10 Plays on China's New Five-Year Plan

04/04/2011 7:00 am EST

Focus: GLOBAL

Jim Jubak

Founder and Editor, JubakPicks.com

The Chinese government’s latest policy outline should lead to a much larger consumer economy and more manageable—but still ambitious—growth over the next five years. However, a new China brings plenty of changes to the country’s investing dynamic. Here, I give you ten stocks to consider.

Meet the new and improved China.

The government released the draft of its next five-year plan—its 12th—on March 5. The plan includes soaring goals written by numbers-obsessed bureaucrats (3.3 patents for every 10,000 people, for example). It also commands the uncommandable, such as improved democracy.

This latest plan lays out a major shift in the Chinese economy. It calls for slower growth, increased domestic consumption, cuts in water and energy consumption per unit of GDP, a shift toward a service economy, an increase in urbanization and a 13% annual increase in the minimum wage.

Here are some of its major themes:

  • Slower economic growth. The plan calls for reducing annual GDP growth to 8% this year, and to an average of 7% a year over the five-year period. That's a big change from the 10.3% growth in 2010.
  • Faster income growth. The goal is to increase household incomes by 7% a year, on average, over the period of the plan. One way to do that is through a 13% average annual increase in the minimum wage. Another way is to create millions more jobs in cities. China has set a goal of increasing its urbanization rate 4 percentage points, to 51.5%, over the five years.
  • More housing. The plan calls for the construction or renovation of 36 million apartments for low-income families.
  • Larger service sector. It also seeks a shift in the economy, from exports and manufacturing toward domestic consumption and the service sector. Under the plan, the service sector is to grow to 47% of GDP, an increase of four percentage points.
  • Better retirement benefits. Under the plan, pensions would be created to cover all rural residents and 357 million urban residents.
  • More efficient use of energy and water. Energy consumption per unit of GDP would be cut by 16% and water consumption per unit of industrial output would be cut by 30%. In addition, nonfossil fuels are to account for 11.4% of primary energy consumption.
  • General price stability. Inflation is now running at about a 5% annual rate.

Clearly, if you're invested in China or interested in investing in China, you should tweak your investment strategy. But how, exactly?

The final versions of previous five-year plans haven't deviated much from the draft released at the start of the meeting of the National People's Congress. So the outlines of this draft plan are likely to be very close to the final plan itself.

As I wrote in a March 7 post on my site, I don't think there's any reason to doubt that China's leaders take these goals seriously and intend to reach them. But I do doubt that they can actually deliver on all of them.

This isn't Chairman Mao's command economy anymore. It's important that investors incorporate some assessment of "commandability" in their investment strategy, to take account of what will actually get accomplished and what are just words on paper.

Next: Where to Invest

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Further, I wouldn't make too much of the February trade deficit that China reported on March 10. The timing of the Lunar New Year distorts year-to-year comparisons as it shifts between January and February. (The holiday tends to disrupt shipments, so companies compensate by ordering and delivering earlier.)

The $7.3 billion trade deficit for February, the biggest in seven years, is just about balanced by the $6.5 billion surplus in January.

Using the new five-year plan as a guide, here's my list of what is likely to happen, either because the government in Beijing can make it happen, or because the goal is aligned with the self-interests of a significant number of powerful companies and individuals. I also offer some suggestions of which companies—in and outside of China—will benefit, as well as stocks to buy to take advantage of the coming changes:

1. The Government Is Going to Build Lots of Housing
It probably won't build all 36 million units that are in the plan, and many of the units that do get built won't be for the intended low-income market, but it's in the self-interest of China's heavy-construction industry to see lots of building. It's also in the self-interest of local governments to see land move from farmers to developers.

All that construction, plus the usual heavy infrastructure investment, will keep China's demand for raw materials growing. Steel and copper consumption will continue to increase. Jiangxi Copper projects copper demand growth in China of 7% in 2011.

Stock pick: I recommend Jiangxi Copper (OTC: JIXAY, Hong Kong: 358.HK).

2. Alternative Energy Will Heat Up
The emphasis on energy efficiency and non-fossil fuels will mean continued growth for solar and wind energy companies. You've probably already figured that out.

But it should also lead to increased growth in China's demand for uranium. By 2030, according to China's National Energy Administration, China could be the world's largest importer of uranium.

China is also likely to become one of the world's biggest importers of liquefied natural gas. Last year, China's liquefied natural-gas imports rose by 69%.

Stock picks: My plays for this theme are solar-cell maker Yingli Green Energy (NYSE: YGE), a member of my Jubak’s Picks portfolio, and Australian uranium and natural-gas play BHP Billiton (NYSE: BHP), a member of my Jubak Picks 50 long-term portfolio.

3. Disposable Income Will Grow
I think we should be skeptical of Beijing's ability to shift the economy significantly away from exports and manufacturing and toward domestic consumption and services. There are an awful lot of entrenched interests making good money out of the current division of GDP.

But the government can achieve part of its goals by raising the minimum wage, which will increase the number of Chinese consumers with more disposable income.

First, I'd look toward non-Chinese companies that have figured out at least the basics of selling in the Chinese market, and that own brands with cache for Chinese consumers.

Best Buy (NYSE: BBY), which has closed its China stores, and Mattel (Nasdaq: MAT), which closed its flagship Barbie store in Shanghai, are reminders that getting it right isn't simple.

Chinese consumers remain extremely price-sensitive and brand-conscious. Best Buy's idea of selling extra services just didn't resonate with these consumers. Mattel misunderstood the current Chinese preference for cute over sexy.

Second, I would add a dose of homegrown Chinese companies that get this whole consumer/service thing.

Stock picks: For non-Chinese companies, I recommend:

  • Sanrio (unfortunately, the owner of Hello Kitty trades in significant volume only in Tokyo, as 8136.JP)
  • Leather-goods retailer Coach (NYSE: COH), a member of my Jubak’s Picks portfolio
  • LVMH Moet Hennessy Louis Vuitton (OTC: LVMUY—volume for the luxury-goods maker is decent in New York as LVMUY, but much better in Paris, where it trades as MC.JP)
  • Eyewear maker and retailer Luxottica, (NYSE: LUX). (For a closer look at this company, see my March 4 post.)

Among Chinese companies, I recommend:

  • Home Inns & Hotels Management (Nasdaq: HMIN)
  • Department-store owner and operator Parkson Retail Group (OTC: PKSGY—and Hong Kong: 3368.HK for volume, as the US shares don't seem to trade much)
  • Internet company Baidu (Nasdaq: BIDU), another member of my Jubak's Picks portfolio—also, Home Inns is on my watch list.

And speaking of watch lists, I wouldn't rush out to load up on China just yet. For the first half of 2011, I think US stocks will outperform just about all other markets.

Iwill be time to start rotating out of US stocks and into emerging market equities in May or so. For more on timing that transition, see my recent column, "Prepare for a Stock Market Curveball."

Full disclosure: I don’t own shares of any of the companies mentioned in this post in my personal portfolio. The mutual fund I manage, Jubak Global Equity Fund (JUBAX), may or may not now own positions in any stock mentioned in this post. The fund did own shares of Baidu, Coach, Home Inns & Hotels Management, LVMH, Sanrio, and Yingli Green Energy as of the end of January. For a full list of the stocks in the fund as of the end of January, see the fund’s portfolio here.

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