Will China funds and trusts continue their winning streak?

Hannah Smith explains why funds and trusts investing exclusively in China are enjoying a strong run of form.

China equity funds and investment trusts have been roaring ahead this year as the country’s economy powers onwards following recovery from the pandemic.

Figures from QuotedData show that the 10 best-performing investment trusts in net asset value terms (NAV) in January included five China and Asia-focused funds. These were JPMorgan China Growth & Income (LSE:JCGI), Baillie Gifford China Growth (LSE:BGCG), Fidelity China Special Situations (LSE:FCSS), Invesco Asia (LSE:IAT) and Pacific Horizon (LSE:PHI), all with NAV returns of 6% to 10%.

Meanwhile, FE Analytics data shows that six China and Asia funds were among the top 10 open-ended fund performers in January, including GAM MultiStock China Evolution, Invesco China Equity, and Guinness Best of Asia, all up around 9% to 12%.

The start-of-the-year data echoes the ongoing trend of China and Asia funds outperforming for some time. Over the year to 31 December 2020, the Investment Association’s China/Greater China sector returned 32.5%, while Asia Pacific ex Japan delivered 19.9%.

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So what’s behind this momentum for China and wider Asia, and can it continue?

Economy reopens

Although it was the epicentre of the Covid-19 crisis, China got the virus under control rapidly and has since benefited from the reopening of its economy. It is coming out of the pandemic stronger, and with a “flourishing” domestic equity market, QuotedData says.

“The measures that China took to bring its Covid-19 spread under control left it able to reopen its economy much faster than many other countries,” explains QuotedData’s head of investment trusts, James Carthew. “Its GDP numbers suggest that the economy grew by 2.3% in 2020, while most others were shrinking. That is obviously helpful for Chinese companies, which are also seeing recovering exports.”

Ben Yearsley, investment director at Shore Financial Planning, agrees the simple answer to China’s outperformance is that it was “first-in and first-out” of the crisis. “China is a totalitarian, Communist country, it can suppress things much more easily, and it has managed to suppress the virus and reopen the economy much more quickly so it’s ahead of the curve and that’s being reflected [in fund performance].”

China is also investing heavily in infrastructure, which is helping keep the economy ticking over, even if not all the projects being funded are worthwhile, Yearsley says.

Tech and consumption drives growth

Charlotte Richards, JP Morgan Private Bank’s global head of equity manager research, notes that the Chinese market is “the ideal environment” for stock-pickers because it is broad and liquid, but also inefficient, and this has helped active managers in China to outperform.

“Professional fund managers have been able to capture the opportunities and create value for investors,” she says. “The domestic financial market has been moving in the direction of more integration with global markets, meaning that now it is easier and cheaper for foreign investors to invest in Chinese stocks listed on mainland.

“Last year the median manager generated material positive results and top managers generated double-digit excess return over indices and ETFs.”

Exposure to technology and e-commerce, which performed incredibly well last year, helped drive the performance of many funds. “Successful portfolios were exposed to ‘New China’ and secular growth trends such as technology and internet-related themes, innovation and domestic consumption,” adds Richards.

What are the risks?

But what are the risk factors to be aware of for those drawn to the region? While investors might want to keep an eye on valuations to avoid over-paying for Chinese growth, the other important factor to consider is geopolitical risk. Relations between China and the international community are strained over issues such as China’s treatment of its Uighur Muslim population, and a ban on Huawei’s involvement in 5G infrastructure in some countries due to spying fears.

“There may be no let-up in the geopolitical war of words between China and its near neighbours, and China and the West, and there may be signs of ever-increasing state interference in its economy, but investors seem to be following the money,” adds Carthew.

Although a lot of easy gains may have been made last year, there are still strong secular growth trends underpinning China’s stock market performance that look set to continue, so investors who have not yet tapped into this story in their portfolios still have time.

“I'm a bull of China and Asia long term,” says Yearsley. “With its population, its dynamism, and the growing middle class - all the old stories are still true.”