Historically, investing in Chinese equities was a complex undertaking, off-limits to many foreign investors. However, the market is gradually opening up as China continues to lower regulatory hurdles. The investment case for Chinese equities is a simple one, even more so in 2020. In fact, China is likely to be the only major global economy to report positive GDP growth this year. The International Monetary Fund expects the Chinese economy to accelerate in 2021, expanding by 8.2%, representing more than 25 per cent of global growth.
Brief introduction to Chinese equities
There are several share classes of Chinese equities. Companies incorporated in the People’s Republic of China can issue A-shares, B-shares and H-shares. The main differences between these share classes are the listing location and the currency in which the shares are traded. Other types of Chinese stocks exist as well, representing shares of Chinese companies incorporated and exchanged outside of China.
Until recently, the onshore Chinese market, A-shares and B-shares, has been mostly off-limits to foreign investors. However, various programmes introduced by the government over the recent years offered foreign investors an opportunity to participate in the onshore market. This is significant as stocks traded on the two Chinese exchanges, the Shanghai Stock Exchange and the Shenzhen Stock Exchange, represent the second-largest equity market in the world.
MSCI China and other China stock indices
MSCI indices are widely used by the global investment community. Driven by the institutional demand for the asset class, MSCI has been steadily increasing the representation of China A-shares in its global indices. Since MSCI’s initial inclusion announcement in 2018, Chinese onshore equities have experienced billions of dollars of foreign capital inflows.
MSCI has several indices that can be used as a proxy for Chinese equity exposure and performance. The MSCI China Index and the MSCI China All Shares Index are the most common. The major difference between the two is the extent of inclusion of A-shares in the investment universe.
While the MSCI China Index has a cap on A-shares inclusion, the MSCI China All Shares does not. While this might seem like a minor difference, it has a substantial impact on the composition. For example, Consumer Discretionary, Communication Services and Financials make up 72.4% of the MSCI China Index. MSCI China All Shares Index offers more diversified exposure, with top 3 sectors representing 58.6% of the index, followed by Consumer Staples and Technology both having over 8% allocation.
Some other commonly used indices are the CSI 300, several FTSE China products and the S&P China 500 index. The CSI 300 index tracks 300 largest and most liquid A-shares listed on both, Shanghai and Shenzhen exchanges. Financials and Consumer Staples account for a large share of the index, and Ping An Insurance is the largest holding with 5% weight.
FTSE Russell has a substantial range of benchmark indices for onshore and offshore investors. FTSE Total China Connect Index, for instance, includes all major Chinese share classes while FTSE China A50 Index is a flagship index representing the 50 largest A-shares.
The S&P China 500 covers 500 largest, most liquid Chinese companies, including A-shares and offshore listed Chinese stocks. Consumer Discretionary is the largest sector with close to 25% weight, followed Financial at 15.9% and Communication Services at 12%.
Getting exposure to Chinese equities
For investors looking to allocate capital to Chinese equities, there are two simple and effective options. One is through an ETF tracking one of the major indices. ETFs offer low-cost, beta exposure to the Chinese market. iShares Trust – iShares China Large-Cap ETF, iShares MSCI China ETF, Invesco Golden Dragon China ETF and Deutsche Xtrackers Harvest CSI 300 China A-Shares Exchange are some of the ETFs worth considering for China exposure.
Another option is to use an actively managed mutual fund. Active management could be particularly effective in a market like China. Research by an asset manager, Invesco, for example, found that “median managers outperformed the benchmark A-share index CSI 300 by more than 4% a year, while top quartile managers outperformed by over 12% a year.” Instead of replicating an index, active managers look for undervalued opportunities to generate alpha above their benchmark.
UBS (Lux) Equity China Opportunity Fund and Allianz China A-shares Fund are some of the funds with impressive track records in the space. Aberdeen Standard Investments, Eastspring Investments, Fidelity, Value Partners, HSBC and Threadneedle also have active management products available to investors looking for exposure to Chinese equities. Neuberger Berman recently launched a China A-Share UCITS fund.
Chinese equities: worth a bet
Overall, China offers an exciting investment opportunity. The A-shares market, in particular, is still under-owned and underrepresented in most indices. Chinese shares have a low correlation to traditional equity markets and have the potential to generate sustainable long-term outperformance.
Tracking MSCI China index might be an easy way to getting the necessary exposure. For more active investors, however, plenty of mutual funds exist targeting different areas of the Chinese market.