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5 INVESTMENT IDEAS FOR 2011

4

scenarios you need to know about

hong kong property

WHY THE CHINESE ECONOMy could already be larger THAN

AMERICA’S the real value of THE

CAN hsbc GET ITS GROOVE BACK?

singapore VS. HK:

A TALE OF TWO BOURSES OF WEALTH AND HONG KONG MEN

FROM THE EDITOR

HONG KONG

BUSINESS Established 1982 Editorial Enquiries: Charlton Media Group 19/F, Yat Chau Building, 262 Des Voeux Road Central Hong Kong. +852 3972 7166 Publisher & EDITOR-IN-CHIEF Associate Publisher Assistant Editor Art Director

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It was a great start to the Year of the Rabbit as the Hong Kong Business team gathered with the city’s leading luminaries for the 6th Annual High-Flyers Awards celebrating excellence. We all had a fun night and personally it was great to meet so many leading business people at the Oscar’s of the business industry awards night. Our full coverage including photos is in this issue and congratulations to all the winners.

advertising@hongkongbusiness.hk editorial@hongkongbusiness.hk

As the economy recovers everyone is naturally turning from how to protect their jobs to how to grow their investments. Whilst we don’t pretend to have all the answers, we did spend a fair bit of time asking those who do, and have come up with some interesting investment ideas for this year, so good luck, but remember, diversification is the key.

Here at Hong Kong Business Headquarters we are busy coming up with a full agenda of conferences and events in key industries, do stay tuned or even ask us for available speaking opportunities. As always you can find more information on all our activities on our website www.hongkongbusiness.hk And from this issue we are also available in Lufthansa, Dragon Air, British Airways, China Airlines, Swiss International Airlines, Singapore Airlines, Air New Zealand Airlines and Qatar Airways.

Have a great 2011

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CONTENTS

28

cover story Thoughts for happy investing in 2011

COVER STORY 28 Will the rabbit run or stew in 2011 2010 was an odd year for investing, but will 2011 be any better?

EVENT 32 2010 High-Flyers Awards Night Hong Kong’s Outstanding Enterprises for the year 2010

OPINION 10 Of wealth and HK men 24 Hong Kong’s ‘Dim Sum’ market poised for take-away growth

Published Bi-monthly on the Second week of the Month by Charlton Media Group Pte Ltd, 19/F, Yat Chau Building, 262 Des Voeux Road Central, Hong Kong

38 Mind the Gap: High-Performance IT in Financial Services

ANALYSIS 40 The Real Value of the Yuan and Inflation

42 The 4 scenarios you need to know about Hong Kong Property

44 Why the Chinese economy could already be larger than America’s

46 The Financial Crisis of 2015

32

2010 High-flyers awards night hk’s outstanding enterprises

40

the real value of yuan and inflation

REGULAR 18 Numbers 48 Life and Style

FIRST 12 Can HSBC get its groove back?

13 Little investment, just more borrowing in 2011

15 The iTunes of financial quotes launches

16 What do Chinese think about property?

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News from hongkongbusiness.hk Daily news from Hong Kong Salaries and inflation up most read Telecom & Internet

YouTube grabbed 11.4% corporate bandwidth In 2010, YouTube dwarfed Facebook’s 4.7% record in the corporate bandwidth.

It is amazing to think that much bandwidth is required just to fix software problems in Windows. Symantec also appears in the top 20 list of bandwidth users. aviation

Cathay Pacific fuel surcharge to rise 11% in February 2011 The Civil Aviation Department has approved passenger fuel surcharge increases for Cathay Pacific and All Nippon Airways for February.

According to Hong Kong Services Information Department, the airlines’ short-haul maximum fuel surcharge will rise 11% to $143.

Hotels & Tourism

HBA to launch 22 projects HBA has 22 hotel and resort projects scheduled for completion in 2011.

F ollowing seven openings on the mainland last year, another nine are due during the Year of the Rabbit, HBA said.

P  rojects for Hyatt Regency and Shangri-La in Chongqing along with Westin in Ningbo indicate significant growth in China’s fast-growing second-tier cities.

H  BA is completing a new ESPA at the ICC Ritz

Pharma pay fastest rising Carlton in Hong Kong, complementing another ESPA in Istanbul. economy

Salaries in HK seen to increase by 3.8% Mercer’s Q4 Market Flash Survey covers 84 multinational companies across a variety of industries including hi-tech, chemical, consumer goods, pharmaceutical & healthcare.

Pharmaceutical & healthcare industry is the highest at 4.4%.

Employees in hi-tech industry are expected to receive a relatively lower salary increase of 3.5% compared to other industries.

More hotels for China

8 HONG KONG BUSINESS | FEBRUARY 2011

FINANCIAL SERVICES

Hong Kong’s December overall consumer prices up 3.1% The underlying consumer price inflation averaged at 1.7% for 2010, as expected by government forecasts.

Overall consumer prices rose 3.1% in December over a year earlier, larger than the corresponding increase of 2.9% recorded in November, the Census & Statistics Department says.

The underlying consumer price inflation averaged at 1.7% for 2010 as a whole, the same as the Government’s earlier forecast.

Shenzhen the new panty capital of China ? lending & Credit

$79B

Exchange fund yielded in 2010 The Accumulated Surplus recorded an increase of $37.9 B, and the fee payments to the Fiscal Reserves amounted to $33.8 billion.

property

Asia Pacific’s office rents accelerated up to 1.5% in 4Q of 2010 According to Colliers International’s Asia Pacific Office Market Overview, the office markets in Asia continued to forge ahead with positive occupational and investment demand growth during 4Q 2010.

MANUFACTURING

Hong Kong underwear ideas rub off on Shenzhen Shenzhen SEZ will open up for international underwear brands, particularly from Hong Kong and Taiwan, to bring in new ideas and technology.

Shenzhen is now on a par with the ChaozhouShantou area and Zhejiang Province for its underwear businesses.

One of the 4 “famous China brands” of underwear across the country is from Shenzhen.

opinion

Tim hamlett Of wealth and HK men

Y

ou would think Hong Kong would be interested in a renewed debate on income inequality, as we are by international standards a shining example of it. So it is a little surprising that the latest burst of interest elsewhere hasn’t really surfaced on the local scene.

The catalyst was a book called “The spirit level: why equality is better for everyone.” The authors compare a variety of countries and American states, concluding that inequality leads to more crime, higher infant mortality, fatter citizens, more teenage pregnancies, higher discrimination against women and other social evils.

They even found that equal societies are more innovative, as measured by patents taken out per person. This book fuelled a lively debate in Britain, where there was already a great deal of discussion over the curious way in which freshly rescued banks feel called upon to award huge bonuses to the executives who got them into trouble in the first place.

This may come as a surprise to critics of the idea, but many of the notions in “The Spirit Level” are not entirely new. It is well established that social stress caused by poverty is associated with a variety of problems, and also the converse, that people who enjoy high incomes and prestige enjoy benefits over and above those which can be bought by money. Actors who win Oscars, for example, live longer than actors who don’t.

Having a large proportion of the population who have, as the late lamented Communist Party put it in its first manifesto, “nothing to lose but your chains”, means the government is sitting on a volcano which can only be kept dormant by constant repression. In theory it can be kept dormant by exemplary good government, but this technique is rarely attempted. As Machiavelli observed, it is nice to be loved but fear is more effective.

An economy which contains a few millionaires and a million poor peasants is not going to take off anywhere. This is especially likely to be the case if the millionaires can rig the system in their favour, an interesting thought in the Hong Kong context.

For the case against equality we have to turn to The Economist, a publication which obviously cherishes large numbers of rich readers, or thinks it does. I have been reading The Economist with pleasure for more than 40 years now but there are some things on which we are always going to disagree.

Do rich people deserve it?

The case for rich people is basically that they are rich because they deserve it. Readers of a recent supplement -significantly described as “a special report on the global elite” -- could gather this from the headlines: “The rise and rise of the cognitive elite”, “Brains bring ever larger rewards”, “The surest way to wield influence is to invent something useful” and even “In democracies the elites serve the masses”.

My problem with this is with the recurring use of the word “elite”. The objection to unequal wealth

tim hamlett Former Editor of Sunday Standard and Associate Professor of Journalism

distribution is not really that it leads to social evils, though it does, that it leads to economic stagnation, though that is a real danger, or that it leads to social instability in the long run. The fundamental objection is that inequality is unfair.

The Economist’s wealth groupie scuffles round this problem by assuming it away. “It also seems unfair to take money from those who have worked hard and give it to those who have not, or to take away the profits of those who have risked their life savings to bring a new invention to market in order to help those who have risked nothing...” In other words, rich people are hard working types whose wealth rewards their industry and daring, while poor people are lazy and timid.

This is a very romantic view of personal wealth. Some great fortunes are the proceeds of crime. Some are the proceeds of things which ought to be crimes, but aren’t. Even so, many of this year’s magazine cover heroes will be recycled onto the court pages sooner or later. One UK newspaper used to anoint a Young Businessman of the Year. They abandoned the scheme because so many of the early awardees wound up behind bars. But the largest single factor accounting for differences, whether large or small, is not crime. It is luck.

That is not to say, I stress, that rich people are not hard working, nor that some of them do not take risks, nor indeed that all of them are criminals. But many people who are also hard working do not become rich. Many people who take risks do not become rich either. We do not hear about those daring souls whose dangerous driving ended in a collision with a lamp-post. Clearly hard work and enterprise are conducive to the acquisition of an honest fortune, but they do not guarantee so happy an outcome. If people look at the qualities of a selection of millionaires they tend to come up with some rather deserving ones like hard work, thrift, daring, innovation and such. But many people who are not millionaires have these qualities. If you are looking for some quality which the makers of great fortunes have to an unusual and unique degree the plausible candidate is greed.

If we accept that the distribution of wealth depends mainly on fortune then it is ethically monstrous if the resulting differences are very large. After all the first decision which life’s lottery makes before we have a say in the matter is who our parents are.

Aptitudes, choice of career, timing and education are all out of our control. Medical and other accidents nudge us in one direction or another.

Can you think of one who “risked his life savings to bring a new invention to market”? How many demonstrated their acumen and daring by selecting a rich daddy? How many of them are, in any sense of that much-abused word, “elite”? Becoming very rich from nowhere is lucky but it is also a career choice which we are entitled to question. There are other things in life. In the says of sail when the officers bunked at the back of the boat they used to say in the Royal Navy: “Aft the honour and glory; forward the better men.”

10 HONG KONG BUSINESS | FEBRUARY 2011

Easy plunder in Hong Kong

FIRST

Who was the sales director of a financial company who promised his team that if they each hit target they would get a three month membership to one of Hong Kong’s better known gyms.

Not surprisingly, the staff were not overly motivated but that turned to downright scorn when they realized the director’s wife was head of membership acquisition at said gym and the ploy was really a means to help his wife hit her sales quota !

Who knew dating sites could be picky too ? Who was the poor mid thirties dateless and desperate lass who met with one of the city’s leading “lunch date” matchmakers only to be told that they will keep her name on file and if they have a suitable match they will call her. It’s been three months and they still haven’t called. Ouch !

