Is China making Asia Pacific too much of a risky play?


Investing in the Asia Pacific region, if you exclude Japan has hardly proved a profitable exercise recently. China, in particular, has proved a tricky area for investors, with signs of a serious slowdown mounting and increasing intervention by the authorities to calm what has been a volatile situation in the stock market. While Chinese shares have taken a tumble of a scale that equates to a bear market since June, overall it is still up usefully over the past year. However, investor confidence has been damaged and it is clear that planned reforms in the financial system have been delayed. 

Of course this region is not just about China, but the world’s second largest economy, worth around 15 per cent of the global total, does exert a strong influence on what goes on around the Pacific.

Take Australia as an example. With an economy heavily dependent on commodities, China’s slowdown has hit them hard. In a way this should have been easier to forecast than proved the case. The Chinese authorities’ response to the financial crisis that kicked in some seven years ago was to step up expenditure on infrastructure projects, thus staving off the worst effects of the global recession that followed. 

The considerable investment that China has undertaken in creating a world-class manufacturing base and the building of huge new cities, supported by first class road and high-speed rail systems, not to mention proper superfast broadband, could not continue indefinitely. Managing the shift to a more consumer-driven, service-related economy will be the challenge for policymakers in the years to come. In the meantime, the changes taking place to this vast and populous nation is upsetting sentiment, not just in this region, but around the world. 


What a contrast this is to the situation nearly two and a half years ago when I last cast an eye over the Asia Pacific ex-Japan IA sector. True, the Chinese market was proving tricky then as now, but double digit returns were commonplace among funds in the shorter term performance tables, with the six month average coming in at approaching 16 per cent, compared with a drop of not far short of 6 per cent in the six months to the end of May. Europe and the US were grabbing the headlines then, but the disenchantment with the emerging markets sector had only just started and confidence in the region remained high. 

There have also been significant changes in the make up of the performance tables, with Aberdeen still in the ascendant then, but hardly featuring today. First State, on the other hand, has demonstrated significant consistency, with its funds continuing to feature strongly. However, fund changes and moves between sectors make a direct comparison with the situation back in April 2013 somewhat difficult. There were 82 funds in the sector then and just 71 today, with only 67 having a track record of at least six months. In any event, it is to the future that investors should be looking. 

This is where it becomes tricky. While markets around the world have suffered over the summer from investor nervousness, brought about in no small measure by the uncertainties created in China, overall share values in many places remain not too far removed from the all time highs scaled by a number of markets earlier this year. The ability for disappointment thus appears high, with the ending of quantitative easing in the US, the many conflicts that continue, most notably in the Middle East and Ukraine, not to mention the fear of currency wars breaking out, led by China, all capable of upsetting sentiment. 

That said, the Asia Pacific region has suffered as badly as anywhere, so there is an argument for seeking the value that now exists there, given the expectation that this will prove probably the highest growth part of the world in the longer term.

However, with outflows from emerging markets over the past year or so approaching $1trn and several leading economists warning that China’s action in devaluing its currency could lead to future financial instability, investors could be forgiven for erring on the side of caution. 

Key Takeaway:

With China such an important component of this region, it is inevitable that the present uncertainties surrounding the world’s second largest economy should act as a dampening effect on sentiment. The continuing shift away from emerging markets by investors is also playing its part in lessening the short term attractions of the sector, but the longer term potential created by large, aspirant populations with a strong work ethic remain intact. Timing the entry into this sector, though, could prove particularly tricky.