European investors have shown renewed interest in China equity funds since Beijing announced it was abandoning its zero-COVID policy, with Europe-domiciled mutual funds and exchange-traded funds (ETFs) in the China equity sector witnessing net inflows of €5.8 billion over the first four months of 2023.¹ However, investor enthusiasm for the China trade has diminished, according to the latest issue of The Cerulli Edge―European Monthly Product Trends.

Flows into Europe-domiciled mutual funds and ETFs in the China equity segment were relatively strong during the first three months of 2023, totaling €3.6 billion and €1.2 billion in January and February, respectively, but in April they registered just €380 million of net new money. Fund selectors also reported pent-up demand at the start of 2023: 42% of the UK wealth managers and private banks expect increasing demand for emerging market equity funds, compared to 29% anticipating increasing demand for developed market equity funds.

Amid the diminishing flows, European investors in China equity funds favor active vehicles. In contrast, the region’s investors in global emerging market equity funds opted for the passive route. Six of the 10 bestselling China equity funds during the first four months of 2023 are active mutual funds, whereas just one of the 10 bestselling global emerging market equity funds during the same period is an active mutual fund.²

“The mixed outlook for China has arguably strengthened the case for active management, with investors believing they will benefit from more selective and flexible stock picking,” says Fabrizio Zumbo, director, European asset and wealth management research. “Another trend has been the popularity of funds investing in China A-shares. These onshore equities are more domestically focused and less likely to be impacted by US-China tensions.”

Investors seeking broader emerging market exposure have predominantly been buying into ETFs.

Disappointing economic reports are partly to blame for weaker investor appetite in the short term. China’s manufacturing sector returned to a state of contraction in April due to both lower domestic and export demand for Chinese goods. A potential longer-term headwind for China is encapsulated by terms such as “reshoring,” “friend-shoring,” and “de-risking.” Governments and industries in Western countries are looking to shift production closer to home, factor in geopolitical allegiances in decisions about trading partners, and strengthen intellectual property protection relating to new technologies.

“Future investor appetite for China equity funds is uncertain and could hinge on geopolitical developments, if not the direction of economic forecasts. Investors approaching this market are increasingly doing so with caution,” notes Zumbo.

¹ Source: Morningstar

² Source: EPFR