China Fund

Manager Commentary as of 06/30/10

The second quarter of 2010 was a volatile one for markets, and there were downward movements in the Chinese markets.  Investor confidence in China's growth was tempered by fears about the government's efforts to cool the real estate market and also wage inflation.  Finally, there were mixed investor reactions to the news announced on June 20th that the Chinese Government would make its exchange rate policy to certain international currencies more flexible. An initial positive reaction turned negative as the markets turned down once again in the last week of June.

The Buffalo China Fund was down 7.54% in the second quarter of 2010, down 5.28% year to date. The MSCI CHINA FREE Net (USD) Index, was down 4.62% in the quarter, down 6.13% year to date.

Data represented reflects past performance and is no guarantee of future results. The investment return and principal value of an investment will fluctuate so that an investor's shares, when redeemed, may be worth more or less than their original value. Current performance may be lower or higher than the performance quoted. Performance current to the most recent quarter end may be obtained by clicking here. Performance current to the most recent month end may be obtained by clicking here.

The Buffalo China Fund has outperformed its benchmark year to date, but underperformed in the quarter.  The portfolio was hurt in the quarter by a position in Chonqing Changan, an auto manufacturer, whose stock price suffered from investor fears about slowing growth momentum and a restructuring of a venture with Ford and Mazda.  Another poor performer was Aluminum Corp. of China.  Aluminum prices have fallen, and fears about the unwinding of European-financed inventories abound.  On the other hand, some stronger-performing stocks in the quarter included China Unicom, a telecom services provider, Anta Sports, a sporting goods company, and Hengan International, a consumer staple products company.  The portfolio was helped most by stock selection in the consumer discretionary, information technology and utility sectors.
 
The outperformance year to date was also helped by stock selection in the sectors mentioned above, in addition to the industrials sector, as well as an underweight position and stock selection in the financial sector. Year to date, poorly performing stocks were the same as mentioned above.  Strong performers, in addition to the names previously mentioned, include China Southern Airlines and Cninsure, Inc., an independent insurance and brokerage company.

Despite the uncertain global macroeconomic environment, we continue to believe that China will have attractive GDP growth in 2011. The fund has continued to seek out established, well-managed companies that are generating significant cash, fit our growth trend strategy and are trading at what we feel are attractive valuations. We continued to take the opportunity in this past quarter to further diversify the portfolio into some of the sectors that should benefit from increasing domestic consumption, such as consumer stocks, financials and healthcare.

China is clearly a key place to find growth in 2011; forecasts for Chinese economic growth are in the range of roughly 8.50 to 9.50 percent. Despite current monetary tightening, we continue to believe that investment opportunities in China remain excellent, especially over the long term, as the economy shifts more and more from being an export-driven economy to one fueled by internal domestic demand. China remains a low-cost production center with a relatively flexible labor market. In addition, government debt-to-GDP is still low compared to the developed world, which gives the government further leeway to provide fiscal stimulus, when needed, to the economy. Finally, the high savings rate coupled with very low debt among the population provides opportunity for stimulating domestic consumption. We believe this is the time to have an appropriate allocation to this emerging market.

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"Despite the uncertain global macroeconomic environment, we continue to believe that China will have attractive GDP growth in 2011. We continued to take the opportunity in this past quarter to further diversify the portfolio into some of the sectors that should benefit from increasing domestic consumption, such as consumer stocks, financials and healthcare."