Chinese for Savvy Investors
There is no alternative in the long run to investing in China’s equity market. Ample opportunities for globally oriented investors are there for the taking. All the same, a mindful eye should be kept on the risks.
With a population of around 1.4 billion, China’s share of the estimated world population of 7.5 billion is almost 19%. In 2016, the People’s Republic of China contributed USD 11,218 billion or roughly 15% to the total global gross domestic product of USD 75,278 billion. It is but a matter of time before China overtakes the US as the world’s largest economic power. China’s economic growth rates and the government’s targets for growth are indeed impressive. At the same time, however, Chinese equities – allowing Western investors to participate directly in China’s dynamic growth – either continue to be under-represented in, or else are entirely absent from, Western investors’ portfolios.
There were good reasons in the past for international investors to shy away from Chinese equities. In particular, uncertainty surrounding the government’s economic strategy, the bureaucratic regulations and limited transparency tended to put off investors from the Western hemisphere. But the framework conditions have begun to change for some time now. China has been sending clear signals that foreign capital is welcome.
Today, China should be on the radar of equity investors with a longer term horizon who are keen to diversify globally.
Straightforward fund solution
Professional fund solutions provide easy access to China’s stock market. Since September 2017, Credit Suisse Asset Management has been managing an equity fund as a connecting bridge between China’s A-shares in Shenzhen and Shanghai, which – combined with the Hong Kong stock market – form the world’s second largest equity market.
There is every indication that the trading volume and market cap of tradable shares will continue their growth trajectory. The inclusion of China A-shares in MSCI indices slated to begin in May 2018 will give this asset class an added boost. Both passive (index-tracking) and active (benchmark - oriented) fund managers will be pushed into this asset class, which should bolster share prices.
The fund not only invests in a well-diversified portfolio of stocks listed mainly on the exchanges in Shanghai, Shenzhen and Hong Kong but also offers daily liquidity. The portfolio concentrates on the Chinese economy’s most promising growth areas. The Shenzhen-Hong Kong Stock Connect program, which was launched in December 2016, offers optimal portfolio diversification opportunities as over 50% of the Shenzhen-listed stocks belong to the new-economy sectors in China – versus only 20% of the stocks listed in Shanghai. Now is an opportunity to directly invest in China A-shares from HK, which are currently trading at a steep discount to global equities (MSCI World). Earnings are broadly anticipated to grow at double-digit percentage rates over the next two years.
Attractive macroeconomic environment
China’s large-scale initiative for economic cooperation and trade should provide an additional boost to the equity market. Under its “One Belt, One Road” initiative – also dubbed the “New Silk Road” – the Chinese government aims to create new trade channels, stimulate the internationalization of China’s economy and strengthen its position among its main trading countries. Its “Made in China 2025” initiative, which is designed to transform the country into a high-tech economic powerhouse, has the greatest potential to accelerate China’s economic growth (see page 11). China harbors grand ambitions in dynamic fields like biotechnology, artificial intelligence, Internet of Things (IoT), renewable energy and nuclear technology.
Home advantage thanks to ICBCCS
Although China is increasingly opening up its markets to international investors, on-the-ground experience and direct access remain indispensable. Credit Suisse Asset Management enjoys the privileged position of being able to rely on a proven and highly successful partnership in China. Credit Suisse Asset Management owns a 20% stake in ICBC Credit Suisse Asset Management Co. Ltd. (ICBCCS), a joint venture initiated in 2005 with Industrial and Commercial Bank of China (ICBC), which holds an 80% interest.
The joint venture company became the first fund manager in China formed from the partnership between a domestic commercial bank and a foreign asset manager. As of end-2017, ICBCCS had assets under management of RMB 1,100 billion (USD 174 billion), making it the second largest asset manager in China. Not only is ICBCCS one of the few fully licenced fund managers in China offering a broad spectrum of investment services to international clients but it has also earned an outstanding reputation worldwide as a manager of China A-share strategies.
Backed by the expertise of ICBCCS in Beijing and the know-how of Credit Suisse Asset Management Hong Kong, the fund employs a multi-step bottom-up securities selection process.
The Luxembourg-domiciled fund invests in a diversified portfolio of 30–80 companies active in traditional and new sectors of the Chinese economy. The investment universe is initially comprised of stocks listed on the Shanghai and Shenzhen exchanges (China A-share market) which are eligible to be traded via the Stock Connect program. The fund also invests in Hong Kong-listed shares – for example, in order to exploit valuation discrepancies in dual-listed stocks – as well as in Chinese companies listed in the US (ADRs).
The focus lies on stocks with valuations that are strongly supported by fundamentals. The fund offers a high level of exposure to small and mid-cap stocks, to new-economy sectors listed in Shenzhen and to stocks of blue-chip companies undergoing the state-owned enterprise reforms. The investment objective of the fund is to generate long-term capital growth.
Although the chances are good that in the current geopolitical environment this objective will be achieved over the longer term, the risks should not be ignored. These are namely emerging market investment risks in general, as well as specific risks associated with the Chinese market. Tax laws, regulations and practices in China are constantly changing and may even change with retroactive effect. Tax burdens for issuers or securities may also have a negative impact on performance. As always, it is ultimately up to the investor to weigh the opportunities and risks, including for Chinese equities.