Chinese equities emerge from the pack

Chinese equities have delivered stellar performance this year, offering investors double-digit returns, with the MSCI China Index (offshore Chinese stocks) and the CSI 300 Index (onshore stocks) returning 14.42% 16.53% on a YTD basis, respectively, according to data from FE Fundinfo.

This compares with the single-digit returns generated by its global and U.S. peers. During the same period, the MSCI ACWI Index returned only 1.52%, while the S&P 500 performed 5.2%.

The positive performance of Chinese equities was supported by the optimism of investors over China’s improving economy, which has quickly rebounded following the disruption of the COVID-19 pandemic, according to Ricky Tang, Hong Kong-based deputy head of multi-asset for North Asia at Schroders.

Echoing Tang, Rob Mumford, investment manager for emerging markets equities at GAM Investments, said that China is now “leading the way out” from the pandemic, with authorities ready to add further policy support if needed to limit downside risks.

However, while the recovery of China’s stock markets has been impressive this year, Schroders’ Tang has warned investors about their valuations.

Tang explained that the share prices of some companies, particularly within the technology space, have continued to go up despite some of them already lowering earnings growth estimates in the next five years.

“It seems a little bit excessive from our perspective, and those are the names that we will probably take profit for now,” he said. 

Meanwhile, the more traditional sectors, such as financials, materials and industrial companies, are now providing more value, especially on the back of the expected normalisation of China’s economy.

“We see more interesting opportunities now in some of the traditional sectors, which have been beaten up quite badly over the last couple of months because the rally has been concentrated in internet and e-commerce stocks.”

Separately, he also warned of potential volatility in the asset class, driven by the continued friction between China and the U.S., as well as the upcoming U.S. elections.

[More: US asset managers race to gain China market share]

“In the coming months, we think that volatility can come back,” he said, adding that he has become more tactical in managing his positions in certain stocks.

LOOKING AT THE LONG-TERM

Despite expensive valuations in China’s tech industry, Tang continues to see longer-term prospects in the sector, noting that some names are still expected to provide strong earnings in the next two-three years.

“It doesn’t mean we have completely given up on the sector. We still find some good, long-structural winners, which are relatively cheaper.”

GAM’s Mumford also highlighted the long-term secular opportunities in China. Mumford manages the GAM Star China Equity Fund, which focuses on domestic-oriented names.

“There are powerful positive secular investment themes such as consumer behaviour shifts, new technology and infrastructure, healthcare reform, renewable investment, as well as the mega capital flow trends as China’s equity markets open up further to overseas investors,” Mumford said.

He explained that the consumer discretionary sector is boosted by growing middle class spending, online penetration, urbanisation, consumption upgrading and brand innovation.

Meanwhile, technology and digitisation, with 5G development, cloud computing and artificial intelligence, are driving massive data creation and management needs.

Within the healthcare sector, he sees continued demand across the spectrum, including pharmaceuticals, healthcare providers, supplies, technology and life sciences tools, services and biotechnology.

TOO LARGE TO BE IGNORED

Separately, investors based in Asia have noted that the Chinese market has become too big and should be viewed as a standalone market, instead of looking at the asset class as part of emerging markets, according to a survey conducted by Vontobel Asset Management.

As many as 53% of Asian investors surveyed believe that the Chinese equities market is now too big to be absorbed in the broad emerging market asset class. This proportion is significantly higher than in North America (42%) and Europe (37%), according to the survey of 300 discretionary wealth managers and institutional investors.

According to latest allocations, China equities account for 41% of the MSCI Emerging Markets Index, followed by Taiwan stocks – with a distant second highest weighting of 12.28%. There is also substantial divergence in performance. On a three-year cumulative basis, the MSCI China Index has generated 23.3%, compared with only 7.28% by the emerging markets index, according to FE data.

Francis Acosta is Editor of Last Word Media's Fund Selector Asia.