TAIWAN GREATER CHINA FUND 
By September was an extremely challenging month, not only because the China stock market plunged 15% but also because global macro concerns and a panic sentiment overwhelmed micro level fundamentals of companies. This resulted in many good stocks with strong fundamental momentum being dumped indiscriminately as investors stampeded for cash. We further positioned the portfolio with an even stronger defensive strategy, recognizing a crisis-like market environment. Besides shifting sector exposure towards the typically more defensive sectors such as telecom service, utilities, and pharmaceuticals, we also reduced the portfolio’s smaller cap stock exposure in favor of larger cap names across all industry sectors.
In Taiwan, we reduced our overweight exposure to the non-tech sector, which had outperformed relative to the tech sector until the previous month, due to profit-taking and investor concern over Taiwanese financial institutions’ exposure to European debt investments.
Portfolio StrategyGiven the great uncertainties of both the European sovereign debt problems and the government policy responses, the Greater China equities markets still face downside risk. Therefore, our defensive strategy and positioning will be maintained in the near future. However, we will keep a watchful eye for possible signs of a peak in the current crisis or a situation in which the worst-case scenario gets priced into the share prices over the next one or two months. At that point we would consider gradually repositioning the portfolio towards a more balanced or neutral position from the current conservative strategy.
In the near term, the portfolio will continue to hold mainly liquid stocks with good trading liquidity and reasonable market cap size, anticipating that the portfolio may need to accommodate future redemption requests as the Fund transitions into an open-end fund in October.
The greater China equities markets posted their worst plunge in 3 years since October 2008 with the MSCI Greater China index tumbling more than 15% in September. Overall market sentiment was extremely weak as investors only responded to negative news, especially after seeing major market declines in the US or European stock markets. Both external and domestic factors are responsible for the poor market sentiment. The most immediate concern has been the European debt crisis whereby Greece is perceived to be nearing a debt default. With the slowdown in momentum in the US economic recovery, the market is pricing in the risk of a global recession in the not too distant future. On the domestic front within China, both sticky high inflation in China above 6% and the government’s repeated emphasis on inflation control as a top policy priority damaged hope for a possible monetary policy relaxation in the near future.
Towards the end of September, news that the US authorities are investigating accounting irregularities at US listed Chinese companies further contributed to poor sentiment on the H-share stocks in Hong Kong.
Market OutlookThe Greater China stock market outlook remains challenging in the coming month as the market still faces lots of uncertainties. There does not appear to be a catalyst to boost currently nervous investor sentiment in the near term. The biggest uncertainty still comes from outside the Greater China region; Specifically, the possibility of the European debt crisis spreading, the deteriorating macroeconomic performances of the US and European countries and possible disappointment when US companies release earnings results in October.
Within China, lingering concern on inflation and continuous macroeconomic slowdown may again revive fear of China’s economic hard-landing. 3Q corporate earnings results soon to be released in October among China A-share listed companies may show further decline in earnings growth. More importantly, the lack of visibility on future policy trend (to which Chinese stock is most sensitive) would not help reverse the current market de-rating trend in significantly.
