SUMMARY
At their lows last week, Chinese equities were more than 30% down from their February highs. The last three corrections of this magnitude were followed by decent returns over the next 12 to 18 months.
Investment strategy
August 3, 2021
Learning to stay the course
August 3, 2021
- Last month, our Global Investment Committee (GIC) continued on a path of gradually reducing aggregate portfolio risk globally. We made a net reduction of 1% in emerging market equities overall. Yet within this move, we added back a small overweight to China after the nation’s share markets had dipped significantly into the red for the year.
- That’s when the other shoe dropped. China’s broad equity market dropped more than 13% at the start of last week. Shares dropped as much as 31% from their February high before recovering slightly.
- The proximate cause of the rapid correction was a state decision in China to demand that private education providers operate on a non-profit basis. This led many, particularly foreign investors, to expect the same treatment for much larger parts of China’s economy such as the property and healthcare sectors.
- While recent actions from Chinese authorities have scared off foreign investors, their actions and statements argue for a continuation of competitive internationalization. National priorities within technology and clean energy seem highly unlikely to see similar treatment as the education sector.
- Locally-listed China shares have fallen to a trailing price/earnings multiple of 13X, or just above half the valuation of US shares on the same basis. China is at the center of the world’s most rapidly growing region, with the economic development powering an unprecedented surge of new middle class incomes.
- Since 2009, Chinese equities have returned 9.2% even after 2021’s decline, slightly exceeding 30% since February. In the past 3 corrections exceeding 30%, returns 12-months ahead have averaged 11%, and 17% after 18 months.
- For certain medium-risk portfolios, we recommend Chinese equities at a 5% holding level. To build more resilient portfolios, we have long argued for diversification from idiosyncratic country risks. Regionally-diversified equity portfolios have a history of stronger results than “home-only” portfolios when a crisis hits. For global investors, it’s important not to look backward at strong gains in markets, but forward when corrections present opportunity.
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