The Case for a Dedicated China Equities Allocation
China is on a trajectory to becoming the world’s largest economy by 20241 and, as such, the country continues to be a destination for capital flows from investors seeking higher internal rates of return (IRR), alpha and diversification within their portfolios. Notably, the vast China domestic market has become more consumption-oriented, and Chinese corporations now find themselves well positioned to meet consumer demand.
Return/Risks from Beta
Owning China as a standalone allocation2 can help investors meet their return targets. Forecast returns, which comprise yield, earnings growth, valuation and inflation components, favour China. State Street Global Advisors’ long-term forward expected returns have a premia associated with owning China equities relative to EM equities (including China) of 9.02% versus 8.56%. By breaking out China from EM, investors can receive a more favourable return from owning the systematic risk, which is of course higher in a China-only exposure than a more diversified EM exposure.
China’s Growth Trajectory
China has become more consumption-oriented, relative to net exports or investment. Consequently, the Chinese have an increasingly higher influence on consumer behaviour. Chinese corporations find themselves well-positioned to meet consumer demand and gain market share, especially in online retail and technology industries. Relative to the $744.1 billion e-commerce market in the US,3 China’s e-commerce market is worth $1.2 trillion.4 This accounts for just 23.1% of overall Chinese retail spend,5 and it follows that there is plenty of potential for growth given the large population with booming access to digital technology.
China’s Transition to a Consumer Service-Based Economy
The government’s China 2025 Plan provides tailwinds to the continuation of these trends; the goal is to be the global leader in the design and development of high-margin industries. Furthermore, China’s Communist Party (CCP) is in the process of drafting the 14th Five-Year Plan of Social and Economic Development (2021–2025). The Plan will include a new economic model called “dual circulation,” which advocates for an economic rebalancing between globalisation and China’s economic self-reliance against the backdrop of rising US-China competition and continuous decoupling of global supply chains.
Foreign Direct Investment Trends
Foreign Direct Investment (FDI) within China - a strong indicator of sustainable growth - is trending upward, despite some protectionist policies that run counter to the liberalisation of trade in recent years. Protectionism is not likely a permanent global policy; however, the path towards a resolution can be steep and is unlikely to be linear. We expect participants to find common ground because the benefits of collaboration and efficiency are too numerous. Although 2020 data is not yet available from the World Bank, we expect pandemic-based economic disruptions will likely impact the FDI decisions of companies. The full impact on FDI flows will depend upon the success of public health measures to combat the pandemic, as well as economic policy responses.
Although there are countless strategies, theories and approaches to investing, there is one concept that nearly every investor agrees on: the value of diversification. Simply put, diversification means spreading your assets among a variety of investments with the aim of balancing risk and reward, and reducing overall volatility. A Greater China ETF investment provides instant diversification, giving access to over 800 securities and the four leading Asian equity markets - China, Hong Kong, Singapore and Taiwan, in a single trade - thereby helping to mitigate risk and providing the potential to improve returns.
Footnotes
1 Source: International Monetary Fund.
2 This section of the paper references State Street Global Advisor’s asset allocation forecasts. Forecast returns are based upon estimates and reflect subjective judgments and assumptions. There can be no assurance that developments will transpire as forecasted and that the estimates are accurate. Data as of September 30, 2020.
3 2019 J.P. Morgan Global Payment Trends. E-commerce payments trends: China.
4 2019 J.P. Morgan Global Payment Trends. E-commerce payments trends: U.S.
5 2019 J.P. Morgan Global Payment Trends. E-commerce payments trends: China.
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Exp. Date: 31/10/2021