China is pulling out of its economic slump as it heads into 2013, with leading indicators suggesting a revival in the final quarter of 2012. Economists and fund portfolio managers are expecting economic growth in the world’s second-largest economy of 7%-8% in 2013 – a healthy clip, but a slower and more sustainable pace than the heady double-digit growth of a few years ago.

Industrial production showed a year-over-year gain of 10.1% as of Nov. 30, according to China’s National Bureau of Statistics, the best monthly showing since the previous March. At the same time, retail sales grew by 14.9%, also the best showing in eight months. The HSBC China purchasing managers index rose to 51.5 in December 2012, up from 50.5 a month earlier. That index had fallen below the 50-point threshold, which marks the dividing line between growth and contraction, since October 2011.

“The deceleration trend appears to have bottomed in China,” says William Fong, senior investment manager, Asian equities team, with Baring Asset Management (Asia) Ltd. in Hong Kong and a member of the team managing Excel China Fund, sponsored by Excel Funds Inc. of Mississauga, Ont. “We see the fourth quarter of 2012 as the turning point. Under the new political leadership, we expect the stance will shift to economic growth, and that there will be room to relax interest rates.”

China’s Communist Party completed the first phase of its once-in-a-decade power transition in November, selecting Xi Jinping as party leader. The new administration is expected to emphasize stimulation of China’s domestic economy and to tackle such issues as widespread government corruption and income inequality between rich and poor and between cities and rural areas.

China’s government has lowered the reserve ratio for banks gradually and has cut interest rates twice since mid-2012 as part of its stance on monetary easing. Government also has been investing in the economy through the expansion of state-owned companies and spending on infrastructure such as roads, bridges and railways. But the authorities are likely to be cautious: massive government spending in response to the 2008 global financial crisis had ignited inflation and led to tightening policies. Inflation now is under control: China’s consumer price index rose by 2% in November from a year earlier, 0.3 percentage points faster than in the previous month, which saw a 33-month low.

Says Chuk Wong, lead portfolio manager of Dynamic Far East Value Fund, sponsored by GCIC Ltd., a division of Bank of Nova Scotia, in Toronto: “The big picture in China shows an enormous transformation from an economy that has been driven by investment and exports to a balanced economy in which domestic consumption is more important.”

Domestic consumption now accounts for about one-third of China’s economy, and the most recent statistics show it was the top contributor to economic growth in the third quarter.

@page_break@On the export side, Wong says, China is moving toward making more value-added products, such as electronic components, and capital goods, such as auto parts.

Although economic growth is expected to be healthy in Asia, which accounts for 40% of China’s exports, the more vulnerable U.S. and European markets each account for almost 20% of China’s exports. Says Wong: “Economic growth in those areas is likely to be pedestrian, but it’s not a crisis.”

That assumes the U.S. economy grows by about 2% and Europe doesn’t descend into a major recession. Low growth in the U.S. or Europe would hurt China’s exports.

The Dynamic fund’s largest holding is AAC Technologies Holdings Inc., the world’s largest manufacturer of miniature acoustic devices, which are used in smartphones and tablets produced by leading global manufacturers such as Apple Inc. and Samsung Electronics Co.

Following the domestic consumption theme, Wong also likes Chow Tai Fook Jewellery Group Ltd., the largest jewelry retailer in China, which will benefit from the expansion of China’s middle class and the adoption of Western customs, such as engagement rings.

Tim Leung, vice president and head of Asian equities in Hong Kong with Winnipeg-based Investors Group Inc., likes Chinese companies that have a healthy yield as well as growth potential. Although China’s banks have been troubled by bad loans due to the economic slowdown, he believes the downside has been recognized in stock prices. One of his picks for Investors International Pacific Fund is Industrial and Commercial Bank of China. Another significant holding in the fund is Power Assets Holdings Ltd., a distributor of coal-fired power that Leung considers low-risk, thanks to steady revenue and an attractive 4% dividend.

Eng Hock Ong, managing director of AGF Asset Management Asia Ltd. in Singapore and portfolio manager of AGF Asian Growth Fund, sponsored by Toronto-based AGF Management Ltd., anticipates growth in health care as medical insurance becomes more widespread. He also favours medical device manufacturer Mindray Medical International Ltd.

Ong also likes Tencent Holdings Ltd. This Internet-related company is involved in online gaming, instant messaging, e-commerce and advertising.

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