Archived article: This article was correct at the time of publishing. Tax, investments and pension rules can change over time so the information below may not be current.

Should you invest in China in the Year of the Dog?

This year the Chinese Lunar New Year fell on 16 February, marking the start of the Year of the Dog. The numbers linked to the Chinese Lunar New Year holiday season are simply staggering. The holiday period sees the largest mass migration on the planet, known as Chunyun, when over 2.5 billion trips are expected to be made as people travel between cities and villages over the coming weeks to be with their relatives. And that’s not all.

Jason Hollands Jason Hollands
19 February 2018

An exciting investment prospect?

From a long-term investment perspective, it is difficult not to get excited about China, a vast nation which has industrialised at a truly astounding pace. In 1980 the Chinese economy was less than half the size of the Italy’s in GDP terms. Today it is the second-largest economy after the United States.

While China accounts for around 15% of global GDP – and almost one in five of the world’s population – the representation of Chinese equities in the MSCI All Country World Index is less than 4%, so there is clearly capacity to significantly grow its share of the capital markets.

Sceptical market watchers

Yet in recent years many market watchers have taken a more sceptical view of China. They are concerned about the rapid growth of the debt in the country, with total debt to GDP estimated to stand at 317%. Chinese GDP growth, while outpacing the developed world, has also decelerated significantly from 10.2% in 2010 to 6.9% last year.                         

China’s demographic profile is also set to deteriorate with echoes of the trends seen in Japan. Birth rates have continued to fall in China, despite the scrapping of its disastrous and controversial “one child” policy in 2016. The percentage of the population aged over 60 increased from 16.7% in 2016 to 17.3% last year. As the Chinese population ages and the workforce declines, this is leading to a shortfall in its pension system.

What do the challenges mean for investors?

China’s authorities have acknowledged the challenges. In October last year the 19th Congress of the Communist Party marked a shift in policy towards a greater balance between social and environmental improvement versus headline economic growth. Chinese authorities are reining in the expansion of credit to address the risks in the Chinese financial system and they aim to achieve a more sustainable rate of economic growth.

These big-picture themes and challenges are debated by economists and investment strategists at great length. Unsurprisingly it is easy for investors to get tied up in knots when considering whether or not to have any investments in China. However, the simple fact is that there is no relationship between Chinese GDP growth and returns from Chinese equities.

What can easily be seen as ominous challenges today may turn out to be investment opportunities. Technology is being used to improve productivity and address labour market shortfalls, and private saving is encouraged to address the financing of retirement.

Our view

What really matters over the GDP outlook is whether there are promising private sector Chinese companies to invest in that can deliver a good return on equity. In this respect it is important to tread carefully. The Chinese markets include many listed companies that are nevertheless controlled by the State, and where commercial priorities can be eclipsed by political considerations. China is a market where we think it is important to take a selective approach, but one which investors should not ignore either.

For most investors, the most appropriate way to access China will be through a broader Global Emerging Markets fund or Asia ex Japan fund rather than a fund focusing solely on Chinese companies. High quality funds to consider include Schroder Asian Alpha Plus, which holds 30.3% in Chinese companies and 20.3% in Hong Kong, and Fidelity Emerging Markets which is 22.7% invested in China and 8.8% in Hong Kong shares.

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Important information

Different funds carry varying levels of risk depending on the geographical region and industry sector in which they invest. You should make yourself aware of these specific risks prior to investing. Underlying investments in emerging markets are generally less well regulated than the UK. There is an increased chance of political and economic instability with less reliable custody, dealing and settlement arrangements. The market(s) can be less liquid. If a fund investing in markets is affected by currency exchange rates, the investment could both increase or decrease. These investments therefore carry more risk. Current or past yield figures provided should not be considered a reliable indicator of future performance. This is not advice to invest.