Hello and welcome. China today is a market of striking contrasts. Growth has slowed, the property market remains under pressure, consumers are cautious, and geopolitical tensions remain very real. Yet at the same time, Chinese companies are leading the pack in areas from batteries and electric vehicles to robotics and AI. Scottish Mortgage has been investing in China for almost 20 years. Our exposure has changed as the opportunities and risks have evolved. From 24% at the end of 2020 to around 11% today. That reduction reflects a higher bar for investment, not a retreat from China altogether. Through a period of considerable volatility, and as many global investors have stepped back, we have remained deliberately invested. Taking a long-term view and continuing to back a small number of exceptional growth companies with attributes that can be difficult to find elsewhere. Our investment research is supported by Baillie Gifford's research presence in Shanghai, giving us local insight into policy, competition, and the pace of change. Alongside a global perspective on how Chinese companies compare to the best in the world. Over the next 20 minutes, we're going to get into some of those companies themselves. Where China is genuinely leading, how we try to navigate the risks, and why understanding what's happening there matters far beyond our Chinese holdings alone. And at the heart of that conversation is Linda Lin, head of Baillie Gifford's China Equities team. Linda spent five years helping build that Shanghai research presence, and has spent her career building relationships with the founders and companies driving change across China. She's joined by Scottish Mortgage managers Lawrence Burns and Tom Slater. Great to have you all here. So Linda, let's start with you.
You've spent years living in and studying China from the ground up. Where is the biggest gap between the China we all read about in the headlines and the China you see when you're meeting companies and founders?
Well, if you read China only through the headlines, I would say China looks like a very long macro story because you mentioned a few. Property market is very weak, the consumer confidence is super low, and the geopolitical situation is really complicated. So I think all of that is true. And also I'm not going to argue with the headlines. But this is pretty much like judging a restaurant from the weather outside. Because every time when we actually sit down with the founders, we see the situation really different. We can see how ambitious they are and how they want to drive innovation fast into different industries. In some areas, for example, green technology, advanced manufacturing, robotics, and even AI, I think China is not only playing a role of catching up. It's actually setting the pace. So I think when we're looking at China, the wrong question to ask is, is China doing well or badly? I think that's not the key point. I think for the team here, the right question to ask every time is, can we still find those super exciting growth companies in China even through a very difficult economic situation? I think that is the reason why stock picking matters in the game.
But finding those exceptional companies is only really part of the story. Lawrence, in China, geopolitical and regulatory risks are particularly important. How do those risks factor into the investment decision-making?
I think they factor in two ways. The first is the analysis we do on each individual company, where what we're doing is constructing scenarios looking out into the future, and they have to take into account a range of factors. And one of them is the geopolitical risk, and the other is the domestic regulatory environment. So, if you take BYD, for example, the Chinese EV manufacturer, we build out those scenarios, and we do that mostly on the assumption that they're never going to sell passenger cars into the US. Not because they're not compelling products. In fact, they're too compelling, and the politics won't allow it. But we build that into the scenario. More nuanced in terms of how much share they might be able to take in Europe given tariffs and political resistance. And so, you build these in, and you ask yourself, even with these headwinds, is there a good risk-reward available? And in some cases, there isn't. And in some cases, like BYD and our other holdings, we think there are. The second way it factors in is what matters is not just the individual companies, but the shared exposure we have to China. Because that geopolitical risk in particular is shared across a number of different holdings. And there are some risks that we need to be cognizant of there. There's a risk that America tries to limit the amount of American money that can be invested in Chinese companies, and that can have impacts on valuations. So, we consider not just the individual risk-reward of the company, but also the collective exposure. And you mentioned earlier that we'd gone from about 24% to 11%. And one reason we're happier today at the 11% is we want to have access to these exceptional companies, but we're aware that there is a shared common risk between them. And so, we have a lower portfolio exposure than we used to. But if I may, the one thing I would say is that just because you don't own any Chinese companies, it doesn't mean you don't have China risk in your portfolio. Tesla and Apple, both as a consumer market and also as a manufacturing hub, are incredibly important to those companies. I'm not sure there's really much discount built in for the China risk. Whereas when you're investing in China, the market is very pessimistic, and you can see that in very low valuations applied to very fast-growing, capable companies. And so for us it's the ability to get access to these innovative businesses in a moderate way and doing so at a risk-reward that we think makes a lot of sense.
