How an evolving China is attracting ETF investors

The performance of China’s stock markets took many by surprise last year. Chinese equities were up significantly, as emerging markets more generally were.

Last September we produced a white paper which analysed the performance of China’s market in the first eight months of 2017 and assessed the longer-term prospects for Chinese stocks.

Although investors in the Chinese market crystallised gains towards the end of the year, the fundamental themes remain relevant going further into 2018.

One straightforward way for investors to access China’s stock market is via exchange-traded funds (ETFs). For ETF investors that already have China exposure, or for those thinking about it, the key question now is what the long-term outlook is for China and its stock markets.

While there are certain idiosyncratic risks inherent to investing in China, there are a number of positive drivers for Chinese financial markets. 

Economic trends

Macroeconomic stability has increased. Economic growth is more balanced as private consumption is now contributing much more to the economy.  

This trend is likely to continue as consumers are supported by solid labour markets, wage growth and high savings. While Deutsche AM’s expected China economic growth rate for 2018 is 6.5 per cent, this is anticipated to gradually decrease in coming years as the Chinese economy matures, although it will still be higher than developed economies. 

However, as economic growth moderates it should be also more sustainable, as it will be achieved with lower leverage and a bigger contribution from the private sector.

One of the most straightforward ways to access China’s domestic A-shares market is via ETFs listed in London and on other European exchanges. 

Ongoing reforms to liberalise capital markets should help to increase the overall efficiency of the economy and the corporate sector specifically as the country shifts more from state-owned enterprises (SOEs) to the private sector.

Meanwhile the Chinese government has started to address problems at SOEs by hiring private managers, allowing mixed SOE ownership and closing inefficient SOEs. The result is a more efficient SOE sector, which is partly reflected in the profit outlook for industrial companies.

Economic restructuring has already come a long way in China, and may be set to continue with increased scale and tempo. The Chinese state has taken steps to reduce industrial overcapacity.

This remains an issue in sectors such as steel and aluminium production, electricity and shipbuilding. Directed government actions could help to improve the situation further. The shutting down of excess steel and aluminium production capacity has led to a sharp recovery in base metal prices.