Period ended 31 March 2012
Performance figures discussed in any of the Fund Manager Commentaries reflect that of the Institutional Accumulation Class Shares (USD).
The Matthews India Fund was launched on 30 June 2011. From its inception through 31 March 2012, the Fund fell -16.90% while its benchmark, the Bombay Stock Exchange 100 Index, returned -17.57%. About two-thirds of the decline was due to a depreciation of the Indian rupee against the U.S. dollar, which reached an all-time low level in December. The quarter ended 31 March 2012 saw some recovery both in the market and in the currency amid resurgent foreign portfolio inflows and central bank indications that the monetary tightening cycle had peaked. Additionally, the government signaled it would take measures to conduct power sector reforms. However, concerns over worsening fiscal and external account deficits, and the impending maturity of upcoming external debt remained.
The government’s proposed budget in March did attempt to address the fiscal deficit by monitoring growth in subsidies, but fell short of introducing any bold reforms. In fact, a long overdue proposed hike in railway passenger fares elicited strong political backlash, leading to the proposal getting scrapped for the most part. Weakening political support for India’s federal governing party has been part of the problem, as demonstrated by several recent regional election results.
In terms of performance drivers, the biggest source of negative returns came from the portfolio’s exposure to industrials, where the Fund’s allocation has risen over the last three years, predicated on the belief that infrastructure as a percentage of GDP is likely to inch up. However, the lack of regulatory clarity has taken a toll on the smooth passage of infrastructure projects, many of which are held up for want of government approvals or policy reforms. Another source of negative returns was our financial sector holdings, most notably in public sector banks. Rising interest rates, delays in infrastructure project completions and some loose lending practices were the primary reasons for the increase in nonperforming loans. That said, the market did reward a few private sector banks that demonstrated better lending standards.
Factors that were helpful in mitigating losses on a relative basis were a somewhat higher cash balance at the time of the portfolio’s inception, the strategy’s convertible bond holdings and its underweight in the energy sector. The convertibles held up much better during the first six months amid the widespread correction but also underperformed during the last quarter as the market rallied. During the last quarter we exited two of our convertible bond holdings—Reliance Communications and Sesa Goa. The former was close to maturity while the latter was sold to rebalance the portfolio in favour of equities. During the last quarter, we also exited truck finance company Shriram Transport as we had increasing concerns over changes in regulations that impact financing terms that might be severe enough to affect the firm’s business model. As a result of this and other reallocation decisions, the portfolio became more concentrated within financials.
Going forward, we anticipate that policy reforms will face some headwinds. India’s ruling Congress Party fared poorly in regional elections, and uncertainties related to upcoming general elections might tempt federal leaders to bow to populist measures. A relatively more favourable monetary climate may help the outlook for investment spending, which remains critical in our view to sustain long-term growth rates. Market valuations are at, or lower than, historical averages. We strive to be fully invested across cycles, and continue to employ our bottom-up stock selection process.
The views and opinions in this commentary were current as of 31 March 2012. They are not guarantees of performance or investment results and should not be taken as investment advice. Investment decisions reflect a variety of factors, and the managers reserve the right to change their views about individual stocks, sectors, and the markets at any time. As a result, the views expressed should not be relied upon as a forecast of the Fund’s future investment intent.
Statements of fact are from sources considered reliable, but neither the Funds nor the Investment Advisor makes any representation or guarantee as to their completeness or accuracy.
As of 31 March 2012, the Fund held no positions in Reliance Communications, Ltd., Sesa Goa, Ltd. or Shriram Transport Finance Co., Ltd. Current and future portfolio holdings are subject to risk.