Why stop at one goodie bag when you can take several for the family. But at a leading woman’s magazine publication’s awards night, to be seen running out the back door with goodie bags weighing down both arms is quite unbecoming !

Bonuses may be smaller and time delayed and paid in shares these days, so they certainly aren’t what they used to be, but that is still no excuse for the Big Bank trader who as spotted by his boss at a company function recently with a canapé in both hands and a drink to boot.

His boss shouted out to him: ”Don’t we pay you enough already that you have to double fist the Hors d’oeuvres”.

Embarassing Know any good rumours ? send them to us at tipoff@hongkongbusiness.hk.

12 HONG KONG BUSINESS | FEBRUARY 2011

Can HSBC get its groove back ?

The world’s local bank may have survived the financial crisis better than many of its global competitors, but investors are beginning to wonder what strategy the bank will take to get it back on the path of growing revenues and profits.

So far in the cycle profit growth for HSBC have come largely from falling provisions for non performing loans. Now the hard task ahead is to grow the bottom line of the business as well as the bottom. To that end HSBC has moved many of its senior bankers including Paul Thurston from Canary Wharf to 1 Queens Road Central in a bid to reignite the consumer and wealth management business.

The proof may well be in the pudding, but in the meantime analysts such as Goldman Sachs says HSBC has too much of the “why bother, too complex, too little growth” factor, and asks what it will take to get the bank growing at double digit rates again. On their forecast is for the bank to show absolutely no revenue growth this year, or maybe 3 % in a good case scenario.

In some ways HSBC’s profit problems are the result of being

HSBC has too much of the “why bother, too complex, too little growth” factor

almost too safe and successful in Asia which has contributed to it having a very liquid balance sheet with a loan to deposit ratio of 78 %, whilst it still has the more troublesome US$61 billion of Household loans on its books. So whilst its Asian customers use the bank mainly to park cash , 63 % of its overall loans are over in Europe and the United States.

The problem in having so much excess cash is that with interest rates so low now, HSBC earns little interest on the extra cash. This of course is not its fault, and if US$, and hence HK$ interest rates rise, then HSBC will earn more. But it may be quite a while until global rates start recovering. No wonder then that the bank is keen to increase loans in Asia and earn more from its wealth management business, and as made some key appointments in that area.

In October the bank appointed Desmond Liu Head of Private Banking for North Asia and Nancie Dupier Head of Private Banking for South East Asia, but there is still no replacement for the well respected Monica Wong who retired as chief executive of Private Banking in Asia.

And even of if loans and fee income in Asia grow by 20 % this year , a good case scenario according to Goldman Sachs, that would still only flow through to a revenue growth of just 3%, which is well below that rate of growth of the Asian economies themselves.

One scenario which would see revenues grow by 10 % would be if Asian based loans and fee incomes grew by 37% this year, versus forecasts of just 17 % and 14 % respectively.

Even the hard working bankers at 1 Queens Road Central would be hard pressed to grow their business by that much in the year of the Rabbit.

FIRST Credit growth is rising

Little investment, just more borrowing in 2011 2011 may be shaping up as one of the worst years in along time for inflation, according to the economists at UBS, who warn that it may peak at 5 % over the year, up from just 2.5 %. What is to blame ? Continued high property prices, expansion of bank lending, a weak currency due to the peg and imported higher costs from China are all risks this year, and may be underestimated, says the bank.

Credit growth is rising as banks flush with cash are pumping it into the economy, with narrow money growth up 60 % last year over 2009.

Remember, that when the US prints more money, Hong Kong must do the same to maintain the peg. And while the US is desperately trying to re-inflate housing prices to stop is financial system from collapsing again, Hong Kong has the opposite problem – an asset bubble.

Investment drought So where is all this new bank lending growing ? Not into real investment in things like factories which

Quick, who is least indebted – Aussies, Hongkongers, Taiwanese or Koreans ?

If you picked Hongkongers, you would be correct. Which is good news as our underleveraged citizens are seeing some modest income growth and are now looking to borrow a bit more and spend.

Median incomes are on the rise locally, jumping 3.4 % in the third quarter of 2010 and staying slightly ahead of inflation. Let’s not forget that HK$28 an hour minimum wage that will help some when it finally kicks in. This combined with a bit of confidence, as well as perhaps banker’s confidence, saw consumer loan growth pick up the most in Hong Kong since its disastrous slide in 2008 and 2009.

“As the labour market continues to improve, we expect the gradual increase in household income to persist over the next few quarters.

In addition, the household balance sheet is relatively healthy (with debt-to-income ratio at around 80%, compared to 120% or above in Korea and Taiwan), which provides room for re-leveraging to smooth consumption during downturns,” noted UBS.

actually produce things. In fact, in 1997 investment in Hong Kong represented 34 % of the economy but by 2008 it had fallen to just 17 % and the latest figures showed it rose just 0.3 % for the last quarter of 2010.

This at a time when bank lending increased 60 %. And there is no sign of a pick up. The economists at UBS say they “ remain sanguine on the medium-term investment outlook for Hong Kong. We expect the driver of investment to transit from the cyclical forces to the structural forces. Specifically, the slew of infrastructure projects (for instance, the extension of the MTR island line) already under construction, plus the government’s commitment to increase housing supply, should boost construction investment going forward.”

Note here that there seems to be very little private investment in anything outside more real estate.

So if companies aren’t borrowing to invest, where is all the money going ?

Back into the world’s most expensive property, of course.

HONG KONG BUSINESS | FEBRUARY 2011 13

14 HONG KONG BUSINESS | FEBRUARY 2011

FIRST

The iTunes of financial quotes launches If you trade or invest for a living you probably have a $2000 a month Bloomberg or Reuters terminal at your swish office in Central. But for the rest of us, a hodgepodge of free, often time delayed sites like Yahoo Finance has been the best we can do to get financial news. Until now.

CarryQuote, which just launched a service with CBNC in Hong Kong, brings all the world’s financial data and makes it available on just about any mobile device.

The trick is that instead of a continuous feed of data, which a professional would pay for, users can request an instant ‘snapshot’ of a live data price for about 5 cents.

CarryQuote CEO and co-founder Michael Stennicke told Hong Kong Business it was analogous to the iTunes of financial information.

“Instead of having to buy the whole CD you can just by the track, and with CarryQuote instead of having to subscribe to the whole live data feed, you just pay each time you want a live quote.”

Hong Kong just the start CarryQuote has around 400 users in Hong Kong and recently launched a co-branded service through CNBC which gives users 500 real time snapshot quotes and streaming TV for $24.99 a month. The company is also finalizing deals with some private banks in the territory to offer

Instead of having to subscribe to the whole live data feed, you just pay each time you want a live quote

Don’t blame the foreigners It has been a bit of conventional wisdom to blame foreigners for swapping their newly minted US dollars into Asian currencies and parking the money in local investments, Unlike the G3 economies, where high debt and unemployment have severely curbed money supply and credit growth, Asia has enjoyed accelerating monetary expansion, fuelled by the aggressive stimulus prompted by the crisis, notes Standard Chartered economist Nicholas Kwan.

Broad money supply is growing at double-digit levels in Vietnam, China, India, Indonesia and even Thailand and

the service to their clients. “There are only about 1 million people who are professional traders with the expensive real time data feeds, but the market for the rest is tens if not hundreds of millions of investors,” says Stennicke, who had to convince hundreds of exchanges around the world that it was worthwhile making live data available to non-professional investors at a reasonable pay as you use price.

Here is how CarryQuote works.

Say you want to look at the price of gold, you can look at the time delayed feed for free but when you want the

bank loans are growing at 10-25% y/y in almost all developing Asian economies.

It is not just prices of basic food items that are rising – prices of luxury and durable consumer goods are also climbing.

This indicates that the current round of inflation is spurred by rising incomes and liquidity. Hence, micro measures like subsidies and price controls will not be sufficient unless they are accompanied by broad monetary tightening. Worse, the focus on foreign inflows can divert attention from restraining domestic liquidity. Foreign capital usually grabs more prominent headlines, but it usually accounts for only a fraction of the overall liquidity in an economy.

Hong Kong probably has one of

live quote you click on that and you get a “snapshot” of the current price.

More importantly, says Stennicke, the whole service has a very iPhone feel, with users able to easily flick through charts like album covers in iTunes.

CarryQuote has also included many free analysis tools the professionals use which overlay the data to show if a stock is oversold, for example.

“We run data through different analytics models - the kinds done by brokerage houses and we provide different views by risk adjusted yield, volatility and many popular models,” says Stennicke.

there have been no net capital inflows into the city since May 2010

the most dominant presences of foreign capital of any Asian economy, with foreign-currency bank deposits almost matching HKD deposits. However, there have been no net capital inflows into the city since May 2010, as evident from the zero change in the Aggregate Balance of the monetary base. This contrasts with the common belief that foreign money has been flooding the market and driving up asset prices. So then, the problems are self inflicted.

HONG KONG BUSINESS | FEBRUARY 2011 15

FIRST

What do Chinese think about property ?

If there is one thing the world will be looking at this year it is the Chinese economy, and the biggest driver of the economy right now is property. Construction projects, including infrastructure and property, accounted for 70 % of China’s GDP last year, according to veteran investor Jim Chanos who is shorting China.

Amidst talk of “ghost cities”, empty shopping malls and as many as 25 million new apartments to be built this year, perhaps the biggest key to answering when, if, how and how much the Chinese property may fall depends on the psychology of the Chinese property buyer himself.

Investor sentiment So just what do all those buyers of property have on their minds?

Are they planning to buy more less, or sell what they already have?

Luckily, investment bank Macquarie Securities now regularly surveys a thousand households in seven Chinese cities to ask them exactly these sorts of questions to take a snapshot of investor sentiment. And the latest survey, taken in January, shows that while Chinese property investors are taking a pause, they are still, for now, big long term believers in local property.

Asked “whether now is a good time to buy property,” the index sank below the 50 benchmark (score of 100 the highest) to 43 from 66 in

Construction projects, accounted for 70 % of China’s GDP last year

December. This buyers’ market also sparked an increase in respondents’ interest in selling their homes with the score for “whether now is a good time to sell your property” rising 3 points to 59, noted Macquarie.

But on the more important question of “What is the outlook for home prices in next 5 years?”, the index actually reached an 11-month high of 85, indicating that local households remain positive over the long term prospects for home prices.

And in spite of some very tough government measures to curb the market, sales volumes fell just 4% in January compared to December – hardly a rout. Yet Macquarie reckons there could be more falls to come and that volumes have yet to reflect the full impact of tightening measures announced in late January and tighter monetary conditions and noting that more banks in cities such as Shanghai and Beijing were dropping the 15% discount for first time home buyers.

Non-core is core

In Vietnam, India, China and Indonesia, food and energy inflation (non-core inflation in the conventional sense) is An obvious source of the recent now running at 8-13%, 4-8ppt higher acceleration in CPI inflation is higher than core inflation. In Thailand, Taiwan, food and energy prices, driven partly Hong Kong and Korea, where core by improving demand amid the global recovery and partly by supply disruptions inflation is below 2%, non-core inflation is two to three times higher. due to poor weather., notes Standard Although food and energy price Chartered. While the West treats food inflation may not reach their 2008 and energy prices as ‘non-core’ given records this time around given weak their volatile nature and relatively small weightings in consumer baskets, for Asian demand in the G3 economies and reduced leverage behind speculative consumers, a much larger 30-55% share demand, the stakes remain high of expenditure goes towards food and considering the social impact of high energy. food and energy prices on the poor, Non-core inflation in the West is core who are vulnerable to inelastic basic inflation in Asia. It is therefore risky to demand and are late to benefit from focus too much on conventional ‘core’ inflation as the yardstick for policy action. the recovery.

