Should you invest in China?

21 October 2015

This is why the effects of the Chinese stockmarket’s severe correction in the summer, which was triggered by investors’ concerns over slowing growth, was felt across the world and wiped hundreds of billions off global financial markets.

Patrick Connolly, a certified financial planner with Chase de Vere, says this was just another example of the extreme volatility that investors in China have endured over the past year – and warns it’s a trend that’s likely to continue.

“The China SSE Composite Index stood at 2290 on 27 October 2014 and rose to 5166 by 12 June 2015, an increase of 126%,” he explains. “It then fell to 2927 by 26 August 2015, a decrease of 43%. It is clear, therefore, that investing in China isn’t for the faint- hearted.”

Jan Dehn, head of research at Ashmore, the investment manager, believes a key reason for this turbulence is the fact China is changing from a high-savings/high-investment/high-growth economy to a low-saving/low-investment/ high-consumption economy.

“The transition is necessary and healthy and ensures that the country’s expansion is sustainable and China has a bright future as a consumption- led economy,” he says. “With a savings rate of 49%, China has a lot of room to increase consumption and therefore growth.”

The problems this causes can’t be underestimated. Alex Scott, deputy chief investment officer at Seven Investment Management, admits the company’s 7IM Unconstrained fund has been badly affected but insists the longer-term prospects look brighter.

“We have had quite high exposure to Asia – particularly China – and that market has been depressed beyond what’s remotely justified by fundamentals,” he says. “It’s been a bruising period for investors in China but we think it offers compelling value at this point.”

Mark Dampier, head of research at Hargreaves Lansdown, believes the government’s commitment to a more balanced economic growth policy should create a wide range of opportunities to take advantage of deregulation and reform.

“It is important to remember China is a higher-risk emerging market and the transition from export-driven to consumption-driven economy will not happen overnight,” he explains. “It is a multi-year theme that will have setbacks along the way.”

There is no doubt that China offers huge potential. This is reflected in the increasing wealth among its population and economic growth figures, which, while having fallen back, are at levels which the more developed countries in the western world could only dream about.

However, Chinese authorities have a big influence on how many sectors and companies are run.There are also variable levels of corporate governance and limited transparency that can make it difficult for investors to have real confidence in what they’re investing in.

There are more than 40 funds in the IA China/Greater China sector, each of which must invest at least 80% of their assets directly or indirectly in equities of China, Hong Kong or Taiwan. Funds may, of course, invest in one or more of the countries.

Currently, UK investors have £1.4 billion in this area of the market, equating to 0.2% of total funds under management, according to Investment Association statistics. The figure has fallen from £1.7 billion a year ago, which is being blamed on concerns about China’s growth.

Although all funds in the sector have made money over the past decade, performances have been mixed during the past year. Over this time, the best funds have returned 16% and the worst losing a similar amount of money, according to Morningstar data to 8 October 2015.

However, buying a fund in this sector is not the only way to access the story. In fact, Patrick Connolly suggests it’s better to opt for a fund offering more diversified emerging markets exposure.

“It is only very aggressive investors who should have investments in specialist Chinese funds or investment trusts and we don’t recommend any of them,” he says. “The funds we like, which have some exposure to China, include JPM Emerging Markets.”

The one guarantee is that investing in China won’t be a smooth ride
and volatility will be a necessary evil for anyone getting involved
in emerging markets, points out Gavin Haynes, managing director of Whitechurch Securities.

“We have seen this year how volatile emerging markets can be, and China has been at the forefront,” he says. “It had a meteoric rise until the middle of this year and then that’s turned around and since the start of the summer you’ve seen significant losses.”

He says it’s a market for active managers who can identify companies with the potential to exploit opportunities. “You have to take a long-term perspective to find an entry point but as a long-term investor after a significant correction it isn’t a bad point.”

Fund to watch: Standard Life Investment Global Emerging Markets Equity fund

If you want exposure to China as part of a broadly diversified investment in emerging markets, then this fund from Standard Life may be worth considering.

The stated aim of the fund, which is managed by Alistair Way, is to provide long-term growth from companies listed on stockmarkets in Asia, Eastern Europe, the Middle East, Africa and Latin America.

This fund currently has 22% of its assets in China, as well as 13.1% in South Korea and 11.3% in Taiwan, according to its latest fund factsheet on 30 September 2015.

Its other countries, each of which is worth less than 10% of assets, include India, Brazil, South Africa, Hong Kong, Mexico, Russia, Malaysia, and Turkey.

As far as sector composition is concerned, information technology has the largest share at 24%, followed by 18.1% in financials, 16.5% in consumer discretionary names, and 9.5% in industrials.

Other areas the fund covers include consumer staples, telecommunication services, energy, materials, utilities, and healthcare.

The fund covers 95 holdings, the largest 10 of which account for 22.2% of the fund. These include prominent household names such as Samsung Electronics (3.7%), China Mobile (3.2%) and online retailer (1.9%).