The number of Chinese listings domestically and abroad has grown rapidly in recent years, as has its share of emerging market equity portfolios. But the problem for international investors has been the Chinese equity market consists of numerous share classes with a history of restricting foreign investors. As such, the majority of them have historically only been able to access China via Hong Kong and overseas listings.
However, as the mainland China equity market continues to open to overseas investment, the ability for international investors to gain access to this large and growing market has become easier. Perhaps most notably, Chinese regulators have eased restrictions on foreign investment in China A shares, which were China’s first domestic equity listings and have grown to represent a considerable portion of the China equity market.
A key question has therefore emerged: Do international investors need to include China A shares in their existing China portfolios? This is perhaps best answered by taking a closer look at the A shares market size and composition. As shown below, the A shares market represents over half of the China equity opportunity set and offers investors a rich and diverse opportunity set in terms of industry representation.
The size and breadth of the A shares market might give investors good reason to consider including them in their China equity allocations. However, the data above also indicates that complete China equity representation can’t be found in A shares alone. This is because while A shares do provide broad exposure across various industries, there are some that are underrepresented. For example, the Oil & Gas and Telecommunications industries only comprise a fraction of the A shares market, with greater representation in other share classes. This suggests that a more complete representation of China can be achieved by aggregating the seven share classes.
If we compare the risk and return characteristics of each China equity share class, we find further support for combining the share classes for complete China exposure. As shown below, the volatility and performance of each share class has varied significantly over the past 12 years, and the combination of the share classes has resulted in improved risk-adjusted returns relative to the majority of the individual share classes. Diversification benefit is especially valuable given the historical volatile nature of Chinese equities.
This complete picture of the different share classes presents us with the potential benefits of a Total China Concept. By diversifying across all the different China share classes—rather than only including one share class of a company over another—we effectively capture the overall investable market capitalization of each constituent company.
Please download our Total China Concept paper to learn more about China’s evolving economy and how to best capture its changing equity market landscape.
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