16 HONG KONG BUSINESS | FEBRUARY 2011

Asian CPI inflation compared (y/y%)

*Dec/Nov 2010 data; Sources: CEIC, Standard Chartered Research

numbers

Asian nations happiest in the world :) Happy Asians top world happiness index

How we spend disposable income Don’t know I have no money Decorating Entertainment

How to utilize spare c covering essential livi expenses HONG KON How to utilize spare c covering essential livi expenses SINGAPORE

Retirement

Paying off debt Gadgets Shares New cothes Holidays

Savings 0

Pragmatic consumer behavior will continue Did This Past Year

Will Continue To Do

54% Spend less on clothes

34% Save on gas and utilities

53% Reduce entertainment

22% Spend less on clothes

47% Save on gas and utilities

22% Reduce entertainment

40% Reduce grocery spend

21% Reduce take - out

39% Reduce take - out

19% Reduce grocery spend

38% Delay technology upgrade

17% Cut down on telephone exp

36% Cut down on vacations

15% Use car less

Frequency of accessing social networks in Asia % Frequently Accessing Social Network Sites

Several times a week

At least once a day

10

20

30

40

50

70

Hong Kong vs. Singapore - who is number 1 HONG KONG

SINGAPORE

36% own any Luxury Watch (US$500+) (regional: 22%)

76% own Laptop/ Notebook Computer (regional: 53%)

76% own LCD TV /Plasma TV/ HDTV (regional: 57%)

37% have International Business Travel in the past 12 months*(regional: 18%)

27% own Foreign Currencies as an Investment (regional: 10%)

62% have International Leisure Travel in the past 12 months (regional: 31%)

41% own Privilege/ Priority Banking Account (regional: 20%)

Asian attitudes to brand interaction on social networks % Open and Not Open to Interacting with Brands on Social Networks

I sometimes try to find out more about brands

I find this intrusive

For more information contact: Nielsen, Margaret Lim (margaret.lim@nielsen.com); Synovate contact Tim Hill (Tim.hill@synovate.com); TNS Global contact Khaw Mei-Ling (meiling.khaw@tnsglobal.com)

18 HONG KONG BUSINESS | FEBRUARY 2011

60

ECONOMICs

OPINION

Ian Perkin Singapore vs. HK: A tale of two bourses

“Hong Kong and Singapore adopt different strategies for stock market growth”

T

he demise of the “elite clubs” of the stockbroking fraternity and the rise of the listed entity in ownership and operation of stock exchanges world-wide unleashed a wave of competition, innovation and mergers and acquisitions – and new strategies for growth - that is, as yet, far from over.

For evidence of that look no further than the divergent paths to market growth and meeting the global competition now being taken by at two of the biggest exchanges in the East Asian region, outside of Japan and China.

Fired by the flood of new IPOs (initial public offerings) from the Mainland of China (and increasingly elsewhere), Hong Kong Stock Exchange appears to have opted for (or had thrust upon it) a strategy of organic growth, encouraging more and more new listings on its market. This will now also include Chinese Yuandenominated IPOs with the first expected shortly.

Singapore Exchange (SGX), on the other hand, is attempting to grow and re-make itself as a true global player with its $8.4 billion bid to acquire the Australian Stock Exchange (ASX) and merge the two entities. The SGX move comes amid further merger talks between Exchanges in the US and Europe.

At first sight, the strategies for growth – and meting the global competition - adopted by Hong Kong and Singapore appear to be quite different, but a closer look shows them to have some underlying similarities.

Both have the same objectives of creating greater market liquidity and more efficient (and therefore cheaper) operations to make them more attractive to global traders and fund managers.

Both are also driven by the same underlying logic – to tap into the China story, the boom in the demand for resources and the tipping of global economic “weight” towards the Asian region.

Hong Kong clearly has the advantage in the China growth story with a ready flow of IPOs out of Mainland,

IAN PERKIN Independant Economic Consultant perkin888@hotmail.com

initially in Hong Kong dollars and now with Yuandenominated issues about to take off. Hong Kong is playing to its strengths here.

Singapore is taking a more indirect route, locking into the China/Asia story through the Australia link. The ASX is very much a resources driven market and through that has close links to the China story, with that country’s huge resources demand. Seen in this context, the broader listings of the Australian market are a bonus.

The SGX’s interest in the ASX also reflects the evercloser economic ties between Singapore and Australia, especially Singaporean investments in the country.

In the final analysis, the Hong Kong and Singaporean market strategies are therefore not openly competitive (at least in the short term), but complementary. Over time, however, the SGX-ASX tie-up, with its enhanced capitalization and liquidity (the world’s fifth biggest equity market) will make in it a hefty competitor to HKEX (see tables below).

Yet it is the path of organic (IPO-led) growth that is paying off for Hong Kong in the short term. HKEX led the world in IPO capital raisings last year and seems to be set to the same again this year, but with a broader range of offerings than merely Mainland China sourced listings.

It will the third consecutive year that Hong Kong topped the global IPO rankings, in numbers of offerings and capital raised.

In 2009, HKEX had 69 IPOs raising HK$240 billion (US$31 billion) and last year (2010) there were 60 offerings raising a record HK$300 billion (US$38.5 billion). Mainland China companies continued to dominate the market, as they will in 2011, although with some big issues expected from elsewhere.

Hong Kong’s open capital and foreign exchange markets (including the linked exchange rate to the US dollar) have facilitated outside investment in the record number of IPOs in recent years, as has its solid regulatory and governance environment, which provides a further comfort to outside investors.

“

Hong Kong and Singapore market strategies: not openly competitive but complementary.

Share Market Capitalization by region 2010

Selected Stock Markets - Capitalization (Dec 2010)

Source: WFE

Source: WFE

20 HONG KONG BUSINESS | FEBRUARY 2011

insight

Reality of China Outbound Investment Where and how will China’s companies invest abroad ? KMPG recently surveyed Chinese companies to find out.

I

n Chinas as elsewhere, it is crucial for a company to have a clear strategy. Our survey suggests tat China’s companies are about split on outbound investment as a strategy, with 54 percent saying their company has made or plans to make investments outside of Greater China. The rest said their company has not articulated a strategy to make outbound investments primarily because it sees enough opportunities in the domestic market In our survey, seven out of ten executives (71 percent) from companies that have invested or plan to invest abroad said they have a well-articulated strategy and a long-term vision for how they want to grow, diversify or move along the value chain.

The importance of a clear strategy is not lost on Chinese executives, with “failure to clearly define investment strategy and objective” raking as the most important mistake that a company can make, cited by 60 percent of respondents.

When asked to cite the specific objectives of their outbound investment strategy, the respondents pointed to achieving geographic growth (59 percent), followed by a wish to build a global profile and reputation (41 percent).

Few said they are going overseas in response to government directives (9 percent). More respondents cited pure business reasons such as diversification (33 percent), moving along the value chain (31 percent), acquiring intellectual property (24 percent) and acquiring brands (23 percent).

One might expect to see a distinction between state owned enterprises (SOEs) and privately owned enterprises (POEs) in their outbound investment decisions. Our survey suggest otherwise. Regardless of whether the company is state-owned or controlled by private-sector entrepreneurs, the main motivations are business considerations such as geographic growth.

Acquisition of intellectual property, new/technology and brands and diversification.

Build Global Reputation Also notable is the desire to build a global profile and reputation, which figures high up in the list of objectives for both SOE’s and POEs. Slightly more state-owned enterprises cited this as a motivating factor (67 percent) compared with private enterprises (54 percent).

For the majority of companies looking outward, the strategy need not be focused narrowly on M&A. A joint venture or strategic alliance, where Chinese partner takes majority ownership, is favoured by as many respondents as M&A (both 36 percent). There is anecdotal evidence of Chinese companies turning their back on large-scale acquisitions over the past year, with more investment taking the form of minority stakes or 22 HONG KONG BUSINESS | FEBRUARY 2011

greenfield investments after high-profile takeover bids encountered oppositions in target markets.

One executive with a consumer electronics company that has conducted outbound joint ventures, greenfield investments and M&A in order to get closer to target markets, explained that their choice of investment route can be dictated the existence of customs duties, free trade agreements and other trade restrictions, as well as by the level of development.

“We will typically only consider and acquisition of an existing manufacturing entity if that jurisdiction has a requisite level of industrialization and a beneficial manufacturing environment,” he explained. “Where this is not the case, we prefer to construct a facility in cooperation with a local partner.”

Despite, this our survey indicates that the outlook for majority stake investments abroad will remain strong. Nearly half (48 percent) of companies interested in outbound investment said they are likely to embark on a M&A deal where they take majority ownership. Forty-three percent will invest abroad in a joint venture where they have a majority stake.

The survey reveals that Asia remains the most popular region for outbound investment in the next one to three year, cited by 67 percent of respondents, followed by developed markets Europe (37 percent) and North America (35 percent). Developing markets of Africa (24 percent) and South America (22 percent) are also favoured, but not to the same extent as Asia and the West.

Large companies with annual revenues of more that RMB1 billion are more inclined to target Europe and smaller companies will target mostly markets in Asia.

Attitude to outbound foreign investment

Source: KPMG

“Larger companies are also likely to continue expanding abroad”

design by Antonio Citterio with Toan Nguyen

aÊnewÊvision:ÊKelvinÊLED

Moving into new location in October: G/F Wyndham Place, 44 Wyndham Street, Central, Hong Kong • T +852 2801 7608

www.flos.com

OPINION

David Cohen

Hong Kong’s ‘Dim Sum’ market poised for take-away growth

A

significant development currently unfolding is evolution of the CNY into a more international currency. China has begun relaxing historically tight restrictions on convertibility, and use of CNY outside of its borders. One motive for liberalization is their hope to encourage increased use of CNY when settling trades with China, still largely settled in USD, EUR, and JPY. Beijing last year unveiled new measures permitting increased CNY balances in Hong Kong, allowing Hong Kong to play the role of offshore money market for CNY. By permitting CNY to circulate in the interbank market, and facilitating emergence of a CNY-denominated bond market, Hong Kong will serve as a laboratory for Beijing to test the waters before establishing full currency convertibility.

PBoC-HKMA accord in July 2010 allowed banks to offer CNY loans and deposits, while freeing them from previous restrictions on CNY conversion.

Relaxed rules are boosting offshore CNY circulation in HK, though they can still only flow freely cross border through trade settlement or via 20,000 CNY daily conversion cap. Yuan deposits in Hong Kong more than tripled to 280 billion CNY by November from 89.7 bln CNY in June, and should surpass 1 tln CNY by 2013. Together with allowing CNY to accumulate in Hong Kong, has been opening up channels for investors to access Chinese domestic market. Historically, overseas investors have needed special quotas to buy mainland assets, but last August, China said it would allow overseas financial institutions to invest yuan accumulated outside the country in China’s interbank bond market.

