China frequently dominates headlines in the US and abroad. Pundits debate the implications of the countryâ€™s growing economic and geopolitical influenceâ€”both for today and the future. Chinaâ€™s global heft is undeniable, but a lot of noise accompanies that attention. To help investors determine Chinaâ€™s role in a globally diversified portfolio, here is a look at the relevant economic and political factorsâ€”as well as other considerationsâ€”based on Fisher Investmentsâ€™ research.
According to the World Bank, Chinese GDP hit $14.3 trillion in 2019â€”trailing only US GDPâ€™s $21.4 trillion. Some more complex measures indicate Chinese GDP actually exceeds Americaâ€™s. Per the IMFâ€™s purchasing-power parity-adjusted GDPâ€”which aims to account for differences in factors like the cost of livingâ€”Chinese GDP exceeds Americaâ€™s, since money goes further in the former. Yet this distinction has little meaning outside academic circles, as the country with the biggest GDP isnâ€™t relevant for investors (nor does purchasing-power parity mean much when transacting across borders). What matters more, in Fisher Investmentsâ€™ view, is that Chinaâ€™s huge economy is globally influential, and growth there boosts demand worldwide. As of early November, China generated 6.1% of MSCI World Index constituentsâ€™ revenueâ€”the third-biggest country behind the US (46.8%) and Japan (7.2%). China is the S&P 500â€™s second-largest revenue source, at 5.8% (behind the US itself).
Politically, the Chinese Communist Party (CCP) runs the countryâ€™s one-party system. The CCPâ€™s Central Committee is the Partyâ€™s top decision-making body, and its current leader is President Xi Jinping, who recently amended the constitution to pave the way for a lifetime presidency. While he has consolidated power considerably, the whole Central Committee still technically determines the countryâ€™s economic and social goals in five-year plans, which the National Party Congress rubberstamps. The CCP is the subject of numerous questions and criticisms, many of which relate to sociology and geopolitics. While these issues are indeed important, Fisher Investmentsâ€™ research shows they are outside of the factors markets generally weigh. Whatever your opinion of the regime, its policies and human-rights concerns, what matters most for markets is that the CCPâ€™s overarching priority is maintaining economic stability. This allows them to monopolize political power, yes, but it also mitigates many of the economic risks getting frequent attention in headlines.
While many acknowledge Chinaâ€™s economic importance, experts question the accuracy of the countryâ€™s official economic data. Given the centralization of political power and lack of checks and balances, data reliability is a major issueâ€”and plenty of anecdotal evidence supports the skepticism. Regional and national numbers have a history of not matching up. According to a Reuters analysis of GDP numbers reported by Chinaâ€™s 31 provinces, in 2018, the sum of regional GDPs was $206 billion more than reported national GDPâ€”a difference roughly equivalent to New Zealandâ€™s GDP. Reports of local officials fudging economic data are commonplace, forcing Beijing to crack down on data falsification. Government officials also directly intervene in controlling information. In 2018, the National Bureau of Statistics pressured the province of Guangdongâ€”an export hubâ€”in suspending a monthly manufacturing report due to â€œillegal surveying.â€
In Fisher Investmentsâ€™ view, questioning data is a fair and sensible practiceâ€”for any country, given official statistics even in the developed world have long had trouble capturing activity among service providers, self-employed people and the informal sector. Chinaâ€™s widely reported transparency issues add a unique caveat, but that doesnâ€™t mean investors should ignore Chinaâ€™s official figures. Many analysts monitor and act on these numbers, so how they relate to expectations is relevant to markets. Most observers believe any fudging happens in the inflation-adjustment process, so nominal data can also generate some insight that might not be widely appreciated. Moreover, Chinaâ€™s official numbers arenâ€™t investorsâ€™ only source of information. Major global companies do business with China, and they report their findings on earnings calls and quarterly reportsâ€”providing a sense of general growth trends, if not the exact details. We can also get a read-through on Chinese exports via other nationsâ€™ trade reports.
