Back in Hong Kong stocks

Can't resist those juicy dividends

Early this year I was quite pessimistic on Hong Kong stocks. But since then the Hang Seng is down another 20% or so. A lot of stocks with 9-10%+ dividend yields are laying around. I should have been a bit quicker writing this up, but then you are getting it for free.

There are still risks, but I don’t think the zero Covid strategy will be sustainable. They will probably let it rip in a somewhat controlled way, and I expect China to fully depart from their Zero Covid strategy somewhere in 2024. This kind of has a late 2020 vibe to me. They are already loosening up (from WSJ):

SINGAPORE—Chinese leaders are considering steps toward reopening after nearly three years of tough pandemic restrictions but are proceeding slowly and have set no timeline, according to people familiar with the discussions.

Chinese officials have grown concerned about the costs of their zero-tolerance approach to smothering Covid-19 outbreaks, which has resulted in lockdowns of cities and whole provinces, crushing business activity and confining hundreds of millions of people at home for weeks and sometimes months on end. But they are weighing those against the potential costs of reopening for public health and support for the Communist Party.

As a result, they are proceeding cautiously despite the deepening impact of the Covid-19 policies, the people said, pointing to a long path to anything approaching prepandemic levels of activity, with the timeline stretching to sometime near the end of next year. [...]

One plan under consideration in Beijing, the people said, would be to begin treating Covid-19 as a “Class B” infectious disease following any change in the WHO’s designation. China has been treating it as a Class A disease, which calls for stricter public-health measures.

Even with such a move, it could take China a much longer time—perhaps a year, the people said—to return to prepandemic levels of activity. The government wants to continue to monitor new variants closely to ensure that they don’t become more dangerous, they said.

Of Course there is also the risk of a Taiwan invasion, but this is not 1939, there will be plenty of warnings before that happens. And what is more likely is some sort of technical blockade. This surprisingly good Seeking Alpha article goes into detail why an invasion would be pretty unlikely in the foreseeable future.

My hands will very quickly twitch towards the sell button if things do start heating up, but valuations here are simply so cheap that it doesn’t really matter. The stocks in the list below will probably pay out 20-40% of their market cap in dividends before anything starts to happen, if anything will happen at all. 

So these are the Hong Kong stocks that I am long, from largest to smallest:

Haier Smart Home ($690D). If 2023 analyst estimates are correct, the stock trades at 3.3x 2023 earnings and a 12% forward dividend yield and a 66% discount to H shares. Net cash by year end will be 56% of the market cap. I have mentioned this stock already previously so I will quickly move on.

Long at €1.1

First Pacific ($0142) I have also mentioned this one in my last post. But quick and dirty it pays out about 10% in dividends and buybacks and trades at a 2.7x FW PE. And all of its business is in the Philippines and Indonesia. 

Long at HK$2.14

JNBY Design ($3306) A high end Chinese clothing brand. They pay out ~80% of earnings and have a very high ROIC of 40%+. The stock has paid out HK$3 since the start of 2020. Vs a current share price of HK$6.9. FW PE is somewhere between 5-6x, with a dividend yield of >10%. 

They sell luxury clothing and there have been some recent scandals. So far these seemed to have made little impact on their bottom line. This possibly explains why the stock is cheaper than other fashion stocks like for example Lilang.

Upside can be considerable if they return to growth. In March this year, management was targeting 2024 net profit of RMB 900m. An 11x multiple on that implies 200% upside excluding dividends.

Because it is a fashion company there is some risk. But at the same time they do have a moat due to their scale. With unique design clothing it is hard to make a profit when sold at a small volume, creating a barrier of entry. The company only really has a handful of domestic competitors. Plus it is easier to attract talented designers when you are a large and well known fashion brand. 

I think the range of outcomes is wide here. It could be a multibagger that earns 2bn in net profit 5-6 years from now. But it could also go into slow decline. I think the shares are currently almost fully pricing in the latter scenario, making this an attractive bet here. What is nice is that due to its high ROIC it can potentially grow while paying out a large dividend.

