Data as of 3/31/18

Manager's Commentary

Market Review

Greater China equities fell in March 2018. Shares were undermined by escalating fears of a global trade war following the Trump administration's decision to impose tariffs on the imports of a range of goods, prompting China to announce plans of retaliatory tariffs. Under such negative sentiment, almost all sectors saw negative returns with the exception of health care and utilities - which add up to less than 5% of the MSCI Golden Dragon Index (the "benchmark"). In terms of country performance, Taiwan equities outperformed, mainly driven by the strong performance of semiconductor supply chain companies.

Fund Review

In March 2018, the China Fund, Inc. (the "Fund") underperformed the benchmark. If we take a further look into the attribution, sector allocation effects more than explain the underperformance. Meanwhile, stock selection was positive, especially within the information technology and consumer discretionary sectors. The top contributors were concentrated in semiconductor companies in Taiwan. These include Win Semiconductors Corp., a compound semiconductor wafer producer, benefiting from the rising popularity of 3D sensing technology. Another contributor was Nanya Technology Corp., a memory chip producer, which captures the trend of rising computational power of smart devices. We continue to be positive on the semiconductor cycle given the consolidation of suppliers as well as the rising and more diversified sources of end demand. These include the greater use of semiconductors in consumer devices, communications, industrial automation and electric vehicles, among others. Stock selection will be increasingly important and we are focusing on those companies with a technological edge and the right market positioning to benefit from the next wave of demand upgrades.

On the other hand, performance detraction came from companies which are potentially vulnerable to a US-China trade conflict. For example, one of the top detractors was WH Group Ltd. ("WH Group"), a leading meat product provider in China, that also owns the US-based brand Smithfield. Investors were concerned that higher tariffs on pork products sold from the United States into China could lead to a significant drop in demand. In our view, WH Group and Smithfield have become a much more robust and vertically integrated business in recent years, and they are better positioned to mitigate the impact of weakness in this part of their operations. Their latest results announcement also confirmed our investment thesis that this company deserves a rerating as the previous volatility of returns, driven by pork commodity prices, should be replaced by a more steady future earnings growth profile.

Outlook

Concerns over the US-China trade conflict have been under the spotlight over the past month. At this stage, we believe it is hard to assess the impact of a trade war. So far the response from China seems indicates a reluctance to escalate the situation. A trade war is a "lose-lose" situation for all countries and as such our biggest concern is the global economy. Although China is now better positioned to weather a trade shock - exports currently account for around 19% of Gross Domestic Product, having fallen from 35% in 2007, with domestic consumption having become a larger part of the economy - any global slowdown is bound to have an adverse impact.

Over the long term however, this event could be a good trigger for China to push through reforms for a stronger market environment that would include better protection of intellectual property and further improvement on market rules and regulations. Such measures would, over time, help to foster more sustainable growth in China. In the near term, the Fund and the market have suffered in absolute terms. Our strategy is to focus on domestic sectors including structural growth areas like the environmental sectors, which are less affected by the macro economy and trade conflicts. We can also utilize any excessive share price movements in this volatile environment to add to positions in stocks that have been overly punished by fear of a trade war.

Fund Manager

Christina Chung, CFA, CMA

Lead Portfolio Manager

1. MSCI Golden Dragon Index.

The China Fund, Inc.

Investment Objective

The investment objective of The China Fund, Inc. (the "Fund") is to achieve long-term capital appreciation. The Fund seeks to achieve its objective through investment in the equity securities of companies and other entities with significant assets, investments, production activities, trading or other business interests in China or which derive a significant part of their revenue from China.

The Fund has an operating policy that the Fund will invest at least 80% of its assets in China companies. For this purpose, 'China companies' are (i) companies for which the principal securities trading market is in China; (ii) companies for which the principal securities trading market is outside of China or in companies organized outside of China, that in both cases derive at least 50% of their revenues from goods or services sold or produced, or have at least 50% of their assets in China; or (iii) companies organized in China. Under the policy, China means the People's Republic of China, including Hong Kong, and Taiwan. The Fund will provide its stockholders with at least 60 days' prior notice of any change to this policy.

Returns For Periods Ended March 31, 2018* 

Calendar Year Returns 

Past performance is not a guide to future returns.

Source: State Street Bank and Trust Company. Source for index data: MSCI as at March 31, 2018. Investment returns are historical and do not guarantee future results. Investment returns reflect changes in net asset value and market price per share during each period and assumes that dividends and capital gains distributions, if any, were reinvested. The net asset value (NAV) percentages are not an indication of the performance of a shareholder's investment in the Fund, which is based on market price. NAV performance includes the deduction of management fees and other expenses. Market price performance does not include the deduction of brokerage commissions and other expenses of trading shares and would be lower had such commissions and expenses been deducted. It is not possible to invest directly in an index.

Source: IDS GmbH - Analysis and Reporting Services, a subsidiary of Allianz SE.

Source: IDS GmbH - Analysis and Reporting Services, a subsidiary of Allianz SE.

1. MSCI Golden Dragon Index.