Idea Brunch with Michael Fritzell of Asian Century Stocks
Michael Fritzell shares advice on international investing, risks of investing in China, and his top three ideas
Welcome to Sunday’s Idea Brunch, a weekly interview series with underfollowed investors and emerging managers. We are very excited to interview Michael Fritzell!
Michael is the author of Asian Century Stocks, a Substack publication covering Asian equities. Before launching Asian Century Stocks, Michael was a portfolio manager at a European family office called Dunross & Co and an analyst at a Shanghai-based fund manager called Asia Growth Investors, now part of a larger group called East Capital.
Michael, thanks for doing Sunday’s Idea Brunch! Can you please tell readers a little more about your background and why you decided to launch Asian Century Stocks?
Thanks for having me on Sunday’s Idea Brunch, Edwin!
So I was born outside of Geneva in Switzerland and grew up in Scandinavia. I first came to Asia in 2009 after a few years of investment banking in London. I spent the formative years of my career in China, where I worked for an emerging market fund manager in a research analyst position. I covered H-shares at the time and was later involved in setting up an A-share fund. There were not many foreigners involved in the A-share market, so it was a fantastic experience. Since 2014, I’ve lived in Singapore, initially working for a European family office, then a start-up hedge fund, and later running my own business providing research support for overseas funds on a contract basis.
I started the Asian Century Stocks newsletter in April 2021, and it’s now my full-time profession. I also manage my own family money on the side.
I decided to focus on Asian Century Stocks because I enjoy focusing on contrarian, unusual ideas. Most fund managers here in the region tend to be short-term index huggers. These days, most fund managers are obsessed with East Asian growth stock in the tech sector. Life is short, and I don’t want to waste my time thinking about Alibaba’s GMV or Pinduoduo’s cash burn.
I’ve found that writing on Substack works well for me. There is a constant flow of ideas between myself and my clients. I’m able to focus on contrarian ideas that would never be given proper consideration at a conventional firm. And the pace at which I’m learning is incredible. I can spend almost 90% of my time on research, which is what I enjoy doing.
Asian equities don’t generally have the best reputation among investors. Some concerns are bad governance, self-dealing, poor rule of law, minority shareholders getting treated unfairly, uneven disclosure, and government intervention in business (especially in China). What are the necessary traits to be a good investor in Asian equities? Are there any countries or investment themes that work particularly well for you?
Asia is a minefield - I'll be the first to admit that. There are nuances, though, and over time, you'll be able to separate the wheat from the chaff.
Silicon Valley types tend to dream big. They think of best-case scenarios of how the world might turn out 5 or 10 years from now. That might work for them. I suppose that’s how you find multi-baggers that compound their capital year after year.
But in Asia, I think such blue-sky thinking can lead you astray. If you’re analyzing a Chinese or Vietnamese business, I believe you are much better off employing the opposite approach. Focus on downside risks instead. Assume that the numbers are fake and that the companies are out to screw minority shareholders. Because very often, they are. Such skepticism has saved me from a lot of trouble.
There’s always a more profound truth to be uncovered. Institutional investors may meet investor relations or management teams at investor conferences, but they rarely go beyond the official narrative communicated to investors via the public material. I find that there’s always another layer to the story. Perhaps the company is in the midst of a succession plan. Maybe the controlling shareholder is looking to unload his shares. Perhaps the company has an unlisted sister company that shoulders the costs of the business to improve the optics of the ListCo.
Meeting a management team several times can help. By the second or third time you meet them, you will pick up nuances that you had overlooked initially. I love asking competitors questions about a person’s reputation. Very often, they will tell you the truth.
Outside of Mainland China and Vietnam, the problem isn't so much fraudulent accounting or misrepresentation but poor capital allocation. Countless companies in Japan, South Korea and Hong Kong are trading below their liquidation values. In most cases, you’re never going to see that cash paid out as dividends.
There are many exceptions - there are also well-managed companies in Asia that treat their minority shareholders fairly. Those are the special situations that I look for.
On a related note, I think you’re making a mistake if you allocate capital to the Asia-Pacific region purely for exposure. If you want to take an index approach, perhaps stick to democracies with property rights and the rule of law. Companies in such markets tend to have a higher return on capital.
Here is a list of resources that can help support those investing in the region. I like Smartkarma, GMT Research and J Capital, but there are also many bloggers and Substack writers who focus on stocks in the region.
What is your opinion on China as an investable universe? Is it investable? Is it shortable?
I recommend everybody to read The Last Kings of Shanghai by Jonathan Kaufman. While the tycoons featured in that book weren't angels, the book shows you what can happen to private entrepreneurs when a communist party consolidates power over an economy.
The nationalization of private businesses in 1949-53 is an extreme case. I don’t know how serious China’s current leadership is in its quest to achieve communism. But we do know that Xi’s major power base leans left and wants to undo some of the reforms that Deng Xiaoping initiated in the early 1980s.
Communism is a significant threat to private capital. That shouldn’t come as a surprise, but for some reason, Western investors embrace the Chinese market as if the rules of the game are the same as back home. To me, it’s not clear what role private capital will play in tomorrow’s China.
Will a company such as Tencent be allowed to pay out its free cash flow to its foreign shareholders, in the process depleting China’s potentially scarce FX reserves? Tencent is a fantastic business - that’s for sure. What’s not clear to me is whether the government will continue to allow Tencent’s WeChat Pay to have a near-monopoly in China’s mobile payment market. And will Tencent be able to distribute its free cash flows to its foreign shareholders?
The trend seems to be towards greater state participation in the economy. All private companies in China are now introducing Communist Party cells in them. In theory, those will enable the Communist Party to hire and fire the CEOs of those companies. I can envision a scenario where state-owned enterprises force consolidation across various industries. We’re already seeing it in property development and tech. Over a dozen prominent tech CEOs have quit recently, in some cases right after the government received board representation through so-called “golden shares.”
I wouldn’t go so far as to call it nationalization, but the state is definitely increasing its power over the private sector. For that reason, I have avoided private Chinese companies over the past year. I’m more comfortable with Chinese state-owned enterprises or private companies with solid relationships with President Xi, such as Geely or CATL.
Bulls will argue that the current crackdown on the property and tech sectors are temporary - that once Xi has consolidated his power over the private sector and secured a third term as President, life will go back to normal. That seems plausible to me. In such a scenario, the private sector anti-corruption campaign should be over after the National Congress, due sometime during the latter part of 2022.
Are Chinese shares shortable? Yes, I think so. One strategy that I’ve employed with some success is to short Chinese stocks right after their IPOs. They tend to be hyped up during the IPO process and often disappoint in one or two years following their IPO.
What are two or three interesting ideas on your radar now?
I'm bullish on COVID-19 recovery bets in Southeast Asia. Economies in the region have been completely ravaged by COVID-19, leading to deep recessions.
These economies never had the 20% type budget deficits experienced in the United States and some other developed economies. Governments in Malaysia, the Philippines and Indonesia appear downright prudent in comparison.
I think that Omicron is a game-changer. The original Omicron variant was highly transmissible, and BA2 is even more so. Omicron infections appear to be mild with no strain on hospital systems in the region. And importantly, Omicron provides immunity against other variants as well as against reinfection.
I see encouraging signs across the region. It looks like Southeast Asia will let the virus spread. Governments don’t have the capacity or willingness to fight the virus. Three or six months from today, these countries will most likely end up with herd immunity, case counts dropping asymptotically to zero. Current restrictions are likely to ease gradually.
And stocks in the region are cheap. In contrast to the United States, many stocks never recovered from the pandemic. Below are three undervalued ideas that stand out.