China frequently dominates headlines in the US and abroad. Pundits debate the implications of the country’s growing economic and geopolitical influence—both for today and the future. China’s global heft is undeniable, but a lot of noise accompanies that attention. To help investors determine China’s role in a globally diversified portfolio, here is a look at the relevant economic and political factors—as well as other considerations—based on Fisher Investments’ research.

According to the World Bank, Chinese GDP hit $14.3 trillion in 2019—trailing only US GDP’s $21.4 trillion. Some more complex measures indicate Chinese GDP actually exceeds America’s. Per the IMF’s purchasing-power parity-adjusted GDP—which aims to account for differences in factors like the cost of living—Chinese GDP exceeds America’s, since money goes further in the former. Yet this distinction has little meaning outside academic circles, as the country with the biggest GDP isn’t relevant for investors (nor does purchasing-power parity mean much when transacting across borders). What matters more, in Fisher Investments’ view, is that China’s huge economy is globally influential, and growth there boosts demand worldwide. As of early November, China generated 6.1% of MSCI World Index constituents’ revenue—the third-biggest country behind the US (46.8%) and Japan (7.2%). China is the S&P 500’s second-largest revenue source, at 5.8% (behind the US itself).

Politically, the Chinese Communist Party (CCP) runs the country’s one-party system. The CCP’s Central Committee is the Party’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 country’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 Investments’ 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 CCP’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 China’s economic importance, experts question the accuracy of the country’s official economic data. Given the centralization of political power and lack of checks and balances, data reliability is a major issue—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 China’s 31 provinces, in 2018, the sum of regional GDPs was $206 billion more than reported national GDP—a difference roughly equivalent to New Zealand’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 Guangdong—an export hub—in suspending a monthly manufacturing report due to “illegal surveying.”

In Fisher Investments’ view, questioning data is a fair and sensible practice—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. China’s widely reported transparency issues add a unique caveat, but that doesn’t mean investors should ignore China’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, China’s official numbers aren’t investors’ only source of information. Major global companies do business with China, and they report their findings on earnings calls and quarterly reports—providing a sense of general growth trends, if not the exact details. We can also get a read-through on Chinese exports via other nations’ trade reports.

In terms of stock market structure, mainland Chinese companies have three share classes: A-shares (trading primarily on China’s domestic exchanges, e.g., Shenzhen and Shanghai); B-shares (trading on domestic exchanges in foreign currencies—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 weighting—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 doesn’t erase a company’s existence—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 Trump’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 doesn’t strike the ban two months from now. Given how large China’s economy is, in Fisher Investments’ experience, many investors find it surprising that MSCI labels China an “Emerging Market.” However, the designation has more to do with the index provider’s criteria for organizing different countries’ stock markets than a reflection of economic size and clout. Countries categorized as Emerging Markets are typically not as economically advanced—and their markets not as open—as developed markets like the US, Western Europe and Japan. Emerging Markets’ political institutions also tend to be more frail since the rule of law and property rights are shakier—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 China’s case, some Emerging Market qualities do apply. Chinese markets aren’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 sector—like starting and stopping initial public offerings (IPOs).

China is an integral cog in the global economy—a role investors shouldn’t ignore. However, investing in Chinese stocks warrants a selective approach, in Fisher Investments’ 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 aren’t as developed as America’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.
[iii] Ibid.
[iv] “China to issue unified local, national GDP numbers amid data scepticism,” Staff, Reuters, 11/13/2019.
[v] Ibid.
[vi] “China’s manufacturing powerhouse Guangdong suspends PMI data release as numbers slide,” Staff, Reuters, 12/18/2018.

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