The Guv’nor

From: Derek Hillen
Sent: Tuesday, October 04, 2011 11:26 AM

To: Derek Hillen
Subject: The Guv’nor


“I’ve abandoned free market principles to save the free market system.” George W. Bush, Washington, D.C., Dec. 16, 2008

Lock, Stock and Two Smoking Barrels” is an exciting criminal heist movie with many twists and turns featuring “The Guv’nor,” or Lenny McLean, the world’s number one unlicensed bare knuckle fighter – and former Boy George bodyguard. In the end the good guys escape with less than they want but everyone else dies – including Lenny. It reminds me of the China internet sector as investors sell everything lock, stock and barrel in the hopes they will escape with something and won’t be holding one of the stocks that may hit zero and not recover.

Chinese internet stocks are acting like they have taken a punch to the head from The Guv’nor himself. It is hard to argue there is “value emerging” for a sector where many stocks trade at more than 30X earnings. Even Eric Wen’s top pick, Tencent (700 HK, Buy) is looking woozy and Eric’s fervor toward the stock is cooling. While maintaining his Buy recommendation he notes with concern that game growth is slower than expected and with games 55% of revenues this metric is worth watching.

Do You Really Want to Hurt Me?


Yesterday, we held a Matrix Call (in Mandarin) with two China industry experts to examine Tencent’s e-commerce efforts. Their conclusion: weak. “Tencent has underestimated the complication of managing a B2B2C platform by limiting the scope of its operation to only a handful of second class B2C retailers.” Baidu (BIDU US, Buy) is much more successful converting searches into transactions as customers are actively looking for products when they use a search engine. Social media platforms like Tencent and Sina (SINA US, Buy) are not having it easy trying to convert traffic into sales. So while slowing game growth is disappointing for Tencent, don’t look to e-commerce to save them either. Trading at 16X PE, Tencent is being battered to the mat but isn’t down for the count. They might lose on points, though. Notes from the Matrix Call are attached.


Commodities strategist, Henry Liu, has returned from deepest, darkest, Inner Mongolia having shepherded a group of increasingly dusty clients around coal mines and steel trader warehouses last week. The trip was no beach holiday and only confirmed his bearish view on steel prices going forward. Henry sees an increasingly oversupplied market and diminishing demand. Steel production capacity is still growing at 10% a year and will reach 830 mt this year. The liquidity crunch is forcing steel traders, who buy almost half of all steel production, to cut back on purchases. Long steel prices, the former bright spot, have just started to weaken the last two weeks. He sees more downside ahead as traders liquidate and then go out of business. Bottom fishing steel names before that purging is not recommended.


Thermal coal prices, however, look “sticky.” This has more to do with transportation bottlenecks which will take another 5 years to fix, rather than increasing demand. Power will remain with the upstream coal producers.


Our China economist, the effervescent Joy Yang, has recently joined us from the IMF and writes today, “The Tightening Cycle is Over, Baby.” Although yesterday’s PMI showed a mild increase in activity over the month before, this is a seasonal effect seen every September and usually in much greater size. Global PMIs, which came out last night, have reached a 27 month low and are now showing signs of contraction. Alarmingly, this is especially true with new orders. Yesterday’s China PMI of 51.2 shows us a very weak domestic economy and given even weaker domestic demand we do not expect any more tightening measures ahead. So the good news is there is less bad news. Joy expects easing to begin early next year.

Joy will be holding a conference call today 4:30 PM HK time. Details to follow.



Weird stuff: Salesman Andrew Jim points out that today, October 3rd in the US, the S&P closed at 1,099.23. Three years ago exactly on October 3rd, 2008, the index closed at….1,099.23. Any conspiracy theories out there?


You can get our research by typing MASR <Go> on Bloomberg.


Derek Hillen, CAIA

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