Duncan Lamont, Head of Research and Analytics shared his views and opinions on the topic.
China is woefully under-represented in investors’ portfolios, given the size of its asset markets and economy. However, improvements in access mean this no longer has to be the case. Index providers are responding and China’s weight in benchmarks is rising. Significant investor inflows are likely to follow – we project $200 billion into both local equity and bond markets in our half-way house scenario and $400 billion into each if they go further. How should investors respond? Benchmark providers are not masters of the universe and being governed solely by their moves in a market like China strikes us as illogical. The opportunity is alive today for investors who want to purse it.
China’s debt market is the third largest in the world at around 11% of the global market1, while its equity market is around 12% of the global universe2. However, only a small proportion of these markets is currently accessible to international investors. Chinese equities represent a mere 4% of the free-float-adjusted MSCI All-Country World Index and its external USD-denominated bonds barely half a percent of the Bloomberg Barclays Global Aggregate index (Figure 1). Meanwhile, its local RMB-denominated bond market, valued at over $11 trillion, has been excluded entirely from the main fixed income benchmarks.
The key reason that Chinese assets have been so poorly represented in major benchmarks is that the Chinese authorities have wished it to be so. Stringent regulations restricting foreign ownership of Chinese companies and tight currency controls made it incredibly difficult for international investors to access local Chinese markets. Chinese state motivations were grounded in a desire to maintain control and over genuine concerns about stability of the currency and economy if their markets were to be opened more fully. Until relatively recently, local Chinese asset markets were not easy to invest in and thereby failed a key test of a good benchmark. However, as described later, this is changing. This has been most notable in equities but significant progress is also now underway in the fixed income market. While benchmark providers have moved slowly to add Chinese assets, active investors are already able to access the opportunities available in these markets.
Figure 1: China is remarkably under-represented in global indices
The major global equity benchmark is the MSCI All-Country World Index; the major global fixed income benchmark is the Bloomberg Barclays Global Aggregate.
GDP data cover 2018 calendar year; share of global equity universe is as at 29 January 2019; share of global fixed income universe is as at third quarter 2018; weights in major equity and fixed income benchmarks are as at 31 December 2018. Source: Bank of America Merrill Lynch, Bloomberg, IMF, MSCI and Schroders.
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