Aaron Costello: Despite the negative sentiment toward China, we believe long-term investors should take a more comprehensive and systematic approach to investing in China, looking holistically across the portfolio, including global equities, Emerging Markets (EM) equities, hedge funds, and private investments.
Rather than delegating the China allocation to global or EM managers, investors should determine their own desired allocation level and consider adding dedicated China managers in both public and private markets.
"We believe long-term investors should take a more comprehensive and
systematic approach to investing in China."
Further, the public equity allocation should incorporate domestic A-share stocks, either via an A-share mandate or an All-China mandate.
This conclusion is based on China’s underrepresentation in global benchmarks, the quality of the public and private manager universe, and appealing public market valuations.
Celia Dallas: Unfortunately, there is no easy answer. It is tempting to simply look at China’s share of global GDP (16%) and assume it is an appropriate target.
However, we strongly advise against using such a heuristic, as there is no link between the size of an economy and its share of global capital markets or of investment portfolios.
In fact, the US economy’s share of global GDP has been steadily declining (from 34.9% in 1985 to 24.1% today), but its share of global stock market capitalisation has been rising and today stands at 54.4%, versus an average of 45.4% since 1980.
"It is tempting to simply look at China’s share of global GDP (16%)
and assume it is an appropriate target."
In the case of China, looking at the country’s share of global GDP overstates the size of the investable universe. At the same time, investors need to be aware that portfolios have both direct and indirect China exposure via global company revenues and other economic links to China.
For instance, FactSet calculates that China accounts for 9% of MSCI ACWI company revenues, much larger than China’s current 3.6% weight in the index.
Increasing direct China allocations without taking into consideration indirect exposure could result in portfolios becoming overexposed to ‘China risk’ broadly defined.
If investors are already meaningfully overweight EM or Asian assets—which have closer economic links to China—increasing dedicated China allocations may require scaling back existing EM or regional manager mandates, rather than simply adding direct China managers.
"We believe long-term investors should overweight China relative to its current
weight in market capitalisation–weighted global equity indexes."
Such an approach entails determining the target allocation to China and actively monitoring the actual allocation across the total portfolio—including dedicated China managers, as well as regional or global EM mandates across asset classes.
While there is no universally appropriate level of China allocation within a portfolio, we believe long-term investors should overweight China relative to its current weight in market capitalisation–weighted global equity indexes.
There is no magic number, but total portfolio allocations to Chinese assets of 5% to 10% seem reasonable, with some portion of this via dedicated China managers.
