Corner Office Views | Q2 2022

China-Oriented Funds in Europe: What Future?

Appetite for China-oriented funds by European investors grows but remains mixed

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Key Points

  • A majority (54%) of asset managers expect their clients to increase their exposure to the country over the next two years.

  • Several managers told Cerulli that many investors around Europe have started to view China as a standalone asset class.

  • A majority (74%) of surveyed managers said their clients believe that allocations to China are a vital element of portfolio diversification.

Authored by

Fabrizio Zumbo

Fabrizio Zumbo

Director

Bio →

Fabrizio Zumbo

Fabrizio Zumbo

Director

Fabrizio leads the European Retail/Wholesale Asset Management research practice, which focuses on analyzing asset management product development trends, investment, operational and marketing strategies, market and distribution dynamics, regulatory changes, and performing market and competitive intelligence in the United Kingdom, Continental Europe, and the Nordics.

Prior to joining Cerulli, Fabrizio served as a Lead Industry Analyst at State Street in London and as a Senior Analyst & Research Editor for the PwC’s Global Market Research Centre in Luxembourg. Previously, he carried out several field-based research projects in emerging and frontier markets for international market research and economic consulting firms, spending almost five years performing economic and industry analyses in several countries in Latin America, Africa, and the Middle East.

Full biography here.

Mixed appetite

Last year, the Chinese government made a series of interventions in sectors including education, e-commerce, real estate, and gaming. These interventions and the negative market reaction—the MSCI China index fell 21.6% in local currency terms in 2021—will have unsettled investors around Europe. Nevertheless, investors across the region have been seeking recently to increase their exposure to China against a backdrop of rising inflation and other macroeconomic headwinds, which are forcing investors to diversify their portfolios into more return-enhancing strategies.

In this regard, Cerulli’s survey of asset managers operating across Europe found that 74% of respondents think that exposure to China is vital for investors to achieve adequate global portfolio diversification. In addition, 71% of respondents said that their clients have increased their exposure to China over the past two years and 54% expect their clients to increase their exposure to the country over the next two years, as shown in the exhibit to the right.

However, various obstacles are still deterring European investors from making further capital commitments. For example, 68% of the managers we surveyed said that China’s ESG record is preventing clients investing in the market. In addition, 65% of asset managers identified the lack of adequate reporting by corporate and sovereign enterprises as another barrier to investment. Manager opinion on current and future demand for China funds remains mixed, with ongoing geopolitical tensions another concern for investors.

Standalone asset class

Several managers told Cerulli that, in addition to focusing on specific themes, many investors around Europe have started to view China as a standalone asset class, drawing similarities with the way Japan is often split from the Asia-Pacific region. However, Cerulli expects the process of China becoming its own asset class to be gradual. According to an investment boutique operating in Europe, many investors in Europe are comfortable allocating a certain percentage of their portfolios to emerging markets generally but are more reluctant to invest directly in China specifically, despite its significance in emerging market indices.

Cerulli expects the process of China becoming its own asset class to be gradual.

One of the key reasons investors want to separate out China is its growing influence in global markets. In fact, China went from contributing a 17.3% share to the MSCI Emerging Markets index in 2010 to contributing 33.6% by the end of last year, which is actually below its 39.1% peak in 2020. The head of sales at a mid-sized asset manager in the U.K. told Cerulli that he expects China’s share in global indices to increase further as the market continues to open up to outside investment. China introduced its first Foreign Investment Law in 2020, promising foreign enterprises treatment on par with domestic enterprises, for permitted investments. At the time of writing, China represented just 3.7% of the MSCI All Country World Index and Cerulli expects many investors in Europe to begin to see the Chinese market as too big to ignore.

When it comes to demand from European investors, around one in three of the managers Cerulli surveyed across the Continent is seeing strong demand from clients for Chinese A-shares (35%), H-shares (35%), and foreign-listed Chinese equities (30%), as shown in the exhibit below.

In addition, 42% of respondents are seeing moderate demand for onshore Chinese bonds and 37% are seeing moderate demand for offshore fixed-income funds. More than half (51%) of the managers Cerulli surveyed expect demand for Chinese equities listed abroad to increase over the next 12 to 24 months; 40% expect demand for A-share-based strategies to increase and 36% expect demand for H-share-based strategies to increase. However, 54% of respondents expect demand for Chinese A-shares to stay the same over the period and 54% expect appetite for real estate to remain unchanged. In addition, 43% expect growing client appetite for onshore Chinese bonds and the same proportion expect demand to stay the same.

Looking ahead, more than half (54%) of the managers Cerulli surveyed expect their clients to increase their allocations to the Chinese market over the next two years. And managers are readying themselves to take advantage driving more activities to product development efforts. Around 57% of respondents plan to launch China-focused funds in the next 12 to 24 months. However, barriers to investing in China still exist, making some investors reluctant to fully commit their capital. For example, 66% of manager respondents said that concerns around the real estate sector will continue to disturb inflows, at least in the short term. The perceived lack of transparency in China is another source of concern for investors with the managers Cerulli surveyed saying that a shortage of high-quality corporate and sovereign data is a deterrent for European clients. In addition, according to our research, ESG standards in China are considered by European managers underdeveloped compared to those in Europe, which represent a concern for European investors.

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