Get ready for a tidal wave of buying in Chinese stocks

Merryn Somerset Webb explains why pretty soon everyone is going to want to get their hands on Chinese stocks.

I wrote lastweek that for all the mutterings about booms and bubbles in China, it might actually be one of the best buys in the world at the moment. This view was met with a fair amount of sniffy scoffing from most mainstream analysts. They may be quite right in their sniffiness, but I was pleased to see a supporting view come out today from boutique research firm GavKal.

Right now, they say, it is "fashionable to make fun of China's roaring equity bull market by highlighting that it is driven by retail punters who care little for valuations, business strategies or management quality." But to look at it like this is to rather miss the point.

Subscribe to MoneyWeek

Become a smarter, better informed investor with MoneyWeek.

I have pointed out the parallels between the Japan of the 1970s and 1980s and the China of today several times before, but GavKal make another point on the matter. They see the "single most important long-term financial development" globally as the internationalisation of the renminbi, a process that "is now going into overdrive" given that the International Monetary Fund (IMF) is soon to vote for renminbi to become a special drawing rights currency.

This could be seen to neatly parallel the liberalisation of the yen after 1980: it was made fully convertible, a change that pulled hugely underweight global investors into Japan and was one of the main drivers of the decade-long bull market that ended with seven of the top ten firms by market cap in the world being Japanese banks.

Advertisement - Article continues below

Move on to today and it is hard not to see the same happening with China. Right now its equities make up 0% of the World MSCI index and 1.7% of the MSCI All-Countries index. Ask any fund manager and he will tell you that he gets his exposure to China via global firms that do business there rather than from firms listed there.China may account for 15% of global GDP, but its companies make up an "inconsequential part" of most institutional portfolios.

But if renminbi usage grows further (it is already the fifth most used currency in Swift (Society for Worldwide Interbank Financial Telecommunication) settlements), China begins to embrace currency deregulation, and as a result, all index providers are forced to upgrade China's weight in global indices, "the wave of 'forced buying' of Chinese equities could end up being a tidal wave which sweeps away the very idea of index investing".

Right now, everyone outside of a few Chinese retail investors, everyone is "short/massively underweight China", or at the very least will be once global bond and equity indices start to reflect the reality of a China more open to foreign investment flows. That can't last.



Investment strategy

Beware the hidden risks when investing in emerging markets

Emerging markets look cheap compared with developed countries, but earnings may be less trustworthy.
23 Dec 2019
Emerging markets

Emerging markets: buy when the news is bad

Emerging markets are being squeezed by local turmoil and by more general factors. But bad news can spell opportunity for investors.
5 Nov 2019

Emerging markets bounce back after a miserable few months

Investors in emerging markets have been enjoying some long-awaited relief after a miserable few months.
13 Sep 2019
Emerging markets

Strong dollar squeezes Asian markets

Trade war uncertainty means that the MSCI Emerging Markets Currency index is on course for its worst month since May 2016.
30 Aug 2019

Most Popular

Stock markets

Here’s what really matters for markets in 2020

The current geopolitical turmoil is making headlines. But it isn’t particularly significant for investors, says John Stepek. What matters more is how …
10 Jan 2020

Mindfulness and wellbeing: the relentless, creepy rise of the enforced happiness industry

The evidence suggests we’ve never been richer or healthier, yet we are always being told how stressed and discontented we are. Jonathan Compton assess…
9 Jan 2020

A look at the state of Iran’s feeble economy

The Islamic Republic is a big player in regional geopolitics, but its economy is weak, its people in revolt and its enemies growing bolder. Simon Wils…
11 Jan 2020

UK property prices are in the doldrums

House prices barely rose in 2019. Good news, says Nicole Garcia Merida.
9 Jan 2020