For the quarter ending September 30, 2021, the Matthews Asia Growth Fund returned -9.41% (Investor Class) and -9.34% (Institutional Class), while its benchmark, the MSCI All Country Asia Pacific Index, returned -4.30% over the same period.

Market Environment:

China equities weighed heavily on the Asia equity market in the third quarter—while the MSCI China Index declined by -18.1%, Chinese ADRs (American Depository Receipts) collectively declined -30.2% (as represented by the S&P/BNY Mellon China ADR Index), as a series of Chinese government policy tightening moves caused significant disruption in the marketplace. U.S. investors became more cautious toward investing in China in the context of the continuing hard line economic and political stance held by the Biden administration. Industries such as education, games and property fared worse than others because of the crackdown, however even consumer-oriented sectors were weak due to weaker consumer spending. Elsewhere, stock markets around the world faced headwinds as investors grew increasingly concerned with rising inflation and the direction of the U.S. Treasury 10-year bond interest rate. A pressing question on investors’ minds is how “transitory” the current inflation uptick will be—what was expected to be a short-lived inflation increase only three months ago no longer appears to be so fleeting, as we are seeing oil prices and shipping costs rising rapidly. The news of the resignation of Japanese Prime Minister Yoshihide Suga on September 3 gave a brief yet strong rally in the Japanese stock market, with investors believing whoever the next Prime Minister would be, the economy and the stock market would benefit. Mr. Fumio Kishida has been named Mr. Suga’s replacement as President of the Liberal Democratic Party and is currently serving as the incumbent Prime Minister until the next general election on October 31. Prime Minister Kishida is considered to be a consensus choice, and no major economic policy changes are expected.

Performance Contributors and Detractors:

From a country perspective, China was the largest detractor to Fund performance, accounting for almost all of the relative underperformance for the quarter. Our Japan holdings struggled during the quarter, which was somewhat offset by good performance by India and Singapore. From a sector perspective, health care was the largest detractor, followed by communication services. Consumer staples was a bright spot, buoyed by our holdings in Indian companies within the sector.

With respect to individual Fund securities, our Indian holding Bajaj Finance, one of the best growth non-bank financial companies in Asia in our opinion, was the biggest contributor to absolute performance, followed by Japanese conglomerate Sony Group and Avenue Supermarts, the fastest growing and best-run grocery chain store in India, in our view. Not surprisingly, the top 10 detractors were all Chinese companies, with Bilibili being the biggest detractor to absolute performance, as it suffered a significant share price decline due partly to downward price pressures on ADR security types and partly to a government policy crackdown on the game sector. Shimao Services holding was the second largest detractor, as it was drawn into the negative market sentiment toward the real estate sector as a whole, even though the company only collects service fees for the property management services it provides without any assets or liabilities. Chinese health care holdings Wuxi Biologics and Innovent Biologics were also detractors. We continue to believe these companies are long-term opportunities and they remain some of our largest holdings.

Notable Portfolio Changes:

It was a relatively busy quarter in terms of new and exited positions. We exited Chinese e-commerce service company Baozun. Baozun was a Fund holding for quite a long time, however the company’s performance did not live up to our expectations. We also exited from Hansoh Pharma, a Chinese pharmaceutical company with an innovative drug pipeline. Because of Hansoh’s significant exposure to generic drugs within their product mix, the company’s stock prices suffered from the mandated generic drug price cuts of the government’s recent “Volume Based Purchase” program. We exited Japan’s FANUC Corp., a manufacturer of factory automation systems as well as robots/robomachines. The long-term investment thesis was based on the rise in the level of global auto industry’s capital expenditures, however recent supply chain disruptions within the auto industry and weak demand for personal computers slowed down the sales of robots/robomachines, muting the potential for near-term growth.

New positions within the Fund include OBIC Business Consultants, one of the major enterprise resource planning (“ERP”) software companies in Japan, taking advantage of a secondary share offering by the company’s senior management. OBIC has been leading the push for small to medium companies to implement the “cloud transformation” which is the process of migrating software programs and data from local servers to the cloud. This transformation is still in early stages in Japan and we think OBIC would play a central role in this process.

Outlook:

One positive trend we are seeing is an improving level of economic activity across the world due to the slowdown of new cases of COVID-19 as more people get vaccinated. Japan, for example, has now surpassed the U.S. in term of the share of population fully vaccinated. Since it appears that nearly all new cases of COVID-19 are due to the Delta variant in the U.S. and UK, we see no guarantee that economic activity will be fully recovered in the next three to six months. Still, we feel optimism in that vaccine companies around the world are continuing to work at full speed seeking to develop better treatments. On the other hand, one area of concern going forward includes the length of the current supply chain disruptions, from semiconductors to paper. We also note that U.S. new job growth has not been as strong as anticipated. We continue to monitor China equities closely, as while recent market tumult has receded somewhat, we maintain a cautious stance as we consider the merits of good structural growth companies whose stock prices have taken a beating. We see potential within the China A-share market, as shares listed on the Hong Kong and U.S. exchanges have been under pressure due to de-listing concerns. Caution is warranted here though, due to high A-shares valuations. Looking elsewhere, we are more constructive in India and Australia, where we have been adding new positions through the year. We remain committed to the health care sector, which is much less cyclical and where we have been monitoring the continuous effort by companies to develop new treatments to combat unmet medical needs in Asia and in the rest of the world.

As of September 30, 2021, the securities mentioned comprised the Matthews Asia Growth Fund in the following percentages: Bajaj Finance, Ltd., 3.2%; Sony Group Corp., 4.0%; Avenue Supermarts, Ltd., 2.1%; Bilibili, Inc. ADR, 2.8%; Shimao Services Holdings, Ltd., 0.9%; Wuxi Biologics Cayman, Inc., 6.4%; Innovent Biologics, Inc., 3.2%; and OBIC Business Consultants Co., Ltd., 1.2%. The Fund held no positions in Baozun, Hansoh Pharma, and FANUC.

Current and future portfolio holdings are subject to change and risk.

Average Annual Total Returns - MPACX as of 09/30/2021