Sponsored article: Hayden Briscoe looks beyond equities to see why investing in China is such an attractive proposition.
With the advent of local government pension scheme (LGPS) pooling, we observe that LGPS member funds have an increasing array of asset classes open to them that, historically, they may not have considered or been able to efficiently access.
New opportunities do, however, need to be researched, reviewed and fully understood. One area where we see increasing interest is China. Over the last number of years we have spent time with investors eager to learn more about this potentially huge market opportunity and we are now seeing LGPS pools and member funds allocating to the China equity market.
The China story does not end with equities and globally we are also seeing interest from investors eager to learn more about fixed income opportunities in China.
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With interest rates across major economies at all-time lows or even negative, pension schemes are also looking at the role fixed income plays in their portfolios. Investors are exploring if there are ways to boost income without exposing themselves to undue risks.
Could an allocation to the China fixed income market help with this conundrum?
The growing China onshore fixed income market offers attractive yield potential and diversification advantages over traditional fixed income allocations, particularly in the government and policy bank sectors.
Megatrends
Several megatrends also strengthen the investment case for China fixed income: the rise of RMB as a reserve currency, the growth of China’s pension industry and the influence of China on the world economy.
Market size
China’s onshore bond markets have grown to become the second largest in the world, overtaking Japan, and reaching USD 15 trillion at the end of October 2020.
Attractive yields
China bonds offer superior yields against most global government bond benchmarks, and we expect this to continue to be the case given the differences in China’s monetary policy regime versus the rest of the developed world’s.
Low volatility
China’s bond markets have been markedly less volatile than those of global markets: largely because the China domestic bond market is dominated by domestic investors and the China banking sector holds a large part of the bond market – two factors which are unlikely to change in the near-term.
Low correlation
The asset class provides diversification benefits against global asset benchmarks. China’s economy and policy cycles are not as directly influenced by US Federal Reserve policies or volatility in the US banking sector, as some other developed economies are.
Safe haven properties
China government bonds have performed well during periods of volatility, which suggest that they have potential to serve as a safe haven asset for global investors.
RMB reserve currency
The inclusion of the RMB into the IMF’s Special Drawing Rights (SDR) basket of currencies in 2015 triggered expectations that the RMB could establish itself as a
reserve currency relatively quickly. The RMB is closing the gap with the Japanese yen and UK sterling and may become the third largest global reserve currency in the future.
Challenges
Nonetheless, for all of China’s progress, some challenges remain and LGPS investors need to navigate or work with an investment manager to understand the nuances of China’s corporate structures, linkages to the state and liquidity in some credit pockets.
As we expect the China credit markets to evolve rapidly, we encourage new investors to seek out solutions that offer relatively attractive yields without sacrificing on credit quality, and to take advantage of the defensive characteristics that are in short supply globally today.
Challenges like this reinforce the value proposition of local expertise and deep networks across China’s financial markets.
We believe that an established China presence can help cut through the noise surrounding China and help investors to access a strategic and essential part of a global asset allocation strategy.
Hayden Briscoe, is head of fixed income, global and emerging markets APAC, UBS Asset Management.
Photo by CHUTTERSNAP on Unsplash
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