The $8 trillion initiative could well galvanise the country’s economy. Tom Bailey examines whether it could be the road to riches for investors.
China is currently embarking on the most expensive and ambitious infrastructure project in history. The Chinese government intends to spend up to $8 trillion (£6 trillion) over coming decades on a series of transport links and routes – a project officially called the Belt and Road Initiative (BRI).
Supposedly inspired by the Silk Road, the network of trading routes of the ancient world, the initiative, unveiled by president Xi Jinping in 2013, aims to connect China’s booming economy more firmly with those in the rest of the world, boosting trade and economic growth. China’s leaders hope that just as trade flowed along the ancient Silk Road, it will now stream along the new 21st century version.
It is not entirely clear which of China’s many investment projects are included in the BRI plan. However, it is generally accepted that ‘belt’ refers to an overland economic corridor that will be created from China’s heartlands on its eastern seaboard, across central Asia – where China recently finished construction on the largest dry port in the world – and into Europe.
The ‘road’, meanwhile, will comprise a series of maritime shipping routes linking ports dotted across the Indian Ocean, and extending to East Africa and the Middle East. Other large infrastructure projects, such as a railway line extending from the south of China through Southeast Asia, are also included in the initiative.
The BRI is intended to extend across 68 countries that encompass more than 60 per cent of the world’s population and produce 40 per cent of global GDP. So with big money being thrown at the initiative and such grandiose aims proclaimed, what does it all mean for investors with an interest in China and Asia as a whole?
Stockpicking on the Silk Road
The BRI is primarily an infrastructure project at this stage, and most work is likely to be carried out by Chinese state-owned enterprises (SOEs). With many SOEs listed on the Hong Kong Exchange, investing in these firms may be a good way to gain exposure to the BRI spending boom.
One example of such a firm is Cosco, a Chinese state-owned shipping and logistics company and a big player in the BRI. Through its numerous publicly listed subsidiaries, it owns major ports around the world, such as Greece’s port of Piraeus and Abu Dhabi’s Khalifa port, both major elements in the BRI. China Merchants Port Holdings, listed on the Hong Kong Exchange, has invested in the new port at Bagamoyo in Tanzania, which is set to become the largest in Africa. Bai Jingtao, managing director of the company, has described the BRI as the primary driver of its expansion strategy.
Professional investors, however, are wary of investing in such companies on the back of BRI excitement. Mihir Kapadia, chief executive at and founder of Sun Global Investment, says: ‘Association with the BRI does hold legitimacy for firms involved, especially as the project is strongly backed by the Chinese government. However, that doesn’t guarantee immediate returns.’ Karine Hirn, a partner at the Swedish emerging and frontier markets specialist East Capital, says: ‘Many BRI projects are debt-driven and run by stateowned companies, which are not where our strongest convictions are in China.’
Many of the firms involved are unlikely to see returns from these projects, which are driven less by commercial logic than by political considerations. Gary Greenberg, head of emerging markets, at Hermes, sums it up starkly: ‘The BRI is a strategic initiative and is not there to make money for SOEs or minority investors.’ Thus there may be reasons for investors to buy into Chinese SOEs, but it shouldn’t be on the basis of their BRI projects.
Investors may consider looking instead at Chinese firms poised to benefit from the increased trade facilitation and ‘connectivity’ that the BRI is supposed to bring. Obvious candidates would be China’s growing e-commerce companies.
Indeed, there is a growing buzz around the BRI’s potential for Chinese e-commerce expansion. A recent article in the journal Foreign Affairs notes: ‘Alibaba has framed its expansion into Southeast Asia as part of the BRI. It has acquired Pakistani e-commerce company Daraz and launched a digital free-trade zone with the support of the Malaysian and Thai governments.’ This freetrade zone, part of what Alibaba calls the digital silk road, has relaxed customs checks and promotes exports among small and medium-sized companies in the countries involved.
Alibaba’s rival JD.com plans to set up more than 20 overseas warehouses, many of which will be in BRI-connected countries. At the same time, as the Economist Intelligence Unit observes: ‘[Telecommunications firm] ZTE or [smartphone maker] Huawei will probably want to take advantage of the BRI to expand their activities into BRI countries,’ with both already involved in domestic Chinese ‘smart cities’, which will also form part of the BRI.
