The top four questions we get on investing in China
Endowus Insights

The top four questions we get on investing in China

Updated
26
Aug 2022
published
3
Nov 2021
.
investing in china equities - regulation risk, onshore vs offshore, stocks

Through years of spectacular and almost unprecedented growth, China has successfully transitioned itself from being a stagnant, centrally-controlled, and inefficient market to an upper middle income country — and one of the world’s major economic powers.

While its economic growth has surpassed those of many developed markets, the China financial market is still not as open as many other countries'.

In this article, we touch on the four most common questions we hear when it comes to investing in China.

Should I be worried about regulation risk in China?

The Chinese authorities’ clampdown on tuition, gaming, and real estate companies has led to market jitters from both domestic and foreign investors.

The various regulatory crackdowns caused sharp sell-downs on China's share markets, resulting in the market capitalisation of some of its largest companies, such Alibaba Group Holding Limited, to plummet. Even diversified China tech exchange-traded funds (ETFs) such as KWEB have not yet recovered from these market fears.

We should note that these harsh regulatory measures are the Chinese government’s attempt to protect the interests of consumers and smaller enterprises, in a bid to catch up to international best practices. While this may lead to short-term volatility, it may also lead to more sustainable long-term growth.

For example, the government’s regulations on other mandates, such as the acceleration of the green economy, localisation of technology, and value-chain upgrades have given policy-led uplifts to specific sectors.

It is thus important for us to focus on the long-term growth opportunities in China, rather than focus on near-term risk.

Read more: China: Looking past near-term volatility

What is the difference between onshore and offshore China securities?

Another question investors often ask when initiating an interest in the Chinese market is a rather fundamental one — what really is the Chinese market?

Are market-favourite names like Alibaba and Tencent considered Chinese securities, even though they’re listed outside mainland China like in the US and Hong Kong?

table of onshore and offshore Chinese markets

As shown above, the Chinese market consists of securities listed in the onshore or offshore markets, or both.

The onshore market is the Shanghai and Shenzhen Stock Exchanges. Stocks that trade on these exchanges are commonly known as China A-Shares.

The offshore markets include not only Greater China stock exchanges — that is, based in markets with “Chinese” cultural ties, such as Hong Kong, Taiwan, and Macau — but also Chinese-domiciled companies listed in other stock exchanges around the world, like the US bourses or even the Singapore Exchange.

Wider investment opportunities in China A-shares

The offshore markets have historically been more accessible, and therefore more popular, among retail investors.

However, less access to the onshore market does not imply that it is any less attractive than the offshore markets.

In fact, it is exactly the infancy of the onshore Chinese market that offers unique opportunities to investors, as the market is “new” to the broader investor base and therefore under-analysed.

More importantly, the sheer size and diversity of the onshore market positions it as an attractive investment opportunity. This is especially the case for investors with an existing allocation to the offshore market, which is typically dominated by more established and rather traditional companies — such as conglomerates and dividend-paying stocks in Hong Kong, or semiconductor companies in Taiwan — or mega-cap internet names like Alibaba, Tencent, Meituan, and Xiaomi.

Is China an emerging market or a developed market?

An investor considering adding to their China exposure as part of a globally diversified portfolio may wonder whether China should be considered as part of their emerging markets or developed market exposure.

The China economy and market has many characteristics that make it an emerging market. With limited market accessibility in the China A-share market, illiquidity, as well as high gross domestic product (GDP) and productivity growth, the Chinese market falls squarely into the emerging markets category.

Chart of GDP per capita comparing different markets

Yet, the Chinese market is far more developed than the rest of its emerging-market peers, such as India or Malaysia. The onshore China equity market (Shanghai and Shenzhen) is widely recognised as the second largest national stock market in the world. Both exchanges also consist of various “new economy” and “old economy” companies and sectors that offer a wide range of investment opportunities, in a manner that is more comparable to other developed markets.

Further, China’s total GDP is the second largest in the world, and is poised to take over the US’s in a matter of a few years. The GDP per capita figure is lowered by the sheer size of their population, although Shanghai’s and many Tier 1 Chinese cities’ GDP per capita is closer to that of a developed country’s.

Am I getting sufficient allocation to China equities?

It is well known that index research providers like MSCI take a market capitalisation approach for geographical weightage of a country in an index. What is less known is that these providers’ allocation frameworks also take into account the maturity of the capital market, the extent that the shares are free float, and ownership restrictions, before deciding the weightage.

The China A-shares were introduced to the MSCI Emerging Markets Index (MSCI EM) and MSCI All Country World Index (MSCI ACWI) in 2018, with a target final weighting of 5% and 0.5% respectively.

Since then, following positive reception and the ever-growing significance of China A-shares, MSCI announced in 2019 to further increase the China A share weight to 20% in MSCI EM.

Composition of MSCI ACWI vs global GDP

But is the growing importance of China to the global economy fully reflected in current index weightings? Based on GDP contribution, the China market is still grossly underrepresented. Investors may want to pursue a satellite allocation to further increase their exposure in the growing Chinese market.

It can be time-consuming and difficult for the average investor to invest well in China, given its complexity and the resulting importance of having on-the-ground knowhow to navigate the market.

The Endowus Investment Office selects and curates the best-in-class China funds, overseen by top managers in the Chinese market, so that you can invest better with greater ease. Learn more about our China funds here.

Next on the Endowus Fin.Lit Academy

Read the next article in the curriculum: Learn about the Endowus Factor Portfolios

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