These facilitated emergence of an offshore market in CNY-denominated debt, the so-called “dim sum” bond market in Hong Kong. Foreign investors, prevented from buying domestic CNY debt by strict

was welcomed as helping establish a benchmark yield curve in Hong Kong, and highlighted disparity with the onshore market - - HK coming in over 100 bps inside the on-shore curve, reflecting appeal of CNY assets to foreign investors.

For borrowers, the offshore CNY bond market provides an opportunity to fund on-shore operations at an attractive rate. Last year saw offerings by government-related issuers as China Development Bank, and Export-Import Bank of China, along with Asian Development Bank and World Bank’s IFC unit.

McDonald’s last August became first nonfinancial foreign company to issue CNY-denominated bond in HK to finance Chinese expansion, followed in November by Caterpillar, to fund its mainland leasing subsidiary. Total offerings totaled 40.7 billion CNY in 2010, according to Bloomberg, which could more than double to exceed 100 bln CNY this year.

Another aspect of currency liberalization is emergence of an offshore fx market, after trading in CNY had been confined to the state-run exchange in Shanghai. ICAP and Thomson “For borrowers, the offshore CNY bond Reuters electronic trading platforms have market provides an opportunity to fund onbegun accommodating offshore yuan, quoted under the symbol CNH (for HK) shore operations at an attractive rate.” rather than the standard CNY, legally distinct capital controls, face no such obstacles here, providing from fx on the mainland. As there is no free flow of a new way to bet on CNY appreciation, enhancing yuan between the two markets, spot yuan in Hong appeal amid expectations for continued appreciation.

Kong has consistently traded at a premium to onshore Bloomberg put the amount of outstanding yuanyuan. Outlook for the offshore market appears bright denominated debt in Hong Kong at about 55 billion as continued inflow of yuan into Hong Kong will yuan in early December. support growth in CNY-denominated debt issuance Beijing signaled intention to promote development and offshore fx-trading. Reforms implemented of offshore market last November by issuing 8 bln last year represent notable steps in evolving CNY of government bonds of various maturities. This internationalization of the CNY. 24 HONG KONG BUSINESS | FEBRUARY 2011

David Cohen Director Asian Forecasting, Action Economics

CNY VS basket and USD-CNY.

co-PUBLISHED corporate profile

Meeting Gartner’s standard According to Gartner, an “acceptable” false positive standard for email security filtering services is one (1) lost email in every 400,000.

Most vendors publicly claim their anti-spam filters are accurate to this level. However, independent research has shown that the actual false positive rate for most anti-spam filters is often several hundred times worse than the acceptable standard. The false positive rate among vendors can range between 1 in 100 and 1 in 1000 of legitimate email. Statistically, this failure results in over 50 million emails everyday that are not being delivered to end users.

How many GEMS are you losing per month?

Manish Goel, CEO of TrustSphere

T

oday, email replaces most other forms of business communications (eg. fax, telex); it is the lifeblood of communication flow for most organizations. Currently, around 250 billion emails are sent worldwide daily. This is estimated to grow to over 500 billion by 2013.

As a consequence of email’s popularity, spam and malware have become key threat vectors to an organization’s network infrastructure, accounting for 80 – 90% of incoming email traffic. “To combat this, email filters have to be more aggressive. The higher the vigilance of email filter, the more spam is caught. However, this also results in users losing genuine emails. This problem of genuine emails marked as spam [GEMS] is also known as ‘false positives’. This dilemma is experienced across most organizations every day. Yet alarmingly, many are unaware of the actual level of risk that their spam filters are causing,” said Manish Goel, CEO of TrustSphere.

What losing GEMS is costing you GEMS add unintended operational risk to those business processes which rely on email messaging. They threaten the integrity of such processes. The more important though harder to quantify consequences of GEMS include: • Opportunity cost for sales and business development teams who miss time 26 HONG KONG BUSINESS | FEBRUARY 2011

sensitive enquiries from prospects; • Reducing customer service delivery standards – by not responding on a timely basis (or in some cases not at all) to a customer enquiry; Missing a time-sensitive email (eg. a change to a meeting or an electronic airline boarding pass) because it was trapped in the “junk” folder and not sent to an executive’s blackberry; • Creating vast and varying impact on several other stakeholders’ reputation and customer relationships right across a business’s value chain.

The impact of these failures affect risk management governance, revenue and operational processes within an organization.

It is estimated that losing GEMS costs businesses over $20 Billion annually.

“A contract from a customer was lost in the email filter which resulted in us missing key project deliverables. This caused confusion and embarrassment .”

- Sales Director, IT Software Provider

“Lost an account for not replying to RFP because it was in my junk folder. Our competitor beat us to the post.”

- Director, Publishing Company

Fighting for Email Integrity TrustSphere aims to redefine the agenda for email security by creating a new category of email security solution – Email Integrity.

Their technology focuses on adding an email integrity layer that works towards active false positive prevention, while complementing organizations’ existing email security solution.

TrustSphere’s technology is designed to balance the two parts of the spam filtering problem by first protecting legitimate, authenticated traffic and then blocking spam.

It quickly and automatically builds an organization’s correspondence graph in order to “protect” and “fast track” traffic from its network of ‘known’, authenticated correspondents.

TrustSphere has developed a unique audit tool to help organizations measure the number of GEMS they are losing. Companies can request for an email integrity audit by sending an email to info@trustsphere.com.

TrustSphere solutions are available worldwide through a network of leading IT solution providers.

TrustSphere’s major partner across Asia Pacific is SingTel Alatum, the leading “in-thecloud” commercial grid computing solution provider to businesses and the public sector across the Asia-Pacific region.

CONTACT TrustSphere 3 Phillip Street #13-03 Commerce Point Singapore 048693 email: info@trustsphere.com Fax: +65 6536 5203

THOUGHTS FOR Happy investing IN 2011 2010 has been an odd year for investing, will 2011 be? Decide where to put your hard earned money. By Tim Charlton

T

he Chinese may have a proverb that says may you live in interesting times, but for most investors the last three years have been certainly interesting but definitely not profitable. Still, we have to park those hard earned dollars somewhere, don’t we. So with the big caveat that trying to predict investment outcomes is as easy as trying to predict winners in a horse race, we have scoured our sources and come up with some ideas for 2011. Happy investing, and good luck.

Idea # 5 Gold Sure, gold may be trading at close to record highs, and it is certainly no cheap bet. But if we end up facing the nuclear winter of our hyper inflated currencies, gold may just be a good bet. Sparking the gold story is Albert Cheng, managing director far east for the World Gold Council. According to Cheng, 2011 will be a year speckled with ongoing global fiscal imbalances, 28 HONG KONG BUSINESS | FEBRUARY 2011

“The negative for gold is rising real interest rates.”

sovereign debt problems in the Euro zone, inflation woes and currency tensions. “Against this backdrop, many analysts expect the upward trend for gold prices over the last decade to continue into 2011, with prices possibly reaching a new high during this year, as safe haven assets like gold enable investors to hedge against inflation and currency fluctuations, mitigate macro risks and preserve their wealth in the long run.”

Unlike other assets, adds Cheng, gold tends to exhibit lower volatility on negative returns than it does on positive returns. In addition, gold tends to have little correlation with many asset classes, thus making it a strong candidate for portfolio diversification.

The price of gold does not always behave like other asset classes and especially other commodities, as gold is part commodity, part luxury consumption good and part financial asset and gold should therefore be allocated as an asset class on its own

merits. “In our view, the outlook for the gold market in 2011 is positive.

The total demand for gold is expected to increase year on year, and in India and China gold demand will continue to increase as rising income levels, high savings rates and strong economic growth push up consumption and investment in gold. In addition, gold investment demand in established products such as physical gold ETFs is expected to increase due to economic conditions and the need to preserve one’s wealth.”

But Gold has made a reasonably poor start to the year and investors are questioning the longevity of the market’s bullish run over the past decade, says BlackRock, an investment firm. “Investment demand, in our view, remains the key determinant.

With concerns about Eurozone debt, US$ weakness and inflation likely to persist, this has the potential to propel the metal higher.

Another important issue is the potential for a reduction in net central bank sales. Indeed, according to GFMS, central banks made net purchases in 2010 for the first time in many years. The negative for gold is rising real interest rates. This will increase the opportunity cost of holding bullion, and investors in the metal may become sellers.”

Our take: It may be expensive, but at least you can hold it, and it looks very James Bondish stashed in

ending the peg cover story your safe at home. And unlike those banking shares your correspondent bought when the CEO’s and analysts were assuring everyone the worst was behind them, gold can never be diluted.

Asian commercial property America may be headed for bankruptcy and the Euro for a sovereign debt crash, so Asia is looking increasingly safe even if China hits the skids.

But where ? and How ? Nick Cringle, Global Co-Chief Investment Officer, RBS Coutts reckons investors will benefit from re-directing their focus from the Asian bond markets to opportunities in Asian equity markets.

“In particular, North Asian equities, led by Greater China and Korea are expected to outperform

drive return within the Asian corporate bond market or shift their focus to local currency Asian bond markets to participate in currency gains in select markets.”

“Asia is looking increasingly safe even if China hits the skids.”

Idea #3 Commodities – yes, again.

Okay, so gold is a commodity, but we are talking a more broad range of commodities here which, despite suffering a bit of a setback in 1010, may offer some upside in 2011. Investors who heeded the clarion call to commodities, led by chief cheerleader, Jim Rogers, who incidentally is based in Singapore, on two bonanza years for commodity prices in 2009 and 2010. Some believe that 2011 will be a year in which commodity prices consolidate and plateau at elevated lev-

2011 will be a year in which commodity prices consolidate and plateau at elevated levels their South East Asia counterparts, as discounted valuations, a greater prospect for currency appreciation against the US dollar, combined with the expected acceleration of US growth are set to buoy North Asian economies,” he says.

And getting a loan should be easy with credit growth momentum continuing for Hong Kong’s banks on the back of the accelerating growth in the offshore Chinese Yuan market, according to Cringle. Oh, and investors should stay away from bonds in general but there may be opportunities in “individual credit opportunities to

els, but this could be merely a pause ahead of more fundamentally driven price gains in 2012.

After bottoming in late 2008 enthusiasm for commodities has been broad and voracious. Prices have soared for base and precious metals, bulk commodities, through to agricultural and even oil has awoken from its slumbers. 2009 was the recovery year, driven by record Chinese commodity stockpiling, widespread producer supply cutbacks and cash for clunkers stimulus schemes, all bathed in accommodative monetary and fiscal environment.

Major hard commodities in 2010- Precious metal RED, Base metals YELLOW, Bulks GREEN, Oil & Gas BLUE.

