Is China's Contracting PMI Just the Tip of the Iceberg?
Downturn in China’s manufacturing sector accelerates in February
The Caixin China Manufacturing PMI (or Purchasing Managers’ Index) came in at 48.0 in February, down from 48.4 in January. Operating conditions continued to deteriorate in February with both output and new orders declining at slightly faster rates than in January, which in turn led to the quickest reduction in staffing levels since January 2009.
The reading is below the 50 mark, which indicates that the manufacturing activity is contracting. Caixin Manufacturing PMI focuses more on small-to-medium-sized private firms, which are adversely impacted by the economic slowdown and high financing costs.
Overall new orders decline
Both export and domestic new orders fell due to relatively weak demand, which led to firms cutting production. Lower workload resulted in reduced purchasing activity and lower labor force requirements with the reduction in staff numbers in February at its sharpest rate since January 2009.
Lower production was a key factor leading to the steepest fall in stocks of finished goods in nearly 4.5 years during February. At the same time, lower intakes of new work enabled firms to marginally reduce their level of work-in-hand for the first time in ten months.
Input and output costs
The average costs continued to decline in February amid lower input costs for a broad range of raw materials with metals and energy in particular due to the deflationary environment. Prices charged by firms continued to decline in February but the rate of discounting was the slowest since May 2015. As a result, output costs also declined as manufacturers passed their savings to clients due to increased competition between them for new work orders.
Impact on mutual funds
The Oberweis China Opportunities Fund (OBCHX) has the largest exposure of 20.4% to the industrials sector among the six mutual funds shown in the above graph. On the other hand, the Matthews China Fund–Investor Class (MCHFX), the Guinness Atkinson China and Hong Kong Fund (ICHKX), the Fidelity Advisor China Region Fund–Class A (FHKAX), and the Neuberger Berman Greater China Equity Fund–Class A (NCEAX) have more than 10% exposure each to the industrials sector. So with the current slump in the manufacturing sector, these funds could be impacted.
With the slowdown in the factory output, companies such as Taiwan Semiconductor Manufacturing (TSM), China Mobile Limited (CHL), CNOOC Limited (CEO), and Tencent Holdings Limited (TCEHY) may face pressure to sustain their revenues and margins. Since the above mutual funds are invested in these companies, they will be adversely impacted.
In the next article, we will analyze China’s services and composite PMI and their impact on mutual funds.
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