Since the heady days of 1993 when China was the next great investment frontier, those who bought into the dream have been nursing considerable discounts on their investments. That is just one of the factors that has held back investment in China in recent years. The others factors are mostly structural. China has not made direct investing by foreign institutions easy: for example, they are only allowed to invest in China B shares, or in shares listed on overseas exchanges (H shares in Hong Kong or N shares in New York). As a result, there is a preference to only invest where western standards of reporting have been adopted.
That could all be about to change, according to Peter Batey, chairman of the China Index Fund (CIF). He belives we are about to enter the most significant growth period for the CIF since 1993. The CIF is promoted by Morley Fund Management and advised by Long Investment Management in Hong Kong. It was launched to help increase interest in mainland listed stocks.
The B share market, says Batey, whilst designed for foreign investors, has proved difficult for them to understand and this has contributed to a marked lack of interest and commensurate poor liquidity.
The CIF is investing in as much of the B share index as possible. Batey says there are 108 stocks and you would be able to buy about half of them, given liquidity limitations and levels of
Tracking error, although significantly greater than you would be happy with in a developed market index fund, is not excessive for such an immature and inefficient market as China. By their own admission, the managers did not succeed in catching the bottom of the market when they launched the fund in 1997. It has since suffered substantial reductions in value, but has recovered to now trade at little over 10% discount to its launch price.
Most of the money invested is CGU money but Morley is now looking to market the fund to institutions who would like to have China exposure without taking on the additional stock selection risk.
Currently China Bs trade at a 75% discount to A shares. But Batey believes there are major changes afoot, including the probable merger of the A & B share markets. The B shares market is worth just $4.6bn while the A shares are worth $300bn. There is the expectation that come the merger,B shares will shoot up to somewhere near A share valuations to better reflect their
Batey believes the Chinese now realise what they have to do to open up the markets to fresh capital: “The Chinese now have a commitment to long term growth – they have got over their hang-up about foreign capital and private capital.”
The government made some fundamental decisions about ownership of the economy, relinquishing state ownership and concentrating on the strategic industries such as agriculture and defense. Effectively this is privatisation talk, but that it not a word that you’ll hear in China, where it is known as ‘socialisation’.
For those who want index exposure, this is a suitable vehicle, but anyone who believes that a more selective approach is suitable might care to look at the one of the offshore China funds such as Dresdner RCM China Fund, HSBC Chinese Equity Fund, JF China trust or Schroder China. They have a broader remit, including in Hong Kong listed companies and, with the right choice of manager, the ability to benefit from a more bottom up approach, which in markets like these, has tended to be a more appropriate strategy.