Shanghai Composite Index a steal Percentile Range

P/E (Percentile)

P/B (Percentile)

P/C (Percentile)

Dividend Yield (Percentile)

90 – 10 Bubble 0 75 – Expensive 90 25 – Reasonable 75 10 – Attractive 25 0 – Bargain 10 Source: Bloomberg data

2.06 (12)

13.22 (1)

7.29 (4)

The second year, 2010 was more problematical in that events external to commodities such as the Greek and Irish dramas and the mid year double-dip recession scare mongering, according to the commodities team at RBS. But now that the pin-striped financial investor is hugely active in investing in commodities, we will likely see a suite of physically backed base metal ETFs listed in 2011 to meet their desire for direct access to commodities. The physically backed precious metal ETFs have already risen to over US$100bn in value. Many commodities ended 2010 close to or at record price levels, but momentum is waning.

RBS has a Base Metal price Index which has risen 145% since its December 2008 low, the rise in 2009 was 91% but in 2010 only a further 21%.

Dampening will be such factors as a stronger US dollar; still onerous inventories for some metals (zinc at 15 year highs, lead at near 8 year highs).

The over arching theme for 2011 will likely be the producer supply response. So what does user commodities bull Jim Rogers think? In an interview in January this year he said that he remains long commodities.

Rogers thinks that the recent decline in gold and copper is nothing more than corrections in a major bull market, and it still has years to go and argues that massive money printing will make investors put some of their money in the stock market, but that more money will go into commodities.

Palladium Silver Iron ore Thermal Coal Nickel Copper Gold Brent Oil Platinum S&P 500 Aluminium Lead Zinc US Natgas

2.23 (6)

-3% -21% -30%

Source: Bloomberg, RBS

53% 46% 34% 31% 30% 22% 21% 13% 12% 7%

0%

30%

60%

97% 83%

90%

120%

cover story “If the world economy gets better, commodities are going to make a fortune. If the world economy does not get better, commodities are the place to be because they’re going to print more money, and that’s how you protect yourself. This is time when you should own real assets, not stock and bonds,” Rogers said.

Rogers doesn’t think stocks provide protection against inflation because stocks weren’t a good place to be when America had inflation during the 70’s.

Idea – China You are either a bull in a China shop or in the slow boat out of China on this one. Either you believe that it is set to crash, or that it is a brilliant buy for the long term. If you are the latter, then there are some pretty good reasons for buying China right now.

We all know the story - It has received considerable hype for a while now and been an unwilling recipient of overwhelming speculative capital inflow and recently overtook Japan as the second largest economy in the world. But some, such as wealth advisors IPP, reckon China still represents a bargain, and here in a nutshell is the argument. Stocks are still down 50 % off their peaks and this economy is still growing. Put simply, it’s a bargain.

Commodities - Winners and losers of 2010 and what to expect for 2011 in 400 words!

Base metals: Nickel was the best performer of the major base metals in 2010 up 34%, benefiting from a supply deficit and a 14% draw down in LME stocks. New supply remains our main concern in the coming years that may limit price upside for nickel. Copper, the metal with the strongest fundamentals came in second, up 31%, finishing the year at a record US$9,687/t. Exchange stocks fell by 18% in 2010. The underlying copper story remains a compelling one and the launch of physical ETFs could provide more price excitement in 2011, however on a risk reward basis there may be better value elsewhere. Aluminium lagged in 2010 rising just 12% as exchange stocks fell by 4%; we believe aluminium is the most attractive risk reward play out of the base metals in 2011. Our least preferred base metal zinc was the only one to finish the year down, smothered by a large surplus with exchange inventories rising 53% to finish at a 15 year high of over 1mt. Zinc remains our least favoured base metal for 2011.

Precious metals: After rising 118% in 2009, RBS long time top precious metal pick palladium topped the charts in 2010 rising 97%, up 400% from its Dec. 2008 low. Despite these gains we expect further price upside for palladium in 2011. Silver rose 83% finishing the year at a 30 year high over $30/oz. However, we are cautious on the outlook for silver and expect sharp price corrections in 2011. Despite rising to a record high of US$1,431/oz. and enjoying the 9th consecutive year of price gains gold finished mid table, up 30%. We believe gold will plateau in H111 and slide lower in H211. Platinum was the laggard rising 21% in 2010; we remain positive on the outlook for 2011 but platinum will need a bounce in EU sentiment to catch up lost ground.

Bulks: A choppy year for the bulk commodities iron ore and coal as new spot pricing mechanisms replace traditional annual benchmark pricing systems. Both spot iron ore and thermal coal finished the year on a high up 53% and 46% respectively. Iron ore benefited from sustained demand from Chinese steel producers and limits to Indian ore exports. Both coking and thermal coal prices rose in Q4 on the back of weather related supply disruptions in Australia and South Africa and Indonesia.

Supply disruptions have potential to cause further price excitement for coal in H1 11. Longer term we expect bulk commodity prices to remain elevated relative to historical levels but new supply will likely limit significant price upside in the coming years.

Other ideas Of course, ideas change all the time, as do markets, but for what t worth Goldman Sachs put out an interesting report at the beginning of the year outlining their thoughts on sectors and countries that would do well.

This is the time when you should own real assets, not stock and bonds.

A simple analysis of China’s valuation metric will show quite plainly just how cheaply priced it currently is, says IPP. The Shanghai Composite Index is clearly a laggard versus most other markets that have already begun trading upwards decisively.

In a nutshell, fundamentals are strong and the main repressor in the Chinese market is likely the government’s attempts to keep speculative moneys from destabilizing its economy. Any market correction represents an opportunity to add positions. IPP recommends Fidelity China Focus and Henderson Horizon China.

And the downside? IPP cautions short-term investors in particular, against sustained government measures to dampen the market. “It might be advisable to then wait it out slightly before increasing positions.”

30 HONG KONG BUSINESS | FEBRUARY 2011

China to market weight from overweight as inflation and policy tightening concerns may continue to pose challenges to the equity market in the near term. “Strategically, we remain positive on its long-term fundamentals, and we forecast nearly 30% fullyear return, which is likely to be back end loaded. We are positive on Hong Kong but stay market weight given its recent strong rally that has raised valuations.”

Japan to market weight on a moderately firmer US outlook, the reversal of the yen, strong earnings growth and supportive valuations, after being a laggard for the past few months. We expect it outperform in 1H 2011.

India maintain on underweight stance on India on expensive valuations (even after they have moderated post recent pullback) and high

“If the world economy gets better, commodities are going to make a fortune.”

inflation pressures. We are also underweight on Australia, given better expected returns elsewhere in the region.

• For the remaining four ASEAN markets (Malaysia, Thailand, Indonesia, Philippines), our market weight stance points to the appeal of their domestic demand stories, but offset by full-to-stretched valuations.

Sector allocations Exhibit 22 shows our sector preferences, which broadly fall into the following categories: • For early 2011, we favor US-facing sectors, hence we are overweight on both Semiconductors and Tech Hardware & Equipment. The continued global economic recovery also bodes well for Capital Goods.

• Inflationary pressures will likely be manifested in a number of ways, including rising input costs as well as policy responses. We are more cautious on Food, Beverage & Tobacco for this reason.

•We believe Financial stocks will diverge next year, with HK Banks benefitting from RMB liberalization, Korea Financial performing well on low valuation and recovering earnings, while India Financial and Australia Banks will likely under perform the region.

HONG KONG BUSINESS

2010 HIGH FLYERS Hong Kong’s Outstanding Enterprises

Hong Kong’s top business leaders and celebrities gathered to celebrate excellence on January 25, 2011 at the Hong Kong Business High Flyers Awards, now in its sixth year. Publisher Tim Charlton was on hand to congratulate the winners at a soiree full of great food and wine followed by Cigars and cognac on the terrace at the magnificant Duetto restaurant. Congratulations to all the winners.

LIST OF HONOREES MOST OUTSTANDING ENTERPRISE AIA PENSION AND TRUSTEE CO, LTD PRIVATE BANKING ABN AMRO PRIVATE BANKING FINANCIAL PLANNING AGEAS INSURANCE COMPANY (ASIA) LIMITED MULTI CHANNELS FINANCIAL CONSULTANCY ALTRUIST FINANCIAL GROUP

INNOVATIVE FURNITURE & CUSTOM MADE FURNITURE DECOR HOUSE

BOUTIQUE HOTEL LAN KWAI FONG HOTEL @ KAU U FONG

LUXURY FURNITURE Dentro

LUXURY LIVING LUXURY LIVING

ENVIRONMENTAL PERFORMANCE FUJI XEROX (HONG KONG) LTD

RETAIL CHAIN SA SA INTERNATIONAL HOLDINGS LTD

PREMIUM CHOCOLATIER GODIVA CHOCOLATIER

CREDIT INSURANCE ATRADIUS

PROPERTY DEVELOPER HENDERSON REAL ESTATE AGENCY LTD

CRYSTAL LIGHTING CRYSTALLIZE.ME

MATCHMAKING SERVICES HONG KONG MATCHMAKERS

LEADING INTERNATIONAL SCHOOL CANADIAN INTERNATIONAL SCHOOL OF HONG KONG

LIFE INSURANCE HSBC INSURANCE

AIRLINES CATHAY PACIFIC AIRWAYS LEADING HOSPITALITY AND TRADING COMPANY CHIRAM STRATEGIC GROUP 32 HONG KONG BUSINESS | FEBRUARY 2011

KITCHEN DESIGNER JIA INTERNATIONAL LTD INTERIOR DESIGNER KADRIDEN INTERIOR DEISGN /ARCHITECTURE

PROFESSIONAL AV CONSULTANT SOUND CONCEPTS LTD LEADING HOTEL & CASINO STARWORLD HOTEL & CASINO MBA PROGRAM OneMBA, GLOBAL EXECUTIVE MBA PROGRAM –THE CHINESE UNIVERSITY OF HONG KONG LAW FIRM THOMAS, MAYER & ASSOCIES INNOVATIVE TECHNOLOGY ULTRA ACTIVE TECHNOLOGY LTD CAR DEALER ZUNG FU COMPANY LTD

event I hong kong business 2010 high flyers award

Bonnie Tse (center) with the team AIA Pension & Trustee Co Ltd accepts the

Delegates from Altruist Financial Group

Raymond Choi (center) with Crystallize.Me team with the Crystal Lighting award

Rhian Thomas of Atradius with Tim Charlton

Bonnie Tse receiving the award for AIA Pension & Trustee Co. Ltd.

