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Avoid the Crowds in Chinese Stocks

28 February 2019

2 min read

Crowded Territory: Foreign Manager are Concentrated in a Few Large Cap Chinese Stocks

Foreign Ownership of China A-shares via Stock Connect

Historical analyses do not guarantee future results.
As of January 31, 2019
*Free float ownership based on Northbound securities, which are mainland-listed China
A-shares available for purchase by foreign investors through the Stock Connect program.
Source: Huatai Securities and AllianceBernstein (AB)

John Lin| Chief Investment Officer—China Equities

Stuart Rae| Chief Investment Officer—Emerging Markets Value Equities

After MSCI decided today to boost the allocation to Chinese onshore stocks in its emerging-market indices, global investors are likely to pump more money into the market. But watch out for crowds. Flows into China are concentrated in a small group of large-cap stocks.

Index provider MSCI announced that it would begin increasing the weight of onshore Chinese A-shares in its emerging-market and global indices through a three-step process in May, August and November. MSCI will boost the value of large-cap China A-shares in its benchmarks, forcing index funds to add to their positions. For example, in the MSCI Emerging Markets, A-shares will increase from 0.7% of the index to 3.3%. This will be done by quadrupling the inclusion factor for A-shares from 5% to 20% of each stock’s free-float adjusted market capitalization. Mid-cap stocks will also be added in November.

Chinese stocks have been popular in early 2019. The MSCI China A Index surged by 27.1% in US-dollar terms this year through February 25. In January, foreign investors pumped a record US$14.5 billion into China A-shares through the Stock Connect channel, according to Bloomberg. Investors increasingly believe that the onshore market has bottomed out after sharp declines in 2018.

Flows Focus on a Few Large Names

But where’s the money going? Our research suggests that foreign inflows through the Stock Connect channel are concentrated in a small number of Chinese stocks, mostly large caps (Display). In fact, only 117 Chinese A-shares have foreign ownership of more than 5%, while 1,480 stocks have foreign ownership of less than 5%. Those 1,480 stocks include many small- and mid-cap names that may be less familiar to foreign investors.

There are many good long-term investment opportunities in large-cap Chinese stocks. But naively following crowds can be risky, if sentiment and momentum toward popular positions reverse. We believe the Chinese market offers a world of opportunities in a diverse set of companies that are off the beaten path. International investors seeking to take advantage of China’s newly opened markets should make sure their asset managers have strong local knowledge of companies and industries as well as the capabilities and skill to capture the potential that’s being overlooked by the masses.

The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AB portfolio-management teams.

About the Authors

John Lin

John Lin is the Chief Investment Officer of China Equities. He has been a Portfolio Manager for AB China Equities since 2013 and for Emerging Markets Value Equities since 2021. From 2008 to 2022, Lin served as a senior research analyst, responsible for covering financials, real estate and conglomerate companies in Hong Kong and China. He joined the firm in New York in 2006 as a research associate, covering consumer services companies for US Small & Mid-Cap Value Equities. Previously, Lin was a technology, media and telecom investment banker at Citigroup. He holds a BS (magna cum laude) in environmental engineering from Cornell University, and an MBA from the Wharton School at the University of Pennsylvania, where he earned the distinction Graduation with Honors. Location: Singapore

Stuart Rae

Stuart Rae is Chief Investment Officer of Emerging Markets Value Equities since 2023 and Chief Investment Officer of Asia-Pacific Value Equities, a position he has held since 2006. He is also a long-standing Portfolio Manager for China Equities. Previously, Rae was CIO of Australian Value Equities from 2003 to 2006. He joined the firm in 1999 as a research analyst covering the consumer sector, initially working in New York and London before moving to Sydney in 2003, Hong Kong in 2006 and Melbourne in 2021. Before that, Rae was a management consultant with McKinsey for six years in Australia and the UK. He holds a BSc (Hons) in physics from Monash University, Australia, and a DPhil in physics from the University of Oxford, where he studied as a Rhodes Scholar. Location: Melbourne

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