Again, however, stockpickers are sceptical of being able to determine any clear benefits to such firms from BRI for the time being.
Take the example of Alibaba. According to Kapadia, the firm’s talk of being part of the ‘digital silk road’ should be seen as something of a profileraising exercise. Such claims ‘legitimise investor confidence in the BRI (a win for China) while asserting regional dominance for Alibaba’, he says. Likewise, says Ken Wong, Asia equity portfolio specialist at Eastspring Investments, ‘Alibaba is using this more as a driver for something to talk about’.
While Alibaba is certainly expanding into foreign markets, the BRI is just a small part of this. ‘If you look at the growth trajectory of the company, it has embarked for new shores including major Southeast Asian countries, Germany, Italy, Australia and the US, among many others,’ says Kapadia. ‘The primary focus is market expansion, while the BRI association is a good PR exercise.’
Ultimately though, the value of Alibaba and other Chinese e-commerce companies still comes from their domestic market. While regional and global expansion will boost earnings for firms such as Alibaba, compared with the earnings that endeavour in the domestic market might accrue, these are likely to be modest for now. ‘It is a minor part of their operations because their home operations are gigantic,’ says Hirn. Investors looking at Alibaba are better off focusing on the company’s domestic potential for the time being.
According to Wong, much of the talk around BRI at this point is just ‘noise’ and there are few identifiable opportunities for investors. He argues that investors looking at China should instead continue to focus on company fundamentals. He says: ‘There is a lot of talk and noise surrounding BRI, but as stockpickers we want to focus a lot more on companies’ fundamentals. We look at whether companies have sustainable earnings and what their free cash flow is. That is much more important than news around BRI when looking at individual shares.’ Hirn makes a similar point, noting that ‘so far there are limited opportunities for stockpickers.’
Good for growth
That said, while investors should be hesitant about the BRI providing stock price support for any one company or sector, the project will have macroeconomic implications that always interest investors. Principally, argues Kapadia, the BRI will be a potential driver of Chinese economic growth. He says: ‘After years of Chinese trade and manufacturing focusing on western markets, the country has been smart in recognising the threat of growth stagnation unless action is taken. The BRI is the next logical step in sustaining growth.’
Wong makes a similar point. He notes that the BRI will allow China’s economy to diversify in terms of its trading partners which, in light of recent tensions with the US, could prove vital in sustaining China’s economic momentum. He says: ‘Over the medium to longer term, this is important. Diversification will allow China to achieve stronger growth. It is more optimal.’
Despite there being no clear ways to play the BRI, for any investor interested in the region, it is worth following BRI developments. Hirn says: ‘Long-term trends are always interesting, and important to understand and monitor. When opportunities arise, it is good to identify them early.’
Developed market firms positioned to profit from the new Silk Road
A number of western companies are involved with the BRI, having seen growth opportunities in the initiative.
One is Caterpillar, the US construction machinery and equipment company. Despite the cloud over US-China relations, the US firm has positioned itself to profit from the project. The US think tank Brookings says: ‘Caterpillar sees BRI as a key growth area for sales of its construction machinery.’
Caterpillar has built one of the world’s largest construction machinery factories in China with the aim of meeting rising demand from the BRI. The fact that China contributed half of the company’s 22 per cent growth in sales in the Asia Pacific region in the past quarter of 2017 – a figure expected to grow in 2018 – underlines the potential importance of BRI to Caterpillar.
Swedish-Swiss firm ABB Group also sees potential in the BRI. The firm focuses on industrial technology, and it has been active in helping Chinese firms with their engineering, procurement and construction operations. It has already secured dozens of deals.
According to Deloitte, the firm hopes to become the partner of choice for Chinese firms. Deloitte says: ‘In 2016 alone it helped 400 Chinese firms resolve inter-country differences in design and industrial standards.’
Some banks are treating the BRI as a serious business prospect. HSBC’s head of global banking and markets for the region has called it ‘a supercharger’. HSBC recently created the new post of head of BRI for Asia Pacific. Meanwhile, Citigroup has led large bond issues financing BRI plans, and won cash management and forex hedging contracts for Fortune 500 companies involved with the BRI. The bank says its clients ‘see the BRI as a generational opportunity to expand the scale and reach of their businesses’.