Arjan de Boer on behalf of ABN AMRO Private Banking for the Private Banking Award

Brian Lam and Edith Cheung accepts the Car dealer award for Zung Fu Co Ltd

Brandy Tsang accepts the Multi Channels Financial Consultancy award for Altruist Financial Group

Arthur Cozad and Robert Lang of of HSBC Insurance accepts the Life Insurance award

Matt Eaton of Marketing Magazine with Louis Shek HONG KONG BUSINESS | FEBRUARY 2011 33

Angela Yam receiving the Financial Planning award for Ageas Insurance Company (Asia) Ltd

Moss Bakar with a colleague accepts the Leading Hospitality & Trading Company award

Amy Chan with the Decor House team at the cocktail

Anita Tang & Alfred Lai of Henderson Real Estate Agency Ltd at the cocktail

Gabe Hunterton receiving the Leading Hotel & Casino award for Galaxy Starworld Delegates enjoying the cocktail and networking at the terrace Hotel & Casino

Delegates from Ageas Insurance & HSBC Insurance at the cocktail 34 HONG KONG BUSINESS | FEBRUARY 2011

Linda Parnsalu and Theresa Lee of Canadian International School of Hong Kong

Dr. Alex Tang and Liza Tang accepts the Luxury Living award for Luxury Living

Copies of the Hong Kong Business Annual

Kathy Chiron accepts the Matchmaking services for Hong Kong Matchmakers

event I hong kong business 2010 high flyers award

Philip Ma (center) with the team from Dentro won the Luxury Furniture award

Tim Charlton, Rebecca Kwan and the team from Lan Kwai Fong Hotel with the Boutique Hotel award

Linda Parnsalu receiving the Leading International School award for Eric Jan de Boogert and Martin Jones accepts the Credit Insurance Canadian International School of Hong Kong award for Atradius

Hoffman Ho with a colleague from Kadriden Interior Design/Architecture won the Interior Designer award

Edith Cheung receiving the Car Dealer award for Zung Fu Company Ltd

Venus Chan receiving the Environmental Performance Award for Fuji Xerox

Eric Mayer and Eric-Jean Thomas with the Thomas, Mayer & Associes team won the Law Firm award

Almon Au Yeung with the JIA International Ltd team won the Kitchen Designer award

Louis Shek and Tim Charlton HONG KONG BUSINESS | FEBRUARY 2011 35

event I hong kong business 2010 high flyers award

Alice Leung, Didier Guillot and Catherine Chan of OneMBA, The Chinese University of Hong Kong for the MBA Program award

Paul Ng, Gabe Hunterton and Vicky Wu of Galaxy Starworld Hotel & Casino accepts the Leading Hotel & Casino award

Anita Tang with the Property Developer award from Henderson Real Estate Agency Ltd

Charmaine Yuen and Vanessa Choi of Ultra Active Technology Ltd won the Innovative Technology award

The team behind Hong Kong Business High Flyers Award 2010 (Tim Charlton, Julie Anne NuĂąez, Ann Marie Aquino and Louis Shek)

Rebecca Kwan with the Lan Kwai Fong Hotel @ Kau U Fong team 36 HONG KONG BUSINESS | FEBRUARY 2011

Vecinia Lau and Angela Yam receiving the Financial Planning award for Ageas Insurance Company (Asia) Ltd

Queenie Mak and Macy Leung from Sa Sa International Holdings Ltd accepts the Retail Chain award

DĂŠcor House team with Davide Butson-Fiori

Sherry Chung and Jacky Woo of Sound Concepts Ltd accepts the Professional AV Consultant award

Philip Ma receiving the Luxury Furniture award for Dentro

MAXALTO STORE HONG KONG C/O - DÉNTRO UPPER G/F WILSON HOUSE, 19-27 WYNDHAM STREET HONG KONG TEL. 00852.28668829 INFO@DENTRO.COM.HK TO REACH THE DEALER NEAREST TO YOU, PLEASE CONTACT B&B ITALIA: TEL. +39 031 795 213 INFO@BEBITALIA.COM WWW.MAXALTO.IT

Concept and Styling Collage Studio. Photo Fabrizio Bergamo.

MAXALTO IS A B&B ITALIA BRAND. COLLECTION CO-ORDINATED BY ANTONIO CITTERIO.

opinion

Pascal Gautheron Mind the Gap: High-Performance IT in Financial Services

I

n the financial services industry, the business agenda has firmly moved from survival and cost containment to growth, as firms look to rebuild their earnings models. As well as supporting this new agenda, CIOs from these industries also must adapt their IT systems rapidly to respond to the changing habits of consumers and the increasing and urgent regulatory changes that were implemented to stabilize the financial system and protect consumers.

This three-pronged threat – supporting a multichannel growth agenda while simultaneously managing costs and responding to regulatory change – is enough to test even the savviest CIO. These high performing IT organizations have overcome cost cutting mandates and demonstrated excellence in three key areas – execution, agility and innovation – which enable them not only to manage IT like a business, but to run IT for the business and with the business.

Accenture’s High Performance IT research shows that in order to deliver on these customer-centric objectives, financial services institutions are shifting significantly from being followers of innovation to driving innovation throughout the business.

Execution While the economic downturn forced many IT organizations to cut spending in proportion to the reduced revenues of the business, high performers have shown resiliency in securing new investments.

Their success can be attributed in large part to their excellence in IT governance and their ability to reinvest cost savings and efficiency improvements in IT in order to add value.

These patterns are apparent among financial services respondents, which have been able to maintain a focus on investing while managing

Agility Many CIOs at financial services companies are looking to the cloud for help. Almost half (49%) of their CIOs said they are still leveraging mostly internal computing resources but are testing external dynamically provisioned computing services (compared with 38% of cross-industry respondents).

And while only 2% of financial services respondents said they are fully committed to leveraging external cloud services today, 29% said they expect to do so in the future based on business needs (vs. 25% of all respondents).

Innovation 23% of these respondents said IT is driving the innovation process for their business, compared with 9% of all respondents. More than half of financial services respondents (54%) said their goal is for IT to play a critical role in innovation. 41% of financial services CIOs said they have a hard time managing the trade-off between innovation with emerging architecture concepts and the resulting short-term operational cost increases. Fewer than half (48%) said they adequately control the costs of innovation today – compared with 69% of high performers.

CIOs must adapt their IT systems to respond to the changing habits of consumers and regulatory changes of financial system. costs more efficiently. IT staff at these companies are spending more than two-thirds (69%) of their time enhancing, building, integrating, testing and deploying new IT infrastructure – comparable to the cross-industry high performers. This is a noted step away from the “keep the lights on” mentality of many organizations that focus more on running and fixing existing systems.

38 HONG KONG BUSINESS | FEBRUARY 2011

pascal gautheron Managing Director, Accenture’s Banking Practice in Asia Pacific

Survival in the financial market

analysis

The Real Value of the Yuan and Inflation Inflation in China slows down its exports. Is this the beginning of rebalancing, asks Menzie Chinn.

A

recent NY Times article highlighted the fact that international competitiveness (as defined by macroeconomists) depends on not just the nominal exchange rate, but also relative price levels. From “Inflation in China May Limit U.S. Trade Deficit,” by Keith Bradsher: Inflation is starting to slow China’s mighty export machine, as buyers from Western multinational companies balk at higher prices and have cut back their planned spring shipments across the Pacific.

It’s useful to recall that one definition of the (log) real value of a currency (defined as number of foreign units of real goods required to obtain one single unit of domestic goods, so up is appreciation) is:

r ≡ e + p - p*

Where e is the log value of the currency (number of foreign currency units to obtain one single unit of home currency), p and p* are the log domestic and foreign price levels.

As Chinese inflation (4.6% y/y in December) exceeds US (or rest-of-world) inflation, then the Chinese real exchange rate appreciates (r rises).

It’s important to keep in mind the magnitude of these effects, though. To me, RMB appreciation is still trending along the same path it was before the financial crisis.

Here’s the caveat. The BIS (as well as IMF) indices are CPI deflated. As I’ve discussed elsewhere, there

Log real value of trade weighed CNY, broad basket.

Source: BIS, accessed 2/2/2011.

40 HONG KONG BUSINESS | FEBRUARY 2011

PROF. MENZIE D. CHINN www.econbrowser.com mchinn@lafollette.wisc.edu

are actually many definitions of real exchange rates, which depend upon the deflator used. In the article, Bradsher is actually referring to several related versions, including one deflated by manufactured exports prices, and by wages. Clearly, these two are linked -- the higher the wages, the higher the price of the finished good, assuming a constant price-cost margin.

Actually, once one writes out the expression for pricing by a monopolistically competitive firm, one sees the price is a function of the price-cost markup (itself a function of demand elasticities) and unit labor costs -- the wage rate divided by productivity.

This suggests a more appropriate deflator for assessing competitiveness is the unit labor cost deflated real exchange rate.

Thus, in focusing on wage movements (which do seem quite dramatic), Bradsher is assuming

Inflation is starting to slow in China.

Western multinational buyers balk at higher prices and have cut back their planned spring shipments across Pacific. productivity trends are not too marked relative to wage changes (and further the scope for compression of price-cost margins is limited, which seems reasonable). However, unit labor costs have in the past diverged from CPI. If indeed wages are rising rapidly due to exhaustion of excess labor supply in the coastal regions, then this would be an important milestone in rebalancing the Chinese economy.

The real exchange rate is now around the level of a decade ago

Source: People’s Republic of China 2010 IMF Article IV Consultation – Staff Report, p.19.

The 4 scenarios you need to know about for Hong Kong Property Despite the roller-coaster 2010 of HK, there is still optimistic about 2011 market outlook.

W

here is the Hong Kong Property Market headed to in 2011?

Will it crash anytime soon? I have written my views on Hong Kong real estate market here and there, but rarely have I made any specific predictions. I thought it is a good idea to integrate all these ideas together and put together my prediction of Hong Kong Property market in 2011.

The average land cost for all sites sold in government land auction in 2010 was HK$8,082 per square foot, which would be a record year if we exclude the only site sold in 2008, of which the land cost was HK$13,348 per square foot for a tiny 1,236 square feet project (we can safely say that the single site sold was not quite representative). Also worth noting is that in the previous peak of the property

42 HONG KONG BUSINESS | FEBRUARY 2011

“As Hong Kong real estate has become pretty much driven by money flow, it is important to forecast money flow in order to make any serious predictions on property market.�

market in 2007-08, the average land cost for all the sites sold in 2007 was only HK$5,723 per square foot. This reflects developers’ increased interest in luxury segment of residential market, such that they were willing to pay premium prices for superior locations which (in their views) can be developed into premium housing.

As Hong Kong real estate has become pretty much driven by money flow, it is important to forecast money flow in order to make any serious predictions on property market.

There are two main forces which are channeling money into Hong Kong property market. The first one is quantitative easing in the United States, in which the Federal Reserves injects money into its banking system. Excess liquidity is looking for return, and thanks to strong Asian economic growth, Asian real estate

including Hong Kong real estate seems to be a good place to put the money. The second force is Chinese buyers, who have been buying Hong Kong property (especially the luxury segment) over the past few years or so.

4 Scenarios There are basically 4 possible scenarios concerning capital inflow into Hong Kong: 1. Quantitative Easing and Chinese Buyers continue to drive capital flow, thus home prices in Hong Kong 2. Quantitative Easing continues to drive money flow, but Chinese Buyers retreat 3. Quantitative Easing ends and/or interest rates increase, but Chinese Buyers continue to buy 4. Quantitative Easing ends and/or interest rates increase, and Chinese

analysis Buyers retreat The reason for the end of quantitative easing and/or interest rates increase is that economic growth seems to be picking up of late, and inflationary pressure has emerged even in developed countries. Recent increase in US Treasury Yield and the closing of the spread between 30-year and 10-year Treasury Yield suggested that the Federal Reserves is unlikely to extend or enlarge the quantitative easing programme after they have finished the pledged US$600 billion purchases, and an early interest rate hike in 6 to 12 months will be a real possibility. If that happens, the liquidity driven Hong Kong property market will be under pressure as the Fed exits their unconventional monetary policy.

On the Chinese buying interest, it will very much depends on how aggressive the tightening actions of the Chinese government will be.

