A regulatory crackdown by China, alongside nervousness around Covid and low vaccination rates, caused emerging markets to experience a significant fall in July – down 7 per cent in US dollar terms.
The regulatory squeeze began last November as watchdogs torpedoed the initial public offering of Alibaba’s fintech business, Ant. This would have been the world’s largest ever IPO, so the last-minute obstruction by the government was significant. Share price jitters continued into 2021 as China initiated a number of investigations into the monopolistic practices of big-tech.
However, things really came to a head in early July as China suspended app downloads of newly US listed Didi Chuxing – China’s ‘Uber’ – citing data-sharing concerns, which caused its shares to plunge.
Next in the crosshairs were formerly high-flying Chinese-listed education companies with the announcement they needed to become non-profit organisations because of fears their high costs were one of the reasons putting off Chinese parents from having more children.
Tech companies such as Tencent and Alibaba continued to fall and were joined by food delivery company Meituan, after it received criticism from the regulator, calling for improved conditions for its drivers and other workers.
No revolt against capitalism
So, what does this all mean? Well, while this action certainly upset market participants, this is not a revolt against capitalism and it is not without purpose.
The concerns of Chinese regulators are namely:
- The size of tech companies
- Their market power and alleged anti-competitive practices
- Control of consumer data more generally
- Education quality
- The fair treatment of workers and getting kids off screens
These mirror those of regulators – and parents – around the world.
As an investor, it is also important to understand that there are essentially two distinct Chinese equity markets: the domestically listed (onshore) A-share market and the offshore markets that include companies listed in Hong Kong and the US.
It was the offshore market that was particularly hard hit in July, down almost 14 per cent in dollar terms over the month versus the 5 per cent fall of the domestic A-share market.
A useful overview of the offshore Chinese market is given by the MSCI China Index. It is these companies that also tend to dominate the top 10 of the MSCI Emerging Markets Index and so were a big factor in its fall.
As well as having proved more resistant to the recent falls, the domestic A-Share market, represented by the MSCI China A Onshore Index, is also a lot less concentrated. For example, the top 10 makes up only 20 per cent of the index versus more than 43 per cent in MSCI China.
As a result, portfolios tilted towards the A-Share market will have fared better than those focused on the harder-hit offshore market.
In our view, domestic China offers the better opportunity for growth of the two markets, but also more opportunity for active managers given it is less well researched. It also offers more scope to diversify, given its lower weighting in most emerging market funds.
Perhaps more intriguingly, what is happening in China may have wider implications. Given that the concerns of Chinese regulators are shared by those elsewhere, it may be wise for investors to review other markets and consider how some of the often expensive companies there could be vulnerable to some form of regulatory pushback.