Deep Dive: Endowus China Equities Portfolio

What is the Endowus China Equities Portfolio?

The Endowus China Equities Portfolio focuses on efficiently capturing the best opportunities in both onshore and offshore Chinese equity investing. Consisting of five best-in-class funds that have consistently outperformed the market, this portfolio is for investors who seek significant alpha opportunities and are looking to invest for the long term in a diversified and efficient portfolio.

The portfolio is designed to give access to the opportunities in China and the Greater China universe, including markets such as Hong Kong, Taiwan, and Macau. For this purpose, the portfolio will tap into the various types of Chinese equities, such as:

• Onshore China equities: Chinese companies listed within mainland China (Shanghai and Shenzhen), also known as China A-Shares or B-shares;
• Offshore China equities: Chinese companies listed on stock exchanges outside of China, such as in Hong Kong (H-Shares), or even the US (ADRs) or other offshore markets where Chinese companies are listed;
• Greater China equities: Companies from Hong Kong, Taiwan, and Macau listed in their respective stock exchanges; and
• Other equities: Companies from countries with no cultural ties with China, but are listed in stock exchanges within Greater China, or companies that have a significant business dependency to China.

Learn more about how you should approach a core-satellite portfolio investment strategy here.

The portfolio has a robust exposure to the related regions, with a heavy allocation to Chinese companies to reflect the large opportunity set in the market. It also has a notable exposure to Hong Kong and Taiwanese companies. Investments into companies from other countries are more opportunistic, and as of 31 Oct 2021, the portfolio allocates about 1.5% of its assets to equities from the UK, US, Italy, and Australia, taking into consideration the close business relationships of the companies with China.

Sector allocation is highly diversified, with a healthy balance to both “new economy” industries such as consumer discretionary, healthcare, and technology, as well as “old economy” industries like consumer staples, industrials, and real estate.

What are the underlying funds in the portfolio?

We have selected five best-in-class funds focused on investing in China and related regions and companies, managed by globally-renowned fund houses who are experts in investing in China and Greater China markets including Abrdn (formerly known as Aberdeen Standard), Allianz, First Sentier FSSA, JP Morgan Asset Management, and Schroders. The funds were chosen for their strong, market-beating performances that place them among the top percentiles among their peers, as well as for their unique investment focus as summarised above. Collectively, the funds provide investors an optimised exposure to investing in China.

Why invest in China stocks?

China's market outlook remains strong despite regulatory risks

China has rapidly emerged through unprecedented growth and thereby transformed itself into the second largest economy in the world in a short span of time. Despite this, there have been looming concerns on the sustainability of China’s high growth rates and concerns about structural issues that have been paved over and will come back to haunt them. The huge indebtedness of and debt-fuelled growth is a major concern especially in certain sectors of the economy including real estate and manufacturing. These concerns have been exacerbated by the regulatory risk and systematic risk of being a control economy. With the recent regulatory crackdown casting major doubt about some of the most prominent companies in the Chinese equity market.

However, not all sectors are heavily and negatively impacted by the crackdown, and investors should consider a more diverse universe outside of just high-profile names and shows why diversification is so critical even within a China market universe.

Additionally, given that such anti-monopolistic market intervention is rather common and well-received by both large and small players in sophisticated economies like the US and Europe, a more prudent investor might view regulatory risks as a necessary growing pain as the Chinese economy matures.

Regulatory risk is not something new to the Chinese market — recall events such as the US-China tensions in 2018, and the market crash in 2015 that followed after the opening up of the Onshore stock market. Despite such headwinds, the market has demonstrated some resilience through these unique challenges and in the end as a growth asset class, equities returns will be determined by the earnings growth of the listed entities in the stock market.

China offers a large, diverse investment universe

In that regard, despite the complicated structure of multiple stock exchanges and multiple listings of certain companies, this provides a broad opportunity set from which to invest and generate investment returns.

The Chinese equity markets have both the onshore exchanges (e.g. Shanghai and Shenzhen Stock Exchanges) as well as offshore markets (e.g. Hong Kong) and we have invested in funds that have investments in a broader mandate of companies with high China exposure as well.

This exposure to not only the second largest equity market in the world, but also more broadly companies that leverage the second largest economy and consumers carry rather distinct opportunities that are diversified.

Another characteristic that makes Chinese equities unique is the fact that its economy is heavily driven by domestic factors. Companies on the onshore Chinese market derive, on average, 90% of their revenue locally, which reduces the economy’s dependence on global macroeconomic trends. Companies in the region, such as Hong Kong and Taiwan, are similarly reliant on mainland Chinese revenue rather than from the rest of the world.

This is really important when we look at China equities in comparison to other major markets in the region and globally. It is interesting to note the very low correlation China markets have with other global markets. This is another attractive point for investors who want to add further diversification benefits or uncorrelated returns to their investment portfolio.

China offers significant alpha opportunities

Experienced investors would remember that the onshore Chinese market used to be largely inaccessible to foreign capital. The onshore markets opened up partially to foreign investors only in 2014 via the Stock Connect Programme, and prior to that, the Hong Kong stock exchange provided an alternative for foreign investors to gain exposure to the Chinese market.

It is exactly due to this “infancy” of the onshore Chinese market, however, that it offers attractive alpha opportunities for savvy investors. As the market is new to the broader investor base and therefore under-analysed, it rewards investors who put in the effort to understand the companies in greater detail and allocate to those with sustainable long-term fundamentals.

Additionally, the Chinese equity market is currently trading at a valuation that is lower than other major global markets. While this is partially due to the regulatory and systemic risk and the fact that capital markets are not completely open to foreign investors, there are certain companies or sectors that naturally present opportunities for re-rating over time as the market continues to open up and the companies deliver higher growth.

