Key findings
- Investors have become more cautious about investing in China, while China’s outbound investments have continued to grow.
- MSCI Economic Exposure Data showed that Chinese companies in the technology and energy sectors have had higher international exposure in terms of revenue source.
- Chinese companies with higher international revenue exposure outperformed their parent indexes in bull markets over the decade ending December 2023, but they may have greater exposure to geopolitical risks.
Over the past decade, China's economic development, securities-market evolution and technological advances have attracted international investors to Chinese assets. Since the outbreak of the COVID-19 pandemic, however, international investors have become more cautious about the market and geopolitical risks of investing in China. For example, how could China's future growth be affected by changes in the global supply chain via nearshoring and reshoring strategies? The shift comes despite the recent success for some managers of dedicated China portfolios. Meanwhile, many Chinese companies' efforts to expand their global presence and the investment implications of that effort have often been overlooked.
Investors domiciled in China who would like to enhance their global diversification are able to directly invest in international markets through programs such as the Qualified Domestic Institutional Investor (QDII) scheme or Stock Connect, but both options come with inherent limitations.[1] Another approach is to invest in Chinese companies with a notable proportion of their operations, supply chains or revenue in overseas markets. Using MSCI Economic Exposure data, we explore the potential opportunities and risks associated with this avenue.
China's "bring-in" and "go-global" policies
China's "opening up" policy that began in 2000 has encompassed both so-called bring-in and go-global strategies that aim to attract foreign inbound investment as well as encourage the country's domestic enterprises to invest overseas.[2] The growth in foreign direct investment (FDI) over the past decade, and the development of China's capital markets and subsequent inclusion of Chinese assets in major global indexes, has so far overshadowed the country''s efforts to go global. FDI inflows have recently decreased,[3] however, as China's nonfinancial companies have steadily increased outbound direct investment over the last few years.
FDI in China has declined as China outbound direct investment has risen
Data period from January 2017 through December 2023. We used overall FDI to represent the trend in FDI in nonfinancial companies due to a lack of data on financials-sector FDI in 2023. FDI data shows that nonfinancials accounted for 96.4% of total FDI in 2022. Source: China National Bureau of Statistics and Ministry of Commerce, People's Republic of China
This trend suggests that both domestic and international investors may need to consider the global exposure of Chinese companies when making investment decisions. In the face of challenges such as excess capacity and weak domestic consumption, companies with overseas investments and diversified revenue streams may have an advantage over those that rely on the domestic market, but they may also have higher exposure to geopolitical risk.
Certain sectors associated with broader international opportunities
As of April 30, 2024, companies in China, as represented by the MSCI China and MSCI China A Indexes, derived 15% and 16%, respectively, of their revenues from international sources, according to MSCI Economic Exposure data.[4] Overall, this level was low compared to other markets.[5] Chinese companies in the information technology (IT), energy, industrials and consumer-discretionary sectors[6] had higher international exposure, indicating they had established a stronger presence in the global market and were ahead of other sectors in pursuing a go-global strategