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With a global slump taking place and commodities in retreat, many analysts are questioning whether the end of the Summer Olympic Games in Beijing will signal a prolonged slowdown in China's growth.
One of the players in the Chinese exchange-traded market is AlphaShares LLC. The investment firm runs private accounts for institutions and provides indexes targeted to global and China-based stock strategies. So far, two ETFs are using AlphaShares benchmarks: the Claymore/AlphaShares China Small Cap ETF (AMEX: HAO) and the Claymore/AlphaShares China Real Estate ETF (NYSE: TAO).
Kevin Carter, CEO of AlphaShares, spoke recently with IndexUniverse.com's Managing Editor Murray Coleman about China and its role in an investor's portfolio.
IndexUniverse.com (IU.com): Will China slow now that the Olympics are over?
Kevin Carter (Carter): China is already slowing. Nobody expects them to continue at a 10% GDP [gross domestic production] growth rate forever. Four of the world's five largest economies are threatening recession. China is not, although it will certainly slow from double-digit rates in the past.
IU.com: Some analysts are blaming a slowdown in commodities on China, aren't they?
Carter: Yes, but China's thirst for natural resources is still growing. They've still got a lot of people living in the countryside, and it'll be that way for another 20 years. It's been estimated that about 500 million people in China are either underemployed or unemployed. So in terms of construction, it's staggering the number of roads and airports and infrastructure still left to be built as income levels rise.
IU.com: But China's growth will be uneven, won't it?
Carter: It's a volatile market. The stock market in China makes swings of 5% or more several times a quarter. As Burton Malkiel, our chief investment officer, likes to say, China's even more volatile than Brazil, which is usually considered the poster child for volatility. Look at what's going on right now. A lot of people thought the Chinese stock market would rally right up to the Olympics and then fade afterwards. But it hasn't happened that way—China's been the worst market in the world so far this year.
IU.com: How do you invest in such a changing marketplace?
Carter: For the past 12 months, returns for Chinese stocks have been essentially flat. But within that time, they've had a huge run-up and then a huge fall-off. So it's certainly important to dollar-cost-average when dealing with stocks in that country.
IU.com: What other advice do you give to long-term investors about China?
Carter: Most people are underexposed to China. We estimate that most investors have about 1.5% of their portfolios invested in China. The way they get that is by putting something like 10% of their stock allocations into a broad emerging markets fund. Within that fund, counting Hong Kong, about 14% will include China. So that's how we get to the 1.5% figure that a typical investor may hold in Chinese stocks.
But consider that last year China had between 5-10% of the world's GDP, depending on how you measure it. But here's the kicker. About 30% of the world's GDP growth came from China. So that's our message. China is the biggest driver of world growth and most people are underweighted.
IU.com: How much do you recommend is appropriate in China?
Carter: We'd say at least 5-10% of your total stock portfolio. If you're a growth investor, probably more.
IU.com: Isn't a small-cap Chinese ETF a pretty volatile fund?
Carter: Not particularly more volatile than other Chinese ETFs. If it's got China in the name, you're going to be seeing a fair amount of volatility no matter the size. And they've all had a tough year, whether they're large-cap or small-cap focused.
IU.com: What's the attraction of breaking the Chinese stock market up by size?
Carter: A couple of things. Smaller companies tend to have less government ownership. And they tend to be more entrepreneurial in nature. If you look at our small-cap index compared to the iShares FTSE/Xinhua China 25 Index (NYSE: FXI), it's a much broader index. FXI has 25 mega-cap stocks. The other ETF available, the SPDR S&P China (AMEX: GXC), includes all of the stocks in the market. But the mid-caps and small-caps get diluted. In most cases, the government owns most of the stocks in both FXI and GXC.
IU.com: How do you screen for small-caps in your ETF?
Carter: We screen for companies with market-caps of $200 million to $1.5 billion. Then we use liquidity screens. At the end of June, the index had 122 different stocks. Then, we weight each by market-cap size.
IU.com: How does the Chinese real estate market compare with other parts of the world?
Carter: It doesn't have a real estate investment trust structure. So there aren't any REITS like we see in the U.S. Basically, in China, they're mainly developers and management companies. Before building, they acquire land from the government by obtaining long-term leases. There are 40 or 50 different developers in our index and they're doing all sorts of projects. But the Chinese real estate market has slowed down this year along with the broader market. Interestingly enough, real estate prices haven't dropped nearly as much as the stock market. And it has a lower correlation with Chinese equities and U.S. equities. So we look at TAO as a diversification tool.
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camquin
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