Who should invest in China stocks?

While Chinese equities offer highly attractive opportunities as outlined above, the market is not without its risks; in fact, the market is a highly volatile market with high retail participation and low institutionalisation. Therefore, an investor should consider his risk appetite carefully before deciding to allocate specifically into China.

A quick and simple assessment of one's risk appetite with regard to investing in China would be for an investor to ask themselves: If the Global Financial Crisis (GFC), US-China Trade War, or regulatory crackdowns were to happen again tomorrow, will I be able to stay invested despite the short-term losses?

In the three market crises in 2007 (GFC), 2018 (US-China trade war), and 2021 (regulatory crackdown), the MSCI Golden Dragon Index, a broad index of Greater China large and mid cap stocks, suffered large drawdowns of approximately 60%, 13%, and 16% respectively. Although such events may have been rather unusual and infrequent, there is no guarantee that something of a similar nature will not occur again.

Additionally, apart from such major market crashes, the Chinese equity market has been historically volatile with an annualised volatility of 21% from May 2000 to October 2021. Given this, another relevant question for investors to ask themselves would be: How long can I stay invested with the losses, if there was even a small dip in the Chinese equity market tomorrow?

Ultimately, the longer one’s investment horizon, the greater the chance of the investment riding out the market volatility to achieve a higher return.

All in all, investors who are prepared to withstand the potentially steep losses arising from market volatility and have a mid-to-long term investment horizon would be best suited to allocate to Chinese equities.

Why should you invest in the Endowus China Equities Portfolio?

Invest in a diversified and efficient portfolio

A country portfolio has limited ability to diversify, but the China market is unique in that it has several stock exchanges in different jurisdictions with a diverse range of sectors being represented in these various exchanges.

The overall diversification of the portfolio is also achieved through a purposeful determination in the portfolio creation to make it a Greater China portfolio where the opportunities to invest in both onshore and offshore markets allows a slightly broader investment opportunity through diversification to other geographies like Hong Kong, Taiwan, and Macau, and also through various currency diversification in HKD, TWD, USD, etc.

This is especially true when assessing the portfolio from a sectoral point of view (as previously shown), as well based on the place of listing.

Additionally, the portfolio will tactically allocate into the onshore or offshore versions of the underlying equities when considering Chinese companies that are dual-listed — this is efficient because there are occasions when the onshore versions trade at a higher price, due to the immaturity of the onshore market that attracts high participation from retail investors and there are arbitrage opportunities.

Active management by top fund managers to generate higher returns with lower risk

Given the vast investment universe for Chinese equities, as well as the complexity in obtaining local, ground-level knowledge that impacts the day-to-day operations of the companies, we think that Chinese equities investing can be most efficiently done by leveraging the expertise of expert fund managers to extract alpha through their unique investment approaches. This is also especially true when looking at onshore Chinese equities, as the market is less mature and provides attractive alpha opportunities.

The portfolio has been constructed to benefit from the collective wisdom of the underlying funds to generate the best possible risk-adjusted returns through exposure to a diverse basket of companies across Chinese equities, and this has proven to be successful historically compared to the market.

China is unique in that there is no single market index that represents the broad market well. Due to the narrow scope of some of its various indices it is even difficult to track what the overall Chinese market has done.

The table below shows the four major indices that people use to track the China market overseas, with the MSCI Golden Dragon being the broader measure including the Taiwan and Hong Kong markets. Across the various indices, the Endowus China Equities portfolio has generated good returns adjusted for risk and represents the opportunity to expose yourself to the broader Greater China markets.

Ongoing assessment of underlying funds by the Endowus Investment Office

The underlying funds in the portfolio have been selected based on the rigorous assessment by the Endowus Investment Office for their superior quantitative and qualitative characteristics, and are believed to be the best-in-class among their peers that are available to retail investors in Singapore today.

However, with that said, we recognise that the China equity market is constantly evolving, giving rise to new ideas and funds that effectively capture them. To make sure that the portfolio reflects the best opportunities in Chinese equities investing, we conduct ongoing re-assessments of the funds to ensure that their superior characteristics are maintained into the future, and where needed, to introduce new funds to supplement or replace the existing portfolio design.

Appendix: Portfolio details

Portfolio allocation and cost

Historical risk and return

Detailed market breakdown and selected portfolio holdings

Read more: Deep Dive: Endowus China Fixed Income Portfolio

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Investment involves risk. Past performance is not necessarily a guide to future performance or returns. The value of investments and the income from them can go down as well as up, and you may not get the full amount you invested. Rates of exchange may cause the value of investments to go up or down. Individual stock performance does not represent the return of a fund.

Any forward-looking statements, prediction, projection or forecast on the economy, stock market, bond market or economic trends of the markets contained in this material are subject to market influences and contingent upon matters outside the control of Endow.us Pte. Ltd (“Endowus”) and therefore may not be realised in the future. Further, any opinion or estimate is made on a general basis and subject to change without notice. In presenting the information above, none of Endowus Pte. Ltd., its affiliates, directors, employees, representatives or agents have given any consideration to, nor have made any investigation of the objective, financial situation or particular need of any user, reader, any specific person or group of persons. Therefore, no representation is made as to the completeness and adequacy of the information to make an informed decision. You should carefully consider (i) whether any investment views and products/ services are appropriate in view of your investment experience, objectives, financial resources and relevant circumstances. You may also wish to seek financial advice through a financial advisor or the Endowus platform and independent legal, accounting, regulatory or tax advice, as appropriate.

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