China: A source for growth opportunities
Recording: Welcome to the Center for investment excellence, a production of JP Morgan Asset Management. The Center for investment excellence is an audio podcast that provides educational insights across asset classes and investment themes.
(Jeff Shields): Morning everyone. My name is (Jeff Shields), I’m a client advisor on our North America Institutional Team and really excited this morning or this evening and (unintelligible) to have (Eddy Wong), the CEO of China International Fund Management join us.
For those of you who are not familiar with CIFM, it's an Asset Management firm headquartered in Shanghai. It's a joint venture between Dick Oregon and Shanghai International Trust. It currently has approximately $26 billion of AUM.
JPMorgan announced it’s intention earlier this year, to purchase Shanghai International Trust stake in the business. And Eddy and team are busy completing the deal. And we look forward to welcoming the CIFM team as a full part of JP Morgan Asset Management later this year, early next year.
So first, thanks again, Eddy, for joining us. This is part of an ongoing series of calls that we've been doing. We've got a couple on the China growth opportunity. As you also know, a lot of our North American investors are at least considering new positions or adding to Chinese invested positions to both the private and public markets.
And while we get a lot of opportunities to talk about the growth story in China, it's really rare that we get an opportunity to have someone like yourself from a Chinese domestic investment business talk to us about the market structure investment trends, and you can provide our clients with kind of a framework with what's going on in China and how to best position their portfolios.
So with that, maybe we should start off and just - would you mind helping us, you know, tell us a little bit about CIFM and client base strategies history. Would you start there?
(Eddy Wong): Sure. Thank you, (Jeff). Good morning, everyone. My name is (Eddy) again, today calling from Shanghai, China. And maybe just a bit of my background. I actually came in from a JPMorgan background.
So I joined JPMorgan in 2005, spent over 10 years in Hong Kong, managing the Hong Kong in the China retail business. Then I moved to Taiwan and became the Chairman of JPMorgan as a management Taiwan for two years. And then I joined CIFM last year in June.
So it was my 15 months here in CIFM. CIFM basically founded in 2004, so roughly 16 years, as Jeff mentioned, our headquarter is in Shanghai. In total, we have four branches with around 330 stops.
With our - about 25, 26 billions of AUN just to have a feeling about what sort of the SSP have, our equity that will be accounted for roughly 30% of our AUN or fixed income will be about 15%.
Almost half of our UN would be accounted for money market fund, in which we are actually having the largest triple A rated money market fund here in China. And it has been a popular choice for a lot of the multinational corporations in terms of their cash management.
We just launched the MSCI China AETF. Earlier this year, in April, maybe you could talk a little bit more later about the ETF business. So besides equity and fixed income, some more traditional asset classes, we also have funnel funds. We also have a bit of a retirement solutions. We have absolute return strategies. And over the last one and a half years, I think the CIFM team has been doing a reasonable job in terms of having some decent, strong equity performance.
There was one broker who ranked CIFM number eight out of the 94 foreign firms here in China in terms of the overall equity capabilities. We are also obviously being part of JPMorgan, we are one of the leaders in terms of doing the cross border investment strategies.
When we say cross border, it’s just allowing Chinese investors to maybe invest in Hong Kong and on the flip side, allowing our Hong Kong investors to invest in China. So there are a couple of schemes that allow us to do that.
So to open up, Thank you, (Jeff).
(Jeff Shields): Perfect, thank you to the great setup, because I think one of the questions we get from a lot of North American investors, Canada and the US is about Chinese regulation, specifically financial services regulation. Help us understand for those of us that sit here in North America and are used to a regulatory scheme and compliance scheme, what's the differences in China and how do you view it's kind of evolution in the framework? Give us some background and some of your views having come from JPMorgan and knowing a lot about our world.
(Eddy Wong): I'll give it a shot, so bear with me because again, I've only been in China for 15 months. So I'm still learning and I'm really getting used to the regulatory environment outside China. So I could try my best to make a comparison here.
You know, I think that China public forum market here is still very young. I think the first public forum here in China launched in 1998. So it's still like a 22 year old market. And I feel like the regulation here, obviously, as (Jeff) mentioned, is quite different than the US given this emerging nature. My feeling is China's regulation normally (unintelligible) more conservative phases, and depends on the market situation, it will gradually open up. Also, when we try to compare the regulation between the two locations, I think the China regulations are a little bit likely in the more high level and generic.
So there could be times in actual business practice where there are some financial players who will develop some strategies or solutions, which are not forbidden by the regulators on paper, i.e. the gray areas to sort of attract clients. So there were times where the so called casual guaranteed product offered by banks, or this sort of products, that - you know that these products are not for long term and could be a bit risky.
