China reported a 6.9% rise in GDP earlier this month. A number that solidly beat market estimates. However, Chinese stocks were lower. The government has been waging a campaign to reduce borrowing. Investors fretted over the possibility of even more steps being taken to squash out financial risks, creeping up in the economy.
The governments clamp down on lending is hurting small caps more than large caps. The small cap weighted ChiNext index has fallen about 14% this year. The large cap weighted CSI 300 is up 13%.
There is reason to be worried about the increase in borrowing in China. Total debt is at 260% of GDP. That number may seem large, but consider the United States has 330% debt to GDP. The Chinese government also has nearly 3 trillion dollars in reserves to handle any potential hiccups, resulting from the increase in leverage. Although, Moody's did show concern about The rise in Debt, and downgraded China in May.
A lot of the increase in leverage is being driven by domestic consumption. Mainly, people taking out loans to buy real estate. Last weeks GDP number was buoyed by manufacturing and exports. Domestic consumption was stagnant. A weak consumer, that is highly leveraged, does not bode well for future growth.
Despite the risks posed by higher debt levels, China is set to overtake the U.S. in terms of GDP by 2030. With the largest GDP in the world, China would dominate a lot of business dealings, internationally.
The IMF added the Yuan to its SDR mechanism last year. This, in my opinion, was a very big deal. It means the Yuan has a hand to play in international transactions. Granted, the U.S. dollar is 41% and the Yuan is about 10%. But getting their nose under the tent is important. I believe once China is the worlds largest economy, the Yuan will be more dominant in this basket of currencies.
The Chinese stock market is the second biggest in the world. 10% of the global stock universe are Chinese companies. Chinese stocks should be part of your stock market investing strategy.
Investing in China is a bit complicated, since shares are divided in to several types. There are A shares, which trade on the main land in the local currency. B shares trade on the main land, in foreign currency. Then, there are H shares, which trade offshore, in Hong Kong, in a foreign Currency. Red Chips, which are state owned companies incorporated outside the mainland and traded in Hong Kong. P Chips, which are non-state owned companies, incorporated outside the mainland and traded in Hong Kong. N Shares, which are Chinese companies incorporated outside the mainland and U.S. listed on the NASDAQ or NYSE.
The government limits who can invest in A shares. Only financial firms that meet certain requirements may do so. Therefore, these shares have a very limited amount of foreign ownership. Recently, Morgan Stanley announced that it will include over 200 A shares in their emerging market index. This is will be a small percentage, but it is a positive sign and one reason I believe A shares are the way to go, in regards to investing in Chinese stocks. A shares will also benefit the most, as China takes on more of a leadership role internationally. Mainly large cap A shares.
As I noted above, you can’t just buy A shares in your brokerage account. Only qualified investment companies can do so. Therefore, you will need to find an investment fund that qualifies and invests in Chinese A shares. I usually prefer to go with ETFs when investing in funds, because the fees are low and it is a good way to get exposure to a particular investment class.
There are three Chinese A share ETFs to consider:Deutsche X-trackers Harvest CSI 300 China A-Shares(ASHR), VanEck Vectors China AMC CSI 300 (PEK) and KraneShares Bosera MSCI China A (KBA). The MSCI China A, that the KraneShares ETF tracks is more broadly based than the CSI 300, which Deutsche X-Trackers and VanEck Vectors track.
The CSI 300 are the 300 most liquid A shares, that trade in Shanghai and Shenzhen. The MSCI China A index includes large cap and mid cap shares. I own shares in ASHR, and believe that is the best way to go here, since I believe that the large cap Chinese stocks are best positioned.
As the Chinese economy takes a larger role on the world stage, Chinese stocks are poised to outperform in the coming years. I like large cap A share stocks. You can get exposure to this asset class by buying shares of Deutsche X-trackers Harvest CSI 300 China A-Shares(ASHR).