China is set to enter the Year of the Dragon, but will its economy finally start roaring for investors?
China has delivered poor returns for investors as the country recovers from its strict pandemic policies and wider political and financial concerns.
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It has failed to live up to post-pandemic hopes of a recovery boom, with retail sales down, a declining population and a deepening property downturn that has been made worse by the recent collapse of property developer Evergrande.
The country posted GDP figures of 5.2% in 2023, described as sluggish by analysts.
Its latest inflation figures suggest China is stuck in a deflationary period, with its consumer price index down 0.8% annually for January.
It was the fourth consecutive month of decline and the largest since September 2009.
“This bad news could actually be good news,” says Josh Gilbert, market analyst at eToro.
“The result is further evidence that the economy needs support. There needs to be a big lift in demand in order to see China lift out of deflationary territory, and that needs to come in the form of a more aggressive policy stance.
“There is a risk is that we may not see that, which would further dent confidence, hold back spending and ultimately mean the rout in Chinese equities ensues.”
China has already been an absolute shocker of a market to invest in over the past few years, dragged down by property woes and concerns about the financial sector,” says Ben Yearsley, investment director at Fairview Investing.
“It was the value play last year. and just continued to get cheaper.”
Should you invest in China?
It has been a tough time to invest in the emerging market.
The Shanghai Composite Index is down 12% over the past 12 months and has declined by 4% since the start of the year.
One of the main risks of investing in China is its ageing society and falling birth rates.
But Vikas Pershad, portfolio manager, Asian equities for M&G Investments, suggests this may provide investment opportunities.
“Counterbalancing the heavy impacts of an aging society will require more than novel gadgets, products and services,” says Pershad.
“It will take better policies on immigration and taxes, more investment in physical infrastructure and changes in mindsets about what an aging citizenry looks like and is capable of accomplishing. It is worth remembering that, under the right conditions, the embers of old age can be reignited.
“That takes inspiration, a little time and some fire. Seems like a job for a dragon.”
Even the top-performing China funds have suffered recently though, due to a number of economic and geopolitical concerns denting investor sentiment, says Darius McDermott, managing director at FundCalibre
The majority of the funds in the sector are down more than 45% over the past three years, according to FE Analytics data.
"Investors are not only concerned about rising authoritarianism in Asia’s powerhouse, but also a whole host of risks looming over China's economy ranging from a prolonged property downturn to deflation risk and slowing economic growth,” adds McDermott.
“Indeed, in November, outflows of foreign direct investment in China exceeded inflows for the first time since tensions with the US escalated.
“The market fluctuations we have seen in Chinese equities just underscores how investors should view China as a long-term play.”
The Year of the Dragon is meant to be typically associated with good luck and fortitude and McDermott suggests now could be a good entry point.
"In 2023, China's domestic consumer and manufacturing confidence stabilised as pent-up demand for goods and services finally began to filter through to the economy,” he adds.
"This process has allowed the Chinese economy to normalise. While some sectors such as real estate continue to face stiff structural headwinds, targeted government stimulus is helping to revive the ailing economy.”
“We are likely to see the key drivers for the economy start firing in the Year of the Dragon. This will include a broadening of services consumption and the continued uptick in tourism.
"China remains a high-risk area, but there is potential for rich rewards for those with a long-term mindset.”
It remains an economic and political powerhouse and there are hopes that Beijing officials will step in to stimulate the economy such as with interest rate cuts, which could provide a boost for the stock market and investors.
“The contrarian in me says it’s a buy,” adds Yearsley
“There's only so long Beijing will put up with market lows and the knock on effect to consumer confidence. It is still the world's second largest economy and a huge stock market. The big issue is what will knock it from the bottom?”
China funds to consider
Yearsley suggests getting close to the Chinese consumer rather than state-backed enterprises.
He highlights the Matthews China Small Companies Fund, which is up 12.81% over five years compared with a 19.27% drop in the Greater China sector.
Its three-year performance is less impressive, down 50.39% compared with a sector drop of 50.85%
While recent performance for many funds has been poor, McDermott highlights that some funds have impressive 10-year returns.
For example, Allianz China has returned 193.6% over the past decade.
“The fund concentrates on the stocks of companies that are incorporated in China and that are listed as A-shares on the stock exchanges of Shanghai or Shenzhen,” he says.
“The Chinese A-share market is priced in Yuan and was originally restricted to domestic investors, so has a large retail investor base. The market’s size and inefficiencies present great opportunities for active funds like this one.”
Similarly, the Fidelity China Special Situations Fund has returned 120.91% over 10 years.
“Due to its bias towards smaller and medium-sized companies in a developing market, this trust is not for the faint-hearted and investors should be prepared for large fluctuations in the value of their investment,” adds McDermott.
“But those willing to take the risk could be handsomely rewarded over the long term.”
Marc Shoffman is an award-winning freelance journalist specialising in business, personal finance and property. His work has appeared in print and online publications ranging from FT Business to The Times, Mail on Sunday and The i newspaper. He also co-presents the In For A Penny financial planning podcast.
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