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Supplements » China Report Nov 2021

China roundtable: ESG opens new doors for diversification

 

Funds Europe – What should investors be looking out for over the coming 12 months and overall, are you positive or negative on China’s investment landscape?

Li – In terms of the Chinese bond market, once foreign investors have built their positions in government bonds, we expect the investments will further move towards the policy bonds and ultimately credit bonds, and credit differentiation will continue. Some sectors have already experienced the repricing of credit risk, such as the real estate sector.

Meanwhile, government-related entities, especially local government funding vehicles, are likely to expect greater credit differentiation going. The government aims to curtail off-balance sheet borrowing at a local level and introduce greater market-based pricing for bonds issued by government-related entities.

On the equity side, we’re still positive on Chinese stock markets and foresee bright prospects for Chinese economy and corporate fundamentals during the post-Covid period. Meanwhile, investors’ access to Chinese equities has significantly improved, as more and more international investors have gained exposure to this market and China’s weighting in the MSCI Emerging Market Index has risen significantly in recent ears.

The strong performance of mutual funds in 2019 excited investors and we have been seeing the huge new funds flowing to the Chinese markets. As I mentioned before, we expect unparalleled investment opportunities from the new economy, especially from the carbon-neutrality-related sectors.

Zhang – China is a big market and it’s unique, it’s so uncorrelated with many other markets so there are always opportunities. I can mention a few: we have talked about Chinese government bonds, which are attractive. China is growing at a stable speed, this year the GDP growth is expected next year at 5% or 6% at least, so it’s a pretty stable place for investors, global assets owners to put money to work, and that could be extended to investment-grade credit as well, especially onshore, especially in the current market environment when people are trying to stay away from Chinese credit generally because of the other property developer issues. This is a good window because most of the sectors are really just scapegoats, they are not necessarily being affected by property developers.

There are opportunities in quant equities, and in fundamental equities, there are areas like renewable energy, healthcare, consumption and technology, AI, big data and cloud, which are all long-term investment opportunities, especially in the current market environment when some of the tech companies are being traded at just ridiculous valuation levels.

Putting capital markets aside, if you are willing to sacrifice a little bit of your liquidity, then some of the less liquid alternative investments including private equity, infrastructure, and even real estate and private credit will be interesting as well.

There is a full spectrum of investments in China, just try to make sure that you avoid certain sectors that are obviously not giving you the kind of growth you would like to see or are facing headwinds because of regulation. There are a lot of opportunities elsewhere and they are uncorrelated with many global assets.

Yin – When it comes to China, we are telling our clients to take a long view. China has the world’s second-largest economy as well as the world’s second-largest equity and bond market, offering substantial depth, breadth and liquidity. Over recent years its capital market has become increasingly accessible to outside investors.

The case for investing in China is really driven by, one, the role of Chinese assets as a diversifier, as well as a return enhancer, in a global portfolio; two, opportunities for active managers to add value in a less efficient market; and, last but not least, improving overall portfolio resilience with respect to an evolving but uncertain world order. We recommended to our clients that by 2030, global investors should consider substantially increasing their investment allocation to China from the current level, average about 5%, to potentially 20%.

Having said that, we think it is prudent to build that exposure gradually. I think the recent regulatory developments and also what’s happening in terms of [property developer] Evergrande are certainly a good reason to reflect on everyone’s China investment thesis. Building exposure to China is best viewed as a journey that balances the pace of market improvements with the imperative of achieving geographical diversity in a global portfolio.

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