Although it is commonly assumed that Chinese Yuan appreciation will be good for Hong Kong property because home prices in Hong Kong will look cheaper and inflation in Hong Kong will be higher, there is also a downside for this argument. Chinese Yuan appreciation is essentially a tightening policy from the Chinese perspective. Even though it is in the Chinese government interest not to create a recession in China, when it comes to moderating economic activities, no government can claim to be omnipotent.

Commercial Real Estate Similar to residential real estate, Hong Kong commercial real estate has recovered strongly in terms of both rents and capital values. In particular, Central Grade A Office has performed very strongly rents have increased 33.3% from Jan to Nov 2010, and capital value increased 35.5% in the same period, and vacancy dropped to a mere 3% according to Jones Lang LaSalle.

Although they certainly have different driving forces, I believe the commercial and residential markets are exposed to some similar major driving forces. This is demonstrated by the fact that the residential and commercial real estates cycles in Hong Kong have been quite synchronous. It is also worth noting that the capital values of Hong Kong

The share prices performances of Cheung Kong (1.HK) and Hysan (14.HK) in 2003 and 2009 recovery and subsequent years.

*Red: Hysan, Blue: Cheung Kong Source: http://www.alsosprachanalyst.com/wp-content/uploads/2011/01/CheungkongvsHysan.png

Grade A office recovered since early 2009, pretty much together with the residential market on the back of massive unconventional monetary stimulus (quantitative easing I), while office rents only bottomed out in late 2009. The rise in capital values in 2009 was driven by yield compression due to record low interest rates, rather than any improvement in rental values, which improved markedly only in 2010. So the commercial properties space, in my view, in exposed to similar risks that residential market is exposed to, namely, money flow. The only risk that commercial real estate in Hong Kong does not face is policy risk, as it has nothing to do with home ownership, so that it is much less likely for politicians to express any concerns on higher office rents, for example.

Physical Market vs. Stocks Market For the physical market, I am looking for a more stable 2011, with a bull case of 10-15% upside for all properties, while the main risk would be premature money outflow, which will almost certainly break the bull market.

For the stock market, despite strong performances in the real estate market in the past 2 years, there has been a huge divergence in stock performances between property investors (landlords) and property developers. Intuitive explanations might be that because most property investors hold portfolios which are mostly composed of commercial real estates, they are arguably exposed to much less policy risk than

“There are no easy explanations of the outperformance of property investors in early recovery.

But if history is a good guide, this is certainly something to bear in mind.�

developers, whose main businesses are building and selling mostly residential units. But when we look further back into the history, we can actually see that property investors’ stock prices recovered more strongly in the early recovery of 2003 than developers, and developers only are only catching up at a relatively late stage of the up-cycle.

There are no easy explanations of the outperformance of property investors in early recovery. But if history is a good guide, this is certainly something to bear in mind.

Another worth-noting point is that, there is a certain conventional wisdom that stock market performances lead real estate market performances. Despite the huge correction in developers stocks after the announcement of extra stamp duty, developers stocks are regaining some ground that would suggest that the real estate market is yet to turn south.

I believe HK home prices will not turn negative in the next 3-6 months.

In 6-12 months time, however, if economic growth is going faster in the developed countries and inflation returns, we will see higher interest rates and liquidity will be removed as central banks exit from unconventional policy tools. By the end of 2011, I believe we will see a much less favorable environment in Hong Kong real estate market, and will be headed for a correction in 2012.

By Zarathustra W. Also Sprach Analyst www.alsosprachanalyst.com HONG KONG BUSINESS | FEBRUARY 2011 43

Why the Chinese economy could already be larger than America’s But in real dollar terms, its just about anyone’s guess as to which is the larger economy

A

ccording to preliminary estimation, GDP for the year 2010 was 39,798.3B Yuan, up by 10.3% at comparable prices, or 1.1 percentage points higher than that in the previous year. In terms of growth by quarters, it was up 11.9% for the first quarter, 10.3% growth for the second quarter, 9.6 percent for the third quarter and 9.8 percent for the last quarter. – NBS report This places China’s official GDP for 2010 at a nice, round $6.0 trillion.

There is of course a lot more interesting stuff in the NBS report. Those who are worried about excess investment will find it hard to see the data as anything other than worrying.

Investment has gone up 23.8% from last year’s already sky-high numbers, and even the best consumption numbers merely reinforce the sense that

44 HONG KONG BUSINESS | FEBRUARY 2011

“China’s economy is already bigger than the US economy according to PPP.”

there has been no rebalancing – three of the four consumption items that registered the most rapid growth were actually investment related.

China’s economy is already bigger than the US economy according to PPP. I am not disputing Subramanian’s numbers, but comparisons between two such disparate economies on a PPP basis of course have no meaningful content at all. The fact that it is much cheaper to get a haircut or massage in China (something the latter of which I am happy to exploit voraciously) tells us very little about the two countries that we wouldn’t have already known.

But excitement aside, this whole exercise is pretty meaningless, and not only for the reason you might think – is that economic growth not a horse race between countries. It is meaningless for a far more funda-

mental reason, and this is because the comparable official GDP numbers for China (and PPP numbers start with the official numbers and then adjust for local prices) are wrong.

GDP may be higher GDP is supposed to measure the total value of goods and services produced in China, but there are several problems with the official numbers. There are problems with all GDP numbers, but the biases, especially in the developed countries, are fairly consistent, which makes cross-country comparisons more or less meaningful. But in China there are additional problems, which make cross-country comparisons very complicated.

First of all we know that a lot of Chinese income – more than in most other major countries – is hidden, for

analysis whatever reasons, and this tends to pull down reported GDP numbers.

One plausible recent estimate is that roughly 10% of total income is hidden beyond the NBS surveys, and so this suggests that GDP might really be substantially higher.

Second, when you compare the US and China (or any two countries), you have to think carefully about the exchange rate you’re using. The standard method is to use the current market exchange rate, not because it is the conceptually correct exchange rate, but rather because it is broadly meaningful when you think about international trade and, more than anything else, it is objective. At any point in time I can convert any Chinese GDP number into its incredibly precise dollar equivalent.

If part of the country’s high growth rate is a consequence of the undervalued exchange rate, and certainly Beijing seems to believe it is, than raising the value of the RMB would automatically cause a slowdown in Chinese growth. That is why analysts should consider the relationship between the two when they make projections, and by the way they are implicitly (if not very accurately) doing so when they calculate PPP numbers.

GDP may also be lower So far nearly all the adjustments and predictions about Chinese growth that we have seen in the press suggest that the “real” size of China’s economy requires upward revisions of official GDP numbers, but that might reflect China hype more than a judicious approach might justify. What if China’s GDP numbers seriously overstate the true value of China’s economy?

The same is true with the environment, which has a real economic value that can be adversely affected by certain kinds of economic activity.

Here is an article that came out four months ago on Bloomberg: China, the world’s worst polluter, needs to spend at least 2 percent of GDP a year — 680 B Yuan at 2009 figures — to clean up 30 years of industrial waste, said He Ping, chairman of the Washington-based International Fund for China’s Environment. Mun Sing Ho, a senior economist at Dale W. Jorgenson Associates and a visiting scholar at Harvard University in Cambridge, Massachusetts, put the range at 2 to 4% of GDP.

Failure to spend that much — equivalent to the annual GDP of Vietnam — may cost the Chinese economy half as much again in blighted crops, health costs and pollution-related expenses, He said: “The clean up can’t catch up with the speed of pollution” if spending is less.

There is no objective way to figure out how much of Chinese GDP growth should be reversed because of environmental degradation (and in this China is simply an extreme case – most countries to a lesser extent have this problem), but there is no question that the number is big, and the result is that we overestimate China’s GDP growth today and will underestimate GDP growth tomorrow. In other words environmental degradation simply causes us to take future growth and count it today.

Environment Degradation When you add the impact of misallocated investment and environmental degradation, the necessary cumulative adjustment to Chinese GDP might be huge. For example, if the two adjustments combined range from 2 to 4 percentage points annually, over one decade China’s “true” GDP, would be below the official numbers by anywhere from 1631%. Over twenty years official GDP would be overstated by 31-52%. That means that we are massively overstating GDP today and will experience very low apparent GDP growth for many years in the future as the official number returns to some reasonable approximation of the real num-

“Household consumption might be at least as good an indicator of the real growth in wealth as productionside GDP numbers.”

ber.

These are big adjustments, both above and below the official GDP numbers. This is why I find the whole horserace to predict the earliest date by which China’s economy will overtake the US to be so silly. What we are in effect doing is predicting the date by which an economy that is officially $6T, but in reality anywhere from $3T to $15T in size, will overtake another economy that is roughly around $15T in size.

And this is not the first time we have played this game. Look at Japan. Fifteen to twenty years ago Japan’s GDP was officially 17-18% of the world’s GDP and it was rapidly catching up to the US. Today it is 8%, and there seems to be no chance of it every catching up.

Is it possible that Japan’s official GDP growth was vastly inflated by misallocated investment before 1990, and vastly deflated by the repayment of that investment after 1990?

If you look at the growth in Japan’s household consumption, you will find that household consumption grew much more slowly than GDP before 1990, and much more quickly after 1990. Household consumption might be at least as good an indicator of the real growth in wealth as production-side GDP numbers. So might it not be true that Japan’s official GDP was too high before 1990, and it has been slowly adjusting since then? And if this could have happened in Japan, whose investment growth was high but way below China’s, why can’t it happen here?

HONG KONG BUSINESS | FEBRUARY 2011 45

The Financial Crisis of 2015

What, again ? Maybe, according to a report by Oliver Wyman Group.

O

liver Wyman Group has released a very interesting piece about the potential for a future financial crisis. They make the case that the next great financial crisis will occur around 2015 and will be the result of a massive bubble in commodity markets that results in widespread economic collapse and sovereign defaults.

Wyman describes how the bubble will form in commodities and ultimately collapse: “Based on favorable demographic trends and continued liberalization, the growth story for emerging markets was accepted by almost everyone. However, much of the economic activity in these markets was buoyed by cheap money being pumped into the system by Western central banks.

Commodities prices had acted as a sponge to soak up the excess global money supply, and commoditiesrich emerging economies such as Brazil and Russia were the main beneficiaries.

High commodity prices created

46 HONG KONG BUSINESS | FEBRUARY 2011

“Banks pursuing high growth strategies, particularly those focused on lending to the booming commoditiesrich economies, started to attract high market valuations and shareholder praise.”

strong incentives for these emerging economies to launch expensive development projects to dig more commodities out of the ground, creating a massive oversupply of commodities relative to the demand coming from the real economy. In the same way that over-valued property prices in the US had allowed people to go on debt-fueled spending sprees, the governments of commodities-rich economies started spending beyond their means. They fell into the familiar trap of borrowing from foreign investors to finance huge development projects justified by unrealistic valuations. Western banks built up large and concentrated loan exposures in these new and exciting growth markets.

The banking M&A market was turned on its head. Banks pursuing high growth strategies, particularly those focused on lending to the booming commodities-rich economies, started to attract high market valuations and shareholder praise.

