Many internal and external factors are weighing on investor appetite for China’s stocks, and data from FE Analytics shows significant outflows this year from many of the funds that focus on the country.
However, Simon Edelsten, manager of the Artemis Global Select fund, warns that the macro threats may have been overplayed. "The one emerging market where valuations appear currently modest is China – a reflection of the level of concern about that economy," he said.
"Over the last decade – that is since the listings of many large Chinese state companies in Hong Kong – disaster scenarios for China have appeared almost every year."
"It is a shame that the professional disaster theorists chose the one economy which has proven stable during a decade where most other economies have crashed."
"This week's Chinese GDP data suggests the economy may grow at only 7.5 per cent this year. We regard this as a perfectly healthy growth rate for a maturing economy where valuations are modest."
The Chinese market has suffered in recent years, performing more poorly than the disappointing MSCI Emerging Markets index.
Data from FE Analytics shows that over three years, it has made only 2.41 per cent, while the broader index has made 9.17 per cent.
Performance of indices over 3yrs
Source: FE Analytics
Expectations of slower economic growth in the future have helped hold back Chinese stocks, but slowing growth is only one of the headwinds facing it.
There are increasing fears that the growth of credit in the country may have gone too far, with some experts warning of the potential for a financial crisis.
Devan Kaloo (pictured), head of the Aberdeen global emerging markets team, says that credit growth is his major concern about the country.
"Effectively, China has had to deliver fixed credit growth from weaker economic growth, so spending more to get less, which is not a good position to be in," he said.
"The single biggest issue is that policy makers are losing control of credit growth."
Kaloo points out that the total social funding – taking into consideration non-bank lending – is growing at a faster rate than official bank lending.
The authorities are trying to reduce the rate at which funds are made available for borrowing, chiefly to cool an over-heating property market, he explains.
However, he thinks that there are reasons to be positive about the economy as a whole.
"One of the key things is exports, and one of the reasons economic growth has been lower than expected is exports have been weaker than expected."
"If you are expecting to see an economic recovery in the US, that bodes well for export-centred countries like China."
Kaloo also warns that investors should not be investing based on predictions of economic growth. He points out that a graph of stock market performance against GDP since the 1980s shows little correlation between economic growth and returns.
In fact, there have been negative equity returns on the Chinese market since the 80s, but huge economic growth.
Aberdeen Emerging Markets retains its highest country weighting to China/Hong Kong, at 16.6 per cent of the fund, while a 3.9 per cent in China Mobile is its second-largest position.
Edelsten also holds China mobile, saying its 800 million customers should produce much higher revenues as they start using smartphones for internet access.
Adrian Lowcock, senior investment manager at Hargreaves Lansdown, agrees that shares are cheap, and says that much of the bad news has been priced in.
"It is very popular to be negative on China at the moment," he said. "Concerns over the banking system and fears the Chinese leadership are not doing enough to manage the economic slowdown and avoid a crash are keeping investors away."
He says that another reason investors are being kept away is worries about transparency.
"It is difficult to tell exactly how well companies are doing or know the accuracy of the economic data being reported," he said.
Edelsten says this problem has been exaggerated.
"We should remember that UK national statistics are often revised dramatically in the year after publication – and our country is the size of one of China’s smaller provinces," he explained.
"State-owned enterprises generally have provided enough data for us to do our diligence; and while the banks use local definitions of what is or isn’t a nonperforming loan (NPL), the trend data we observe seems to have fitted the facts over time."
The manager admits there are risks.
"All this said, there are of course issues which should not be ignored. Capital does not move freely in China and the economy is prone to areas of oversupply and scarcity."
"Meeting growth in demand for electricity alongside increased car ownership has led to appalling pollution, especially in Beijing."
"The ageing population, combined with the one-child policy, gives the country a rapidly rising dependency ratio."
"Eliminating corruption has been prioritised by the new politbureau. But measuring and comparing this issue with other countries, including developed ones, is no easy matter."
"We shake our heads at territorial disputes with neighbours, but try not to take sides. However, the economy is still growing rapidly (if only around 7 per cent rather than 10 per cent) and inflation is currently subdued. Our approach has been to invest as if China were a fairly developed country."
Edelsten says he has recently invested in China’s largest jewellery chain, Chow Tai Fook, and holds Singapore-listed REIT CapitaMalls Asia, which owns shopping malls above railway stations in Chinese suburbs.
He has bought back into Hutchison Whampoa, explaining that Li Ka Shing has moderated the risks in his holding company after it over-invested in European mobile phones (3 Mobile).
He has raised the weighting in his £34m fund to 6 per cent of assets, investing profits made in the Philippines and Laos.
Lowcock says that investors should consider drip-feeding into funds that target China to smooth out the inevitable volatility, pointing out that it is always difficult to spot a catalyst for a reversal in market direction.
He suggests First State Asia Pacific Leaders, which has 35 per cent invested in China, or Aberdeen Asia Pacific, with 23.6 per cent.
"For investors wishing to take a more adventurous approach and that are able to tolerate a higher level of risk, then Jupiter China, managed by Philip Ehrmann, provides exposure," he said.
Data from FE Analytics shows that the fund has lost 0.88 per cent over the past three years, one of only six funds to do so.
However, over the past year it has recorded one of the best results in the sector, making 23.73 per cent as the MSCI Zhong Hua has made 15.64 per cent.
Performance of fund vs benchmark over 1yr
Source: FE Analytics
The five crown-rated Invesco Perpetual Hong Kong & China portfolio is more consistent, being the second-best performer over one, three and five years, behind the soft-closed First State Greater China Growth fund.
Both funds require a minimum initial investment of £500, and while the Invesco fund has ongoing charges of 1.7 per cent, the figure for the Jupiter fund is 1.83 per cent.