In terms of stock market structure, mainland Chinese companies have three share classes: A-shares (trading primarily on Chinaâ€™s domestic exchanges, e.g., Shenzhen and Shanghai); B-shares (trading on domestic exchanges in foreign currenciesâ€”and the least-common class); and H-shares (trading on Hong Kong exchanges). Outside a couple of narrow programs that offer limited access to A-shares, non-Chinese investors historically accessed mainland stocks via H-shares. However, China has started opening up. In 2018, index provider MSCI included A-shares in its Emerging Markets index (albeit, a relatively small weightingâ€”set to grow if China allows increased access to foreigners).
US investors can access shares of big Chinese firms via American Depository Receipts (ADRs, which are shares created to trade on US exchanges). A common concern Fisher Investments comes across: What happens if Chinese firms are forced to delist from US exchanges? However, delisting doesnâ€™t erase a companyâ€™s existenceâ€”companies can list elsewhere. Shareholders could also convert shares at small cost, if they choose. Most importantly, there is very little surprise power on this front: President Donald Trumpâ€™s mid-November Executive Order banning investment in Chinese companies with connections to the military made headlines, but it gives Americans a year to divest from existing holdings. That timeframe also assumes President-elect Joe Biden doesnâ€™t strike the ban two months from now. Given how large Chinaâ€™s economy is, in Fisher Investmentsâ€™ experience, many investors find it surprising that MSCI labels China an â€œEmerging Market.â€ However, the designation has more to do with the index providerâ€™s criteria for organizing different countriesâ€™ stock markets than a reflection of economic size and clout. Countries categorized as Emerging Markets are typically not as economically advancedâ€”and their markets not as openâ€”as developed markets like the US, Western Europe and Japan. Emerging Marketsâ€™ political institutions also tend to be more frail since the rule of law and property rights are shakierâ€”rulemaking (and enforcement) can be more arbitrary and less transparent than in developed markets. Media may also be under state control, further limiting transparency. In Chinaâ€™s case, some Emerging Market qualities do apply. Chinese markets arenâ€™t as open to foreign investment, due in part to stricter capital controls. Moreover, the CCP has a long history of intervening in the private sectorâ€”like starting and stopping initial public offerings (IPOs).
China is an integral cog in the global economyâ€”a role investors shouldnâ€™t ignore. However, investing in Chinese stocks warrants a selective approach, in Fisher Investmentsâ€™ view. Sector-driven holdings can make sense in a globally diversified portfolio (i.e., in a Tech-led bull market, ignoring large Chinese Tech and Tech-like companies invites a blind spot), though investors should also be aware Chinese capital markets arenâ€™t as developed as Americaâ€™s.
Investing in stock markets involves the risk of loss and there is no guarantee that all or any capital invested will be repaid. Past performance is no guarantee of future returns. International currency fluctuations may result in a higher or lower investment return. This document constitutes the general views of Fisher Investments and should not be regarded as personalized investment or tax advice or as a representation of its performance or that of its clients. No assurances are made that Fisher Investments will continue to hold these views, which may change at any time based on new information, analysis or reconsideration. In addition, no assurances are made regarding the accuracy of any forecast made herein. Not all past forecasts have been, nor future forecasts will be, as accurate as any contained herein.
[i] Source: World Bank, as of 11/11/2020.
[ii] Source: FactSet, as of 11/04/2020.
[iv] â€œChina to issue unified local, national GDP numbers amid data scepticism,â€ Staff, Reuters, 11/13/2019.
[vi] â€œChinaâ€™s manufacturing powerhouse Guangdong suspends PMI data release as numbers slide,â€ Staff, Reuters, 12/18/2018.
The Reuters editorial and news staff had no role in the production of this content. It was created by Reuters Plus, part of the commercial advertising group. To work with Reuters Plus, contact us here.