Chapter two: What's your next move in China investing?

The culmination of these recent events—some expected, some unexpected—in the past few months unnerved investors, but there has always been a lot of volatility when it comes to investing in China. It’s helpful to take a step back and look at the big picture. Over the past decade China has been in a boom, punctuated many times by the expectation of a hard landing or meltdown. Each time, China has made its way out. Today, the macroeconomic picture in China is driven by the overarching objectives that the Chinese government is looking to achieve. These include: improving security, financial market stability, common prosperity, the environment, dual circulation and demographics. Most of these long-run goals are a net positive for the long-term development of the Chinese economy—and therefore for investing in China—despite generating short-run headwinds for some sectors and companies, as evidenced by the regulatory intensity last year.

We are behind the long-term China investment case, while acknowledging higher risks and more near-term volatility, and cognizant that not everyone feels the same way. Simply put, we view China as a core standalone allocation, the same way that we look at the US, Japan, Europe and the UK. China is the second largest economy in the world and one of the most significant drivers of global growth, but investors are still under-invested (Chart 1).

China is the second-largest stock market but significantly under-represented in global portfolios

¹ Source: Trade Brains, 10 largest Stock Exchanges in the world 2021, data as of February 2022.
² Not to scale, for illustrative purposes only. Source: MSCI data as of March 2022.
³ Source: International Monetary Fund, World Economic Outlook Database, Gross Domestic Product (GDP), current prices in USD, estimates, April 2022.

PAST PERFORMANCE IS NOT INDICATIVE OF FUTURE RESULTS

The country’s pattern of growth differs from other markets, both in emerging and developed regions, and its monetary policy direction is also diverging from the rest of the world. Although this can sometimes create short-term headwinds, it also means that Chinese equities and fixed income asset classes offer investors low correlation and diversification benefits (Chart 2) compared to other widely-held portfolio allocations. The scale and variety of the opportunities offered is compelling to investors looking for both market and active returns across asset types. These factors mean that China offers active opportunities for investors, both from an overall portfolio allocation perspective and within individual asset classes. China’s capital markets also continue their rapid internationalization through index inclusions and the lifting of capital market controls.

Correlation (TR USD)
January 2002 to April 2022

A strong case for inclusion in a portfolio for diversification purposes and improve risk-return profile

Source: Bloomberg, as of 30 April 2022

PAST PERFORMANCE IS NOT INDICATIVE OF FUTURE RESULTS

Understanding Beijing’s overarching objectives and their potential implications should be front and center for any successful China investment strategy, and is an increasingly important consideration when picking stocks. China equities are volatile partly because the market is retail investor-driven, which is challenging but also presents a clear opportunity for active managers with the on-the-ground knowledge and research capabilities to identify and take advantage of mispricing and deliver value for investors. We have always believed that it’s about picking the right stocks in a fast-changing environment—and we are now in an even faster-changing environment than ever before.

When challenges become investment opportunities: healthcare and insurance services will raise demand for asset management services too

PAST PERFORMANCE IS NOT INDICATIVE OF FUTURE RESULTS

But “opportunity” also sometimes means being patient and waiting on the sidelines when necessary. Given our focus on the fundamental story and the fundamental value of the companies we own, last year we did not get carried away by the hype in certain sectors such as the renewable energy space, particularly the electronic vehicle (EV) industry. As we saw it, there was a big gap between the valuations these EV companies were trading at and their fundamental value, even after accounting for government support. Not investing in this part of the market has shielded us from much of the volatility of the past few months. We continue to believe that our holdings of good quality companies with strong competitive advantages will deliver results in the long run as investor focus returns to sector and company fundamentals.