According to Christian McCormick, Senior Product Specialist on the Allianz China A-Shares Strategy, so far this year, China's onshore equity markets are outperforming the China’s offshore equity markets, some developed markets and most emerging markets. In this interview, McCormick answers the key questions about what to expect from the China A-Shares market.
Q. In your point of view, are Chinese regulators in a better position to respond to the challenges of the current environment compared to other developed economies?
A. China’s current fiscal and monetary response has been significantly smaller in scope (about 3% of its GDP) than its response to the 2008 financial crisis (about 13% of its GDP) and the US’ current response (about 25% of its 2019 GDP). China’s economy remains in a better position today than it was during the financial crisis, with greater economic prospects, access to capital markets and a lower budget deficit forecast than developed nations. Chinese policymakers have also shown more restraint in responding to the pandemic. We estimate China would need stimulus of about 4.5% of its GDP to offset the economic damage from the pandemic, leaving potential stimulus on the table should the global economic fallout prove to be more dramatic than anticipated, or should the country have to mitigate a second wave of local infections.
Q. What has burdened the performance of Chinese equities compared to other regions such as the United States or other emerging countries?
A. We believe this disconnect has been driven by the historically ever-changing structure and youth of the domestic equity market. In addition, locally listed A-shares have a smaller foreign investor base than other equity markets and are underrepresented in global indices. Foreign institutional investors were first permitted to own onshore Chinese stocks in 2001, but access to local Chinese equities has expanded more recently.
Q. What relevant steps have been taken recently for foreign investors to have access to the China A-Shares?
A. In 2018, MSCI added China A-shares to its Emerging Market Index and will gradually increase its weighting to eventually represent its true global market cap weighting of approximately 8%. We think this increased representation will help drive higher investor demand globally for China A-shares, potentially narrowing the disconnect between A-share market performance and the country’s economic growth potential.
Q. From a beta perspective, what can favour the growth of China A-Shares?
A. Secular growth areas like consumer discretionary, technology and health care are far better represented in the China A-share market than in offshore Chinese listings, creating an attractive opportunity set for investors. Additionally, there is a high degree of private sector participation in these secular growth areas rather than state-owned enterprises. In this way, two relevant aspects are: government continues to work to Internal transform its economy from an emerging to a developed one and also it works to make public companies more competitive with respect to their foreign counterparts.
Q. What role can China A-stocks play in an investor's portfolio?
A. We believe China A-shares offer substantial potential to generate alpha while also providing attractive diversification. The onshore China A-share market is dominated by small- and mid-cap companies (85% of the market), whereas the offshore H-share market is dominated by large-cap companies (53% of the market). In our view, this broader opportunity set of small- and mid-size companies creates a greater potential for outperformance than offshore H-shares. From both a price/earnings and price/book perspective, China A-shares are currently trading well below their historical 10-year averages, and they trade at attractive valuations relative to developed markets and other emerging markets.
Q. How does ESG analysis factor into evaluating China A-share opportunities?
A. We find ESG analysis extremely valuable when assessing company opportunities in the China A-share market. In addition to analyzing a host of environmental and social factors, we emphasize governance factors as the market as a whole is still ramping up to the level of sophistication of other developed markets. We seek to understand corporate board and management structures, executive incentives, the relationship a company has with its local and central governments and the alignment of interests between management and its various stakeholders, including its workforce and shareholders
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