After crashing 20% in 2018, the MSCI China index has soared 12% higher already this year to 19 February, as investor sentiment was buoyed by a more accommodative US Federal Reserve, liquidity injections by Chinese policy makers and amid optimism that the US and China might settle their trade dispute.
MSCI’s likely announcement of A-share inclusion in the emerging market index, bringing weighting to 20% from 5%, provided an additional fillip. It could drive about $60bn of foreign fund flows into the market, according to UBS estimates.
The rally year-to-date underscores the comparative difficulty in investing in the China market, which has had years of boredom or negative returns interrupted by huge double digit gains:
Source: FE. Annualised calendar year returns for the MSCI China Index, in US dollars.
MSCI China volatility is unsurprisingly a standout — over three years annualised (to date), volatility was 19.78 compared to 12.58 for the S&P 500 and 11.39 for the MSCI World, according to FE data.
Funds with overweight positions in financials seem to have been the main beneficiaries of the 2019 rise in optimism. The cut in the reserve requirement ratio should support banks, by helping to accelerate credit growth.
The top performer over three years, with an 82% return, is the HS China Equity Fund. It has three financial sector positions in the portfolio’s top ten: China Construction Bank, Ping An Insurance and China Merchants Bank.
Financials appear to have boosted other funds as well. HSBC’s $1.15bn flagship GIF Chinese Equity Fund, managed by Mandy Chan, has overweight holdings in China Construction Bank, ICBC and Ping An Insurance, and has has delivered a 48.86% cumulative return over three years.
The smaller HSBC China Growth fund, run by Joy Yuan, has performed even better, achieving a 53.67% return over the same period and also buttressed by overweight positions in China Construction Bank, ICBC and Ping An. Its holdings in state-linked energy companies, China Resources Power and CNOOC, have further boosted performance amid expectations that an agreement might be reached between the US and China over trade tariffs.
Of course, China’s equity markets are notoriously volatile and the sharp rally in China share prices has caught some analysts by surprise.
“We now see limited upside from here and encourage investors to rotate into select sectors for better returns,” warned UBS in a recent note.
The bank prefers financials and traditional industries such as materials and infrastructure, rather than “new economy” stocks.
Top 5 China funds vs the MSCI China
Source: FE Analytics. Three year cumulative performance to February 20, 2019. In US dollars. NOTE: The MSCI China is used for reference only and not all featured funds use it as a benchmark index.