The narrative driving the global commodities bubble assumed a con-

tinuation of the increasing demand from China, which had become the largest commodities importer in the world. Any rumors of a slowing Chinese economy sent tremors through global markets. Much now depended on continued demand growth in China and continued appreciation of commodities prices.”

The bubble bursts Western central banks pumping cheap money into the financial system was seen by many as having the dual purposes of kick-starting Western economies and pressing China to appreciate its currency. Strict capital controls initially enabled the Chinese authorities to resist pressure on their currency. Yet the dramatic rises in commodities prices resulting from loose Western monetary policies eventually caused rampant inflation in China. China was forced to raise interest rates and appreciate its currency to bring inflation under control. The Western central banks had been granted their wish of an appreciating Chinese currency but with the unwanted side effect of a slowing Chinese economy and the reduction in global demand that came with it.

Once the Chinese economy began to slow, investors quickly realized that the demand for commodities was unsustainable. Combined with the massive oversupply that had built

analysis up during the boom, this led to a collapse of commodities prices. Having borrowed to finance expensive development projects, the commoditiesrich countries in Latin America and Africa and some of the world’s leading mining companies were suddenly the focus of a new debt crisis. In the same way that the sub-prime crisis led to a plethora of half-completed real estate development projects in the US, Ireland and Spain, the commodities crisis of 2013 left many expensive commodity exploration projects unfinished.

Western banks and insurers did not escape the consequences of the commodities crisis. Some, such as the Spanish banks, had built up direct exposure by financing Latin American development projects. Others, such as US insurers, had amassed indirect exposures through investments in infrastructure funds and bank debt.

Inflation pressure in the US and UK during the commodities boom had forced the Bank of England and Fed to push through a series of interest rate hikes that forced many Western debtors that had been holding on since the subprime crisis, to finally to default on their debts. With growth in both developed and emerging markets suppressed, the world once again fell into recession.”

Of course, this scenario is already largely playing out in real-time. We are seeing investors drive up the prices of commodities as the global economy recovers and speculators look for the next big boom. Wyman elaborates: “However, it is already apparent that increasing commodities prices are also creating inflationary pressure in China, which is exacerbated by China holding its currency artificially low by effectively pegging it to the US dollar. This makes commodities look like an attractive hedge against inflation for Chinese investors. The loose monetary policy in developed markets is similarly making commodities look attractive for Western investors.

This “commodities rush” is demonstrated in the right-hand chart below, which shows the asset allocations of European and Asian investors. A recent investor survey by Barclays also found that 76% of investors predicted an even bigger inflow into commodities in 2011.”

Ultimately, they conclude that the

The Commodities Rush CRX index vs. S&P 500 (Market value of equity of commodity-related companies)

European and Asian mutual fund investments in commodities

1. Based on Q3 data Source: Bloomberg, FERI, Oliver Wyman analysis

imploding commodity bubble will lead to another financial crisis and sovereign defaults. Their “base case” scenario involves mostly European nations experiencing defaults. This looks not only likely, but probable.

It is likely that the periphery of Europe will remain mired in recession for several years as austerity measures put downward pressure on their economies and the Euro governments fail to enact a true fix to the flawed single currency system.

Persistent weakness in Greece and Ireland will cause continual political turmoil and ultimately the scenes of Egypt would not be surprising throughout many parts of Europe as citizens demand real change. The Euro would likely remain the primary European currency, however, several periphery nations would reconsider their involvement.

Now, where I disagree with the Wyman analysis is in their “worst case” scenario. Any regular reader knows that it is highly flawed analysis to conclude that the USA could potentially default on its obligations – all of which are denominated in the currency in which it alone has monopoly supply of. This simple point eludes even some of the brightest minds in economics today. A default of the USA is impossible. The only form of default could come through hyperinflation. Considering the deflationary collapse that would likely result during the Wyman “worst case” scenario I think it’s likely that we would once again see the USA become the global safehaven and the USD would not collapse, but surge as it did in 2008.

“With growth in both developed and emerging markets suppressed, the world once again fell into recession.”

Still, the economic impacts would be deeply negative for the entire global economy though a collapse of the USA is not on the table.

We continue to see increasing disequilibrium in the global economy.

The flaws in the Euro, China’s misguided economic policy and the endless financialization of the USA are the three primary factors contributing to what is unavoidable future calamity. It’s clear that none of these countries are interested in any sort of near-term pain that would be required to fix these structural imbalances so it’s not a stretch to assume that we will continue the boom/bust cycle that has become a trademark of the last 25 years of global economic growth. Wyman concludes that this event could be several years away, however, I fear that this event could easily occur sooner than 2015. We remain in one continuing balance sheet recession with rippling waves that could cause these imbalances to resurface sooner than anyone believes. The resulting impacts will be broad and have the potential to forever change the way we approach future economic growth and the way governments intervene in markets. I would expect the Bernanke Fed to be in the middle of the ensuing storm.

Such a crisis would likely result in wide ranging policy changes that will finally clear the imbalances of the credit crisis and create a foundation for truly sustainable economic prosperity.

By Cullen Roche cullenroche@orsusinvestments.com www.orsusinvestments.com HONG KONG BUSINESS | FEBRUARY 2011 47

LIFE & STYLE

Clothes maketh the man

For the fashion-minded gent, a sharp suit is a business necessity. Here are five of the best men’s tailors in Hong Kong.

W.W. Chan & Sons

A2, 2/F, Burlington House, 94 Nathan Road, Kowloon - 2366 9738 One of the oldest Shanghainese tailors in town, look past the slightly shabby façade on Nathan Road and you’ll find a talented team working together to provide a truly bespoke service. From the hand-sewn silk buttonholes to speciallydesigned trouser hems that minimize wear and tear, the attention to detail is near-perfect.

Moustache

31 Aberdeen Street, Sheung Wan – 2541 1955 For a more unusual and casual bespoke experience, head to Moustache. Home to the tailors J.A. Daye, their vintageinspired designs combine colonial tropic style (think Bermuda shorts and cotton suits) with a modern sensibility. Expect a timeless outfit that will last for years – and as time passes, the team are happy to make alterations if needs be.

Loa Hai Shing

201-203 Tak Shing House, 20 Des Voeux Road, Central - 2523 6167 With suits ranging from ‘leisure’ to ‘urban’ in style, LHS takes pride in crafting pieces that can be worn year-round, are easily maintained and of course, excellent quality.

A-Man Hing Cheong

201-203 Tak Shing House, 20 Des Voeux Road, Central - 2523 6167 It almost goes without saying that the Mandarin Oriental is where you’d come to find an experienced and exceptional tailor who has cut his teeth working with some of the most discerning customers in the world. Decorated with plenty of warm, dark wood, A-Man’s salon is like a comfortable lounge in which you can work with the team to create a suit to your exact specifications.

Tai Pan Row Tailors

EM-N8

By appointment only - communicate@EM-N8.com For the individual looking to make a personal statement and a totally “you-nique” suit, EM-N8’s bespoke service is just what the sartorialist ordered. After a detailed personality, lifestyle and visual preferences assessment, EM-N8 will create a bespoke logo for you and hand-stitch, weave, engrave or emboss it on any of their luxurious items. From dress shirts to perfectly-tailored suits, cashmere jumpers, casual wear, belts to leather accessories and bags, EM-N8 is the first step on the road to a new “brand you”.

48 HONG KONG BUSINESS | FEBRUARY 2011

Shop 3015, ifc mall, Central - 2147 2828 / Shop 202, The Galleria, 9 Queen’s Road - 2368 8834 Working with cloth by Ermenegildo Zegna, Versace and Givenchy, Tai Pan Row has considerable designer cred and is considered a Hong Kong institution by many. With two locations in Central, they cater to the well-suited and booted crowds and are a reliable option for the gentleman on the go.

Recommended by QUINTESSENTIALLY, the world’s leading luxury lifestyle group with a 24-hour global concierge service.

Contact hongkongbusiness@quintessentially.com.

legal briefing

What you need to know about HK’s Competition Bill Are you ready for the financial risks associated with the competition bill ?

A

comprehensive cross-sector Competition Bill is currently before Hong Kong’s Legislative Council. The Proposed Law contains two main ‘conduct rules’ - being a generally worded prohibition of anti-competitive agreements as well as a prohibition against unilateral conduct that constitutes abuse of substantial market power.

According to the Proposed Law, any contravention of the conduct rules will expose the concerned company to penalties amounting up to 10% of global turnover. Additionally, new Competition Tribunal will be empowered to impose a wide range of orders against the company, including orders requiring that it divest assets or exit markets.

These penalties are obviously significant enough to demand the Proposed Law be given the full attention of boardrooms across Hong Kong. However, in addition to threats to a company’s finances and permitted scope of operations, company directors and senior executives need to be aware that they may also face significant financial and other risks as individuals if they are involved in the operation or management of a company that contravenes the law. This is explained below.

Pecuniary penalty According to section 91 of the Proposed Law, the Competition Tribunal’s power to impose pecuniary penalties in response to identified contraventions of the conduct rules extends to fining any person ‘involved’ in such a contravention. This clearly includes company directors and executives.

In particular, directors and executives may be at risk where they aid or abet, or are knowingly concerned in (directly or indirectly), a contravention. This may include, for example, where a director personally oversees, takes part in, or signs off on an arrangement that the Competition Tribunal later deems to be contrary to the conduct rules, or perhaps even wilfully ignores information that suggests a contravention is occurring.

Importantly, the Proposed Law makes it clear that directors and senior executives will not be able to receive indemnification from their employers in respect of any liability they may incur to pay a pecuniary penalty for contraventions - or the costs of defending an action in relation to the law where such a penalty is imposed or conviction recorded.

50 HONG KONG BUSINESS | FEBRUARY 2011

John Hickin PARTNER Mayer Brown JSM

Gerry O’Brien SENIOR ASSOCIATE Mayer Brown JSM

Disqualification orders Section 99 of the Proposed Law empowers the Competition Tribunal to make an order disqualifying a person from being a director of a company or from otherwise being concerned in the affairs of a company for up to 5 years, if the company has contravened a conduct rule and the Competition Tribunal considers that the person’s conduct as a director makes the person unfit to be concerned in the management of the company.

Disqualification powers are not new to Hong Kong’s regulatory environment, however it is arguable that the broad nature of the Proposed Law’s conduct rules may give rise to a greater level of compliance uncertainty than will usually be the case with legislation such as

Directors and executives need to ensure they are properly educated on all aspects of the Proposed Law. the Securities and Futures Ordinance, and this will make many directors and executives nervous about their capacity to mitigate risk in this area.

Risks of being sued by the company?

Directors also potentially face the risks of being sued by their company if they are relevantly involved in a breach of law that exposes the company to penalty or loss. However, a recent English decision suggests this risk may be narrowed in a competition law context. In Safeway Stores v Twigger & Ors [2010] EWHC 11 (Comm), England’s Court of Appeal ruled that Safeway’s liability for competition law fines was personal to it as a company and could not be passed to its employees (even if they were largely responsible for the infringement).

How should directors and executives be preparing?

Directors and executives need to ensure they are properly educated on all aspects of the Proposed Law. Additionally, they should ensure their companies implement comprehensive compliance policies and compliance programs, specifically tailored to reflect the major risks likely to arise in their industry sector and with regard to the structure of their business.