Very in depth report on the company can be read here. Page 12 and 13 have some interesting comments on the moat and competition in this industry.

Long at HK$6.35

Kinetic development ($1277) is a coal mining company in China with no debt trading at 1.5x earnings, paying a 20% dividend. I got this idea from @mrierathelen on Twitter. Those Spanish guys always have interesting value stocks.  

It has a lower cost base than most of the other well known public coal stocks in Australia and the US. 2018 and 2019 dividend yield on the current share price is about 7%. I am always thinking about the downside with these commodity stocks.

Given that the global natural gas shortage will likely persist for several more years, this means higher coal prices as well. You would think this stock should at least trade far above its 2018 highs? In the meantime I will get big fat dividends.

Long at HK$0.59 

Consun Pharma ($1688) Not much to say here. Most of the market cap is in net cash, they seem to have some luck with new drug development which are increasingly a larger % of revenue. And they pay out quite a bit in dividends and buybacks. PE is about 3-4x. FW dividend yield of about 8-9%. 

Some of the founders recently got an offer from Wangbangde Pharmaceutical at 200% the current share price. But then it was terminated recently. So I wonder what the hell happened there. 

I'm hoping for a special dividend at some point. But even without that I think this is cheap as they are still growing earnings. They could generate their entire market cap in free cash flow in the next 3 years. Given their history of aggressive buybacks, I think there is a decent chance of a higher payout going forward.

This is a nice trading stock because it is so volatile and spits out so much cash. Don’t treat it like a compounder that could rerate to 10-15x earnings. Usually I am out when there is a large pop, and when it gets in the low 3’s I get back in. As the large net cash position and dividend yield usually provides a bottom there.

Long at HK$3.1

China Dongxiang ($3818) This is more of an investment holding company that paid out large dividends in the past years. It has a negative EV and trades at <0.2x book value. It holds large stakes in Chinese private and public companies that it has slowly been selling. Either directly or through funds. Dividends paid out since the start of 2020 are 65% of the current market cap.

With the history of high dividends, I do not expect this stock to languish forever at a large discount to underlying assets.

Company even has an investor presentation!

Long at HK$0.24

Asia Commercial ($0104) Beware because this stock has pretty small trading volume. It is somewhat of a special situation. The patriarch that used to run it passed away a couple of years ago, and since then the relatives who inherited his stake have been downsizing. They have sold the gourmet business which was losing money and sold some Chinese real estate. Closed some stores and closed the watch wholesale business. Paying out the proceeds in large special dividends (about 50% of its current market cap in the past year). 

Stock has no net debt, Hong Kong and European real estate which is worth twice its current market cap. And trades at 2x earnings. Also 2x 2019 earnings! So I am not sure how sustainable this is. There has been a profit warning because of Covid lockdowns, but normalised annual profit would still be 40-50m. Or about a 3.5x PE.

There has been somewhat of a bubble in luxury watches in China. Oriental watch ($0398) has similar profit margins and trades at about 5x LTM earnings.

I think dividend payout ratio will be quite high and real estate rent is about $HK12.5m a year. Maybe there will be more sales of real estate? It would be pretty smart of them to just sell their Hong Kong real estate and pay out the proceeds in a special dividend.

Either way it seems cheap. Even if margins are cut in half, the stock still only trades at 4x earnings. And I have a feeling the last dividend we got was not a one off.

Long at HK$0.21

Water Oasis ($1161) This is getting a bit long so I will wrap it up. They own beauty stores and spas mostly in Hong Kong. But a couple in Macau and Beijing as well. I think PE is around 4-5x here with a 80%+ dividend payout ratio. Return on capital is quite high, and this seems like a nice business. I think with Covid restrictions relaxing in Hong Kong there is a lot of potential here. 

A nice Twitter thread here with more details.

Long at $HK1.25

As usual, do your own work and don’t buy blindly on the advice of others.