new things; you're not complacent. Can you talk about how you go about determining areas of study and the ways in which you would try to avoid confirmation bias intruding on that process?

Lau: Yes. First of all, thanks a lot for the compliment from your colleagues. I think the confirmation bias is a very interesting comment. So what we found, and we discussed yesterday is, if you talk to industry experts, you talk to analysts, often you try to find data points and evidence that support your own view. So, let's say we have had some study on the education sector, for example, and we look back to the past analysis, because you're part of the system, you're actually being affected by what's going on at that point in time and also you try to talk to people that want to confirm your view. I think that's a very common behavior for fund managers.

First of all, the challenge rather for myself being not a young fund manager is that there are so many new things. So, I just talked about video streaming and I needed to go to my colleague, and I deliberately put two youngest colleagues within our team sitting next to me, so that I can look at how they do video streaming. Actually, one of them set up a shop and painted and sells stationery--but not from the company, from her own pocket, just for fun. And by doing so you actually learn about how young people behave. And I think it's fair to say the best business opportunities come from the younger people. So, I think that's how I try to learn.

There are also so many new industries that I have never come across myself. When I was younger, it was all about banks and properties and consumer companies, and these days you have biologics, you have technology, and to complicate it further you have electric vehicles. And to complicate it further, electric vehicles have different types of battery technologies and different types of components. And to complicate it even further, within the components, they're dry type and different type of separators. I think the challenge, and I will say this as a team, is how to constantly learn along the way, absorb new things, and assimilate all those new things. Often the new things could be a bit of noise, so assimilate all those data and new things, and subsequently and finally make an investment decision.

Yes, I think learning is very important. How I try to do that. I have three kids, so that helps a bit. For example, recently I bought a book--I just bought it yesterday--and it talks about an easy way to understand different sciences. It’s a very popular book--I cannot tell you the name off my head. I hope, by reading that, I would have some kind of understanding. And usually fund managers, you don't need to have really, really deep understanding; you need to have some understanding of different things. I also before last year, I read a book about medicine. And I bought one of these pocket encyclopedias from Oxford Press, around 200 pages, maybe 100, small book on medicine. And I try to understand, what's the difference between biologic drugs versus chemical drugs? And what is the difference between alcohol and drugs. Actually alcohol used to be drugs, and opium, and cocaine, and things like that.

And that helps me. Then I start to understand a few of the companies that we were invested into a bit more, because I'm an engineer--electrical, geotechnical--I've never studied much into biology. And so, I think by reading more, it also helps different ways.

Ptak: For all your team's talents, how do you work with it to form a collective understanding of what its strengths and limitations are?

Lau: Yes, that's a very good question. And in fact, with COVID--and I'm not sure about America--in COVID what happened is that people started working from home. And within our team we have 25 people, and we have people from nine different countries, and most of our team members have not seen their family for one and a half years. Why I'm saying this is I think all along we have always been proud to have a very stable team. And I think that has been one of the most differentiating factors between us and our competitors. And, as you know, fund managers often when they feel they are capable to leave and set up their own companies and so on. So, we haven't seen much of that happening. I think the strength and weakness of our team is, let's call the strength first. We've always tried to maintain an interesting mix and balance within the team. You mentioned about confirmation bias. And I think within the HR kind of world, or psychological world, there's a tendency that you hire people who are like yourself and who agree with yourself. And if you are Chinese, you hire Chinese; if you are American, you hire American; if you are Indian, you hire Indian, and so on.

You try to hire people that make you more comfortable, because they keep saying that you have done a good job and well done, great work, and things like that. And what we've done is, we probably try to maintain an interesting mix. And we don't want the team to be too Chinese. And we don't want the team to be too Asian. They start to see the Asian and Chinese are no good. But then you probably want some of the different perspectives. As I say, typically, market is a combination of different perspectives. Some, let's say, China or Western perspective on China and a Chinese perspective on China. So that has always been our strength, and from time to time, some of our less-knowledgeable colleagues on China would remind us of the risk in China. Let's say education--if you're not from China, you would actually find it very difficult to invest into education. And the reason for that is basically you cannot find another company anywhere in the world probably, with the exception of India, where there is a company called Byju, which is up and coming.

It's not a fragmented industry. Is it fair to say that, how can you extrapolate certain growth? So, it helps, and it's in the challenges and weakness also, because we encourage everyone to debate and encourage everyone to be different, to speak their minds. Often, we call ourselves butterflies. So, we're not very organized and we ask everyone to be different. When you have 10 butterflies in the room that is probably quite beautiful. When you have 10 butterflies in the room it's probably become quite difficult to manage, and if you have 30 you probably want to jump out of the building. So, I think it's also been a challenge, and especially with the COVID, working from home--how do you maintain the trust and communication within the team is very important.

So I think ultimately fund management, as I said earlier, is about a small group of people, how you trust each other and work with each other, and try to establish the common sense that manoeuvres you through different bubbles and cycles and fear and greed and so on. I think we've been quite lucky, as in we've got a very stable team that we believe we trust each other. We just had dinner together last night, so at least up to last night it was OK. And by the way, Hong Kong is not too bad with COVID, so we could actually do that. I think maintaining that would be a challenge. And that has always been the case.

Ptak: Martin, this has been a very enlightening discussion. Thanks so much for sharing your perspective and insights with our audience. It's it's really been great. Thank you again.

Lau: Thank you, Jeff. Thanks, Christine, for your time also.

Benz: Thank you so much.

Ptak: Thanks for joining us on The Long View. If you liked what you heard, please subscribe to and rate The Long View from Morningstar on iTunes, Google Play, Spotify, or wherever you get your podcasts.

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Benz: And @Christine_Benz.

Ptak: George Castady is our engineer for the podcast and Kari Greczek produces the show notes each week.

Finally, we'd love to get your feedback. If you have a comment or a guest idea, please email us at TheLongView@Morningstar.com. Until next time, thanks for joining us.

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