And I think the regulator realized that. They are trying everything to sort of prevent these things from jeopardizing a healthy development. And we really wanted to try to create lower risk investment conditions.
So I think starting in 2018, two years ago, the local regulator very clearly introduced different policies. And one of them is to sort of phasing out this principle of profit guarantee products. This chunk of products accounted for a huge amount of the overall asset management in China.
So a lot of the firm's would be sort of eyeing at what is capital guarantee products money will go. So this could be one of the opportunities that the global firms and local firms could be eyeing yet. Another sort of small observation would be a lot of the foreign investor will be looking at the whole pie until (unintelligible) tremendous opportunities in China. I don't disagree to that. There are definitely a lot of opportunities in China.
But I think from a Western perspective, not only the pie, but also may be looking at the addressable pie. Addressable by meaning, like with the regulation, with the risk and control with the godliness, with the things that we have to take into consideration, then the pie will be a little bit smaller. And we know that the addressable pies should be the area that we should be focusing on.
So as (Jeff) mentioned, CIFM obviously with the US background, has been a leading position in terms of compliance and control among all the local competitors. So I guess when it comes to investing in China, be careful, do a lot of homework and try to choose the best partner that you can set up from the crux.
(Jeff Shields): Thanks, (Eddy). Helpful, I think, for investors to hear that, you know, another thing that we get asked a lot by clients is most of them are seeking the Chinese growth story.
And I think those attractive growth opportunities that you just mentioned in that addressable area - but one of the things that often comes up in these conversations is just really the public equity markets themselves. And this idea about who they're investing with, is it retail institutional capital? And how is that evolving? So can you help us think through where is the capital coming from in the public equity markets and who are the dominant players? Is it retail, institutional? How do you think about it?
(Eddy Wong): Sure. So I think over the last 10, 15 years, we've definitely seen more and more institutional players coming into investing Asia. To put it in perspective, I think, probably 10 to 15 years ago, the retail investors probably accounted for 90% of the market. And then in about 2015, I think it was 80%. And then for most recent data, I think it's down to 70%.
So, in other words, I think institutional investors have been slowly increasing the percentage of the overall market share and I think that influence level is also getting higher and higher. I also would emphasize one thing is the high alpha, that the market can potentially get to the investors here, given the fact that I still think the market is still quite inefficient.
Just to again, put some numbers into perspective over the last one year, when you look at the Shanghai Stock Exchange Asia index, it generates roughly 14% return. If you look at the CFR 800, meaning adding the CFS 300 in the CSI 500 million, the sort of the blue chip stocks in a medium to small cap stocks that index CSI (unintelligible) index January around 23% over a one year period.
If you invest in MSCI China, it generates around 30%, but when you look at the overall market, almost half of the active equity public funds this year generate over 60% return.
So as you can see, I've actually heard someone share a story recently. One of the local (unintelligible) manager who actually went to US and claimed that they can beat CSI 300 by two or 3% a year. And maybe because of the nature, like the markets have very different natures. And as we all know, it's very hard sometimes to beat S&P TSX. So that they actually claim that they can be TSI, but 3% amuse a lot of the US investor. But in fact, when you are really doing the right active management, have the right research, capability, et cetera, maybe in the next few years, you can still, you know, TSI 300, by larger amounts, obviously, with the right mission control level.
So, for investors, no matter it’s retail or institutional investors, I think the high alpha should be something that investors should bear in mind. But at the same time, I think it's still a very policy driven market. So again, as an example, in November 2014, I think the government announced the Shanghai Hong Kong Stock Connect program.
And also the Chinese central bank announced a rate cut. And within that month, the market went up 30%. And then in 2016, there were some sort of new restriction on OTC financing, and people worrying about all those finance margin, et cetera in three months’ time, the market declined three to 40%.
So I would take this opportunity to say that there are a lot of alpha, but at the same time is still a policy driven market, is a centrally planned economy. There are times where you would get a big push from the top and almost like in a very short period of time, a sharp wreck. So we just have to prepare the fact that this is not like US or other developed market where we will see some big volatility as it continues to grow.
(Jeff Shields): Interesting. So just for definition purposes in China, institutional investment capital, who are those investors? I mean, I think you said insurance companies, banks to me, but if that's the bulk of it…
(Eddy Wong): So from a CIFM perspective, yes, most of our institutional investors are coming from banks and coming from insurance companies that almost accounted for at least 90% of our institutional investors (unintelligible).
(Jeff Shields): Great. Thanks. You know, a question I've long had, and looking forward to hearing your answer is, we often look at China as a source of growth, but we sometimes don't ask colleagues such as yourself, what are the Chinese investors doing from a portfolio construction perspective?
