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China exposure in your portfolio

If your portfolio does not currently have any exposure to the China market, it probably makes lot sense for you to start considering doing so.

And there are many reasons behind it.

China's economy is growing faster than expected. In this recent BBC article, it's expected that China's economy will begin to overtake the US economy by 2028. That is five years earlier than expected. The key reason behind this is due to how China handles the COVID-19 situation as compared to US. China has a reputation to react swiftly and strictly to any possible outbreak in the nation and is thus able to limit any possible negative economic impact to the country which might be resulted from the prolonged battle with the pandemic. In 2020, China is the only major economy to have reported economic growth. Growth for the full year is reported to be 2.3%. In contrast, US economy contracted 3.5% in 2020. The longer COVID-19 drags out, the more likely China economy will outpace the US economy and overtake it as the world's biggest economy. You definitely will not want to miss out on the possible upside in your portfolio if this is to happen.

In fact, there are a few well known figures in the investment world who believe strongly in the uprising of China. One of them is Ray Dalio. For the uninitiated, Ray Dalio is the founder behind the world's largest hedge fund, Bridgewater Associates. He has been very vocal about the growth of China and provides a lot of strong convictions behind the possible rise of China giving rise to a new world order in his new book "The Changing World Order". He believes that the China equities are undervalued and most people are actually underweight on China equities. And he's not the only prominent person to think in this way.

Paul Colwell, head of advisory portfolio group for Asia at insurance brokerage Willis Tower Watson, thinks the same way too. He finds that the current allocation of less than 5% of shares invested in China by investors globally to be too small. In fact, an allocation up to 20% is encouraged in preparation of a new world order. He brings up a good point that the potential decoupling of China and US if the world moves away from globalisation is a strong case to consider allocating some parts of your portfolio to China shares. Think about it. You probably do not want to have your portfolio fully on one major player while completely ignoring the other. A wise investor will probably expose his portfolio to both to enjoy the possible gains/upsides from it.

The new world order they have been talking about is slowly in motion. Many companies are considering launching their IPOs in the China market given the tightened restrictions and regulations against China companies in filing for listings in US markets. In 2020, Chinese companies made up half of the top 10 listings globally. Personally, that is certainly a sign that the demand for IPOs in China will remain high in the next few years. I won't be surprised if more than half of the top listings will be in China in the very near future. This clearly points to the fact that you shouldn't be ignoring China in your investment portfolio anymore if you are doing so now as more and more companies worldwide are clearly looking the other way.

Not only does having sufficient exposure to China shares prepares you for any potential upsides given the shift of new world order, it also allows you to balance your portfolio. In an article which I wrote for Seedly recently on taking a data oriented approach to your portfolio, I highlighted that one of the key steps in balancing your portfolio is to ensure that your holdings are not too strongly correlated to each other. If your portfolio is now made up mainly of US equities, I will think that it probably makes sense to start considering including China shares in your portfolio. If you are not a fan of buying individual stocks, you can consider ETFs such as iShares MSCI China ETF (NASDAQ: MCHI or HKG: 2801) This ETF provides you with exposure to large and mid cap China companies listed in China as well as outside China. If you run a correlation analysis (as shown below), this ETF has a correlation factor of 0.62 with SPY (S&P 500) and hence will certainly provide you with the diversification you need in creating a balanced portfolio if you only have US equities in your portfolio now.

(Source: Portfolio Visualizer)

And when you run a backtest comparing MCHI against S&P 500 (as shown below), you can see that MCHI actually had quite a good run recently as it has outperformed S&P 500 since June last year. Certainly something I will want to pay attention to when building my portfolio.

(Source: Portfolio Visualizer)

If you are looking at seeking alpha and prefer to build your own selection of China equities instead of buying a broad based ETF like MCHI, you may also like to consider Alibaba in your watch list. The recent events such as postponement of Ant IPO coupled with the disappearance of Jack Ma in the earlier months have actually somehow put a dent on its share price performance. However, I personally believe that the fundamentals of the company are still very strong (given what we have seen in the recent quarter earnings) and its current share price might not be doing the company full justice. More on this might be covered in a separate blog post.

All in all, do keep a lookout for the China market. It might change your life, well at least financially.

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