So let's get into some of these companies themselves, starting with those businesses that are closest to everyday life in China. Because I feel like a normal day in Shanghai can feel remarkably futuristic from where we're sitting. Linda, companies like Meituan, Pinduoduo, and Red Note are woven into everyday life in China. If someone watching this spent a day in Shanghai, what would surprise them about everyday life as a consumer?
Right. I think the three of us, we often travel in China together to do research trips. I think what surprised both of the gentlemen is how little friction we got — it's basically very smooth. But that not only happens in Shanghai. I'm sure if you go to the Great Wall in Beijing, you've probably seen those videos. You can actually stand in a remote part of the Great Wall and you can order an iced latte from Meituan by drone. And you're there learning the 2,000-year history of China, but your iced latte arrives with you in 5 minutes before you've found a place to sit. So I think the story of digital life in China — of course the scale really matters. For example, Meituan served, I think, more than 800 million users last year. And this year they delivered more than 1 million drone deliveries for their customers. And that's the scale. But it's not only the big market, but it's also a preview of what digital life looks like everywhere else, especially every time I come back to Edinburgh. I say, 'Well, that's such a big difference.'
It's probably true to say that some of the things that you see now in the West were things that we were experiencing in Shanghai 5 years ago. You know, it's like the prevalence of electric vehicles. You know, it's so much higher there. The 3D barcodes that when you go places you can scan to access some other functionality. Again, they were ubiquitous in China 5 years ago, but you never saw them. So, in some ways it's a really good way of getting an insight into some of the consumer trends in Western countries, you know, a bit ahead of time.
And that piece of innovation isn't constrained just to that consumer element. Lawrence, many of us still think that Chinese EVs are a cheaper, perhaps less sophisticated alternative. I know that you visited BYD's headquarters last year. How does that view compare with what you saw?
I think the first part of it is right in that they offer very good value for money. BYD's cheapest model in China is the Seagull and it sells for about £8,000 and it's a very decent car. I think the second part about them not being sophisticated is wrong or out of date. Both Linda and I visited BYD and that was not the impression that we've had for many years and was definitely not the impression we got on that visit. The first thing we were greeted by was BYD's fastest car, which is the fastest production car in the world. Not the fastest EV, just the fastest car. The Yangwang. It's replaced, I think, a Bugatti supercar into number two. And perhaps in sort of true BYD style, it also greeted us using its suspension to dance and play a song. But that is the world's fastest car. But then if you go a level deeper, I think what's impressive about BYD in terms of sophistication is they do their own chips. They do their own motors. They do their own batteries. That is very rare in the automotive world. Musk once said that the automotive companies of the West had outsourced their brains to the supply chain. You're seeing less of that in China. And you're seeing really great innovation. I mean, fast charging. In China, BYD are building out their fast charging technology where you can charge in 5 minutes for a 400 km range. Europe's at a fraction of that, and they're planning to bring that technology to Europe. And I'd go as far to say that my experiences of Chinese EVs make me very worried about the future of the European mass auto market and how it responds in the long run to them.
And behind that EV revolution is another one of Scottish Mortgage's holdings, CATL. It supplied almost 40% of the world's EV battery market last year. And their batteries are now installed in more than 24 million cars worldwide. Tom, what is it that's enabled CATL to build that kind of scale? And where do you think the growth comes from next?
Well, I think one part of it is just the incredible sophistication of their manufacturing processes. But I think, you know, part of it is electric vehicles and the real scale that they have there. We think that penetration just goes up and up from here, and that the larger suppliers have an increasing advantage in that. But then there's what gets called the ESS market. So, that's stationary storage, grid-scale storage, and into other applications is one of these markets that's growing very rapidly. And we think electrification as the sort of final power source for transportation, but also for other industries, is just going to grow share massively over the coming years. So, it's that combination of scale dominance in a market that's growing really rapidly, which is really exciting about this. And I think there's something in there about the culture, about being prepared to walk away from what worked last year if you think there's a better solution this year. To make sure you're progressing all the different technologies, so you're in a position to pick the winner. And if you're really going to get at the competitive advantage of this business, you know, despite their amazing manufacturing and the huge scale, I think it's that technological understanding and making those right decisions that have been the absolute core to the position they're in today.
And there's another dimension to this, too. When we're thinking about AI, it doesn't necessarily stop just at the models and software, but we're starting to see it become much more into the physical world through the likes of cars and eventually robots. And that brings us to Horizon Robotics. Linda, I know you got to know Kai Yu when he was first at Baidu before he went on to found Horizon Robotics. How did that long-standing relationship help you to understand the opportunity that he was pursuing and eventually give you the conviction to invest?