And so I was really interested in trying to get a sense of - and typically a CIFM portfolio, how much of it is China versus mainland versus China, Hong Kong versus allocations to global equities, or other asset classes outside of China?
(Eddy Wong): I done a bit of work there, so I think generally speaking for an average (unintelligible) 99% of the attach are still investing on (unintelligible) China. We sort of compared to the US. I think, right now, US investors is about one third of the assets investing overseas.
One of the major reasons for that is, first of all, they are very limited investment vehicles for choices that allow investors in China to invest offshore. More importantly, I think there are a lot of quota or restrictions we frame Chinese investors from investing outside. Just a bit of a background to it, in China, there are a couple of (unintelligible). You could use the (unintelligible), which is qualified domestic institutional investors team, you could leverage that team to invest outside of China.
But again, it's a huge scarcity on this (unintelligible). There aren't many asset managers, they still have QD quota left. And at peak times, QD quota can work 2 or 3% of money to get those quarter. So this is a huge, huge scarcity quarter for that. And for QD, this is more for the long only funds that you can leverage on. But if you're thinking about some alternatives, or some more sophisticated products, you need to leverage another scheme, which is called QD LP.
So it was earlier this year that for example, CISM had some some QD LT quota and we partner up with JPMorgan. And we were able to offer a distressed debt bond fund for some of the private bank clients here in China. So this is very new to them, but they are very excited to see that there are some really interesting JP Morgan manage alternative products that could offer here in China.
The QD was launched in 2006. The QD LP was launched in 2012. And then 2016, there's a Hong Kong Stock and connect, which is again the quota is much bigger, and then investors are now more easy to invest between Hong Kong and China. But when it comes to invest in US, when it comes to US in Europe, is a lot harder and to be honest, after 15 months here on the grant, I just do not feel like there's a huge demand for onshore investors. The market retail (unintelligible) to invest offshore. Maybe one of the reason because the China Asia has been doing reasonably well.
(Jeff Shields): Thanks. Appreciate that. Maybe the next question that would be helpful is trying to understand a little bit more about the public equity markets and kind of the structure from the exchanges. And, you know, we read about the Hong Kong exchange, Shanghai exchange, now we read about the star in the shine act.
And so it's confusing for - maybe it's just confusing for me, but maybe for other investors as well. How is the development from a policy perspective and a growth perspective, how are all these things connected? Snd maybe you can just provide us some insight into how the exchanges are growing with the market.
(Eddy Wong): No problem. So as a local grown Hong Kong person, I know a little bit better about Hong Kong Stock Market. Obviously, among all the exchange (Jeff) has just mentioned, Hong Kong definitely is the most international exchange you could go for. And the most important bit, obviously, our audience was probably aware of, is there isn't any exchange control. It’s much easier for investors to get in and out within the Hong Kong exchange or the Hong Kong Stock Market.
Right now, I think there are about 2500 companies listed in Hong Kong. And I think right now, Hong Kong should be the cheapest, not one of, the cheapest market you could find among the developed market space. So we do see a lot of money actually chasing some of the Hong Kong stocks. And they were very robust IPO going on in the Hong Kong exchange.
And as you know, there are quite a number of Chinese firms that are already listed in the US that are thinking about returning to China or Hong Kong. And I think at least over the last six to nine months, they were like (unintelligible) blockbuster IPOs happened in Hong Kong, they used to be in the US.
And the listing requirements between Hong Kong and Shanghai is a little bit different. I think Hong Kong can accept they have a slightly lower threshold in terms of the finance performance, especially the profitability bit. So a lot of the Chinese companies, US companies will be choosing Hong Kong as their first stop among Asia. For Shanghai and Shenzhen, obviously younger exchanges. Basically, it represents - they are the major boards, and we just treat it as China's economy parameters.
Companies like ICPC, China Mershon bank, Petro China, you know, the giants that are listed in these markets, they are about 2,000 firms that are listed on these two major boards. And when it comes to PE ratio, Hong Kong right now, roughly, is around 15 times, and Asia is around 27 times. So it feels like the PE is a little bit higher. But when it was a peak, the peak of Asia is about seven times. So it has already gone a lot lower than it used to. So that’s the Shanghai Shenzhen Stock Exchange.
And investors should also pay a little bit more attention to the stock market. As (Jeff) has mentioned, the longer way of saying it is science technology innovation board or pick a stock market. It was supported and encouraged and sort of created by Chairman (unintelligible). The board is basically specialized in high tech and national strategic oriented companies. And a lot of people believe that the sport or the companies listed over there represents an innovation direction in the future for China.
