China, Shanghai, Hong Kong & Alibaba
FXI is the largest and most popular China ETF in the market today, with more than $6 billion in assets. Its focus on China’s largest companies listed in Hong Kong resonates well with U.S. and global investors looking for exposure to China’s large-cap segment.
So far this year, demand for that type of exposure has been muted, to say the least—FXI has actually bled a net of $188 million in assets even as it rallied. The outflows could be a reflection of widespread aversion for emerging market exposure in general following two years of significant underperformance relative to U.S. stocks.
In fact, FXI has not been alone in its struggle to attract investor dollars. Some broad emerging market ETFs where China is the largest holding have also faced outflows year-to-date. The iShares MSCI Emerging Markets ETF (EEM | B-99) has seen $2.9 billion in net redemptions so far this year, while the Vanguard FTSE Emerging Markets ETF (VWO | B-85) has bled $374 million. But all that could be changing.
China’s finance minister said earlier this month that fiscal policies aimed at deleveraging the highly indebted country could be in the cards this year, as the country looks to prevent its slowing economy from stalling completely, according to Reuters.
If five-plus years of Fed monetary easing has taught us anything, it’s that equity markets like easy money policies. FXI’s ongoing rally seems to be another testament of that, and if policies do take hold in China, investor assets could soon follow the burgeoning rally in equities there
There’s also a view that the recent widening of the spread between mainland Chinese equities, also known as A-shares, and Hong Kong-listed stocks could be fueling some of the upside in FXI, and the uptick in trading activity. Investors may be rotating from one type of exposure to the other.
Consider that in the last 12 months, the Deutsche X-Trackers Harvest CSI 300 China A-Shares ETF (ASHR | D-53), which invests exclusively in A-shares, rallied nearly 89 percent. That’s almost twice as much as FXI gained in the same period, as the chart below shows.
Perhaps more importantly now, monetary policy has turned highly stimulative. This is always good for stock markets. And China, like many other Asian countries, has entered a triple-merit scenario of falling interest rates, stable currencies and rising asset prices
Explanations for the recent moves are actually more unusual and centre on a scheme for financial liberalisation which has allowed domestic Chinese investors to buy shares listed in Hong Kong, and in turn opened up the onshore Chinese market (‘A’ shares) to foreign investors.
What has happened
This ‘Stock Connect’ scheme to open up markets was announced in November 2014. Until then market access had been restricted, meaning that Chinese investors could only hold shares listed on the Chinese market (and foreign investing in China was restricted). As a result, companies which listed in both China and in Hong Kong could have the same shares priced very differently.
But the Stock Connect scheme was initially lop-sided; while any foreign investor could now invest into the onshore Chinese market (subject to quotas), only very rich Chinese individuals could invest in Hong Kong. Since that point, the onshore Shanghai Composite Index significantly outperformed the H Share market