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14 November 2024

This month’s chart is a reminder of why investors have concluded ABC – Anything But China. The MSCI China index has underperformed the S&P 500 by 114% in the last five years and by over 200% in the last decade. The index is on a three year losing streak.

Since 2013, when Xi Jinping was first elected president, the Chinese economy has grown by around 90% in nominal terms. Shockingly, over the same period, the earnings per share on the MSCI China is down 10%. The index is essentially flat since 1995, though with periods of extraordinary volatility.

‘Capitalism with ~~communist~~ Chinese characteristics’ has been light on the capitalist bit.

China’s economy has struggled to recover from covid lockdowns and the debt fuelled excesses of investment in fixed capital and property. However, in September, the stimulus engine roared back to life. Beijing unleashed rate cuts and infrastructure spending, and the People’s Bank of China slashed the reserve requirements for banks.

Perhaps the most telling policy? A lending facility specifically to finance stock buybacks and an easing of margin loan requirements. The authorities have realised that to save China’s economy, they might have to save the stock market first.

This is new, and it isn’t about small tweaks. Critics might decry a centrally planned economy, but when the Party says it’s time to grow, things happen fast. There is precedent: this is exactly what happened in the Chinese market in 2015 when at one point the Shanghai Shenzhen CSI 300 index rallied 150% thanks to official encouragement.

So is China the best contrarian allocation nobody is making? Most fund houses are specifically launching ex-China funds because nobody wants the exposure.

We have around 5% of the portfolio allocated to Chinese equities. This is the ugliest duckling in our portfolio of ugly ducklings.

For many people China is now ‘un-investible’, much like the yen in the early 2000s. This is music to our ears, as it suggests investors are taking a closed-minded approach – surely there is a price for everything? For example, China’s tech giants trade at about one third of the valuation of their US equivalents.

The risks are well known: decoupling and strategic competition with the US (Trump’s tariffs), Xi’s potential plans for Taiwan and the exclusion of Chinese markets from global capital.

But our comfort here is twofold. Firstly, if the bad outcomes materialise, we believe the rest of the Ruffer portfolio is well set. What do oil and gold do if Xi invades Taiwan? How do credit spreads, volatility and equity downside protections perform in that scenario?

Secondly, as a global investor, you are long China anyway, but at much higher valuations. Starbucks, Tesla, LVMH and NVIDIA are all China plays. Isn’t it better to get intentional exposure at much lower prices?

In any case, we think the picture is rosier than it appears. China is enjoying earnings upgrades. Equity valuations are extremely low. Sentiment is dire.

The recent volatility has spooked investors. After a September surge of 50%, the portfolio’s China ETF sold off 20% quickly in October before recovering slightly. This has only reinforced the stereotype that China is a casino market, not for sensible capital allocation. The brief surge of Western investor interest has disappeared. Goldman Sachs prime brokerage reports that almost all of the buying after the September policy pivot has already been sold, leaving net exposures back towards five year lows. Investors have re-learnt their ABCs.

We believe you make the most money when a situation goes from awful to merely bad, rather than when something goes from good to great. To summarise the setup: an asset class some investors refuse to own, terrible sentiment, rock bottom valuations and now policymakers are trying to put a floor under the market and giving it some positive momentum. In our view, that’s a compelling case for this calculated risk.

#China, #inflation

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Piers Wheeler

Director – Institutional

T +44 (0)20 7963 8258

Developing and executing asset management strategy for capital raising and strategic relationship management. Coverage includes EMEA, Asia and Australia. Piers joined Ruffer in 2021, having previously worked with asset management firms including Eastspring, AMP Capital and LEK as a strategic consultant. He holds a MA from the Bayes Business School and a BA (Hons) from the University of Oxford.

Annabel Paterson

Senior Associate – Institutional

T +44 (0)20 7963 8123

Joined Ruffer in 2021, having graduated with a first class honours degree in land economics from the University of Cambridge. After two years working with the UK Private Wealth team and completing her IMC and CFA Level I qualifications, she now supports Ruffer’s global business development and client servicing efforts.

Articles by Annabel

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