And you could imagine that it could be, you know, the China (unintelligible). There are about 180 firms that are currently listed as starboard. Their market cap is still tiny, probably 1/10, or even 1/15 of the major board. But because of his popularity, I think there are still like 250 firms that are waiting to be listed on the starboard. So these are the three major exchanges that I could introduce today, but obviously there are some smaller ones, i.e., the SME boar, the (unintelligible), which may be in the future - if we have time we could introduce that today.
(Jeff Shields): Great. You know, another question going back to CIFM and get to work with investors is here in North America we're having a lot of conversations around the 60/40 portfolio. And you've talked a little bit about it and I think in your business mix at CIFM. But what is the standard? Is there a 60/40 portfolio in China? What does a portfolio look like?
(Eddy Wong): From my observation, I think in China, the 60/40 as a standard benchmark is definitely not widely used, or not really applicable for the portfolio management here.
So just to sort of - having some numbers to back it up, by June this year, over 70% of the public equity funds are invested by retail investors. And on the flip side, for all the bond funds, 85% of them are institutional investors.
So there could be a behavior where all the institutional investors are very keen to be very safe and stable and go for the bond market. And the retail investors are much more, sort of, able to take risks that they believe they can, and willing to put in more money into the equity portfolios.
Having said that, I think if I have to name one trend that I strongly believe that it will happen in the China fund market, it will be (unintelligible) allocation, or it will be eventually, not necessarily, 60/40. But it will be - they'll be starting from 10/90 - 10 equity, 90 bond, and then 20/80 to 30/70 and so on and so forth. So I think the idea is coming.
But again, comparing to US investors or Hong Kong investors, where, for example, if they invest in JP Morgan global income, or multi Income Fund, it’s a portfolio that could really be diversified, globally allocated with different asset classes.
But again, when you think about China, it's very hard to have enough asset class or vehicles to have the portfolio to be diversified enough. So when the concept is here, I think at the end of the day, we probably need a little bit of relaxation maybe on the regulation, maybe to create some new asset clauses, or allow different asset clauses to have better liquidity. So to sort of arrive to maybe today's US, where is a lot coming to see 60/40 or 70/30 kind of portfolio that you guys have been enjoying.
(Jeff Shields): Interesting. So let's pick up on what you said about the fixed income market. And I saw this morning, there was actually kind of a Chinese fixed income deal in US dollars actually done, so it's kind of timely. The Chinese domestic debt market in an extremely low global rate environment continues to offer attractive yields.
But it seems a bit more complicated than that. And so maybe you can just shed some light for investors, on the differences in the fixed income and credit markets in China, and just help us at least get started and understanding of what those differences are.
(Eddy Wong): Sure, so maybe I'll just start off by saying that unlike the actual equity market, obviously, you also need a great partner to help you to invest this, I think, for the bond market more even so. So I think essential to invest the bond market by a reputable solution provider, with the right research capability on the ground, having the knowledge,e having the insight, knowing what can be done, what cannot be done, knowing all those policies and the risk and controlling governance for the fixed income market.
My feeling is equities could be a little bit events compared to the fixed income market. And there are a lot of things that are still being developed. But nonetheless, I think the local regulators are having all these sort of (unintelligible) for example, the credit bond rating, which was a bit of an issue over the last couple of years.
So my understanding is, firstly, the SMP global is now authorized to do bond ratings in China. So it definitely helped to increase the international capability in terms of allowing global rating agencies to come to China and do the proper rating for different companies. But there has been issues lik,e you know, unexpected payment delay or sort of the corporate just went down without any sort of signal.
So these are the things that I think we have to be aware about. But the bond market here is, I think, by June this year was about 14 trillion US dollar, and the offshore capital investment portion is only about two to 3%. So there is tremendous potential for, in the next couple of years, to have the bond market to continue to grow.
And I do see a lot of institutional investors here. They always have a very strong demand on investing bond related type of products. Again, we do not have that many type of products. So fixed income is the bread and butter for the local institution.
I also see there was just released from the government seeking for public comments, I think a month ago, looking sort of to relax a bit of an offshore capital investment management on the China bond market.
I forgot the details. But I feel like there should be good news for investors to consider investing in China bond or the China ETS. So in short, I think the bond markets continue to grow a lot of opportunities. Overall, (unintelligible) is definitely going up. Still small bond size, obviously second in the world, but there are still a lot to be done. But we have to be aware of the potential risk for this market.
(Jeff Shields): (Eddy), thanks so much. We really appreciate your time and we hope everyone enjoyed today's call. Thank you for your ongoing partnership. If you need any additional information on anything that we've discussed, please reach out to your JP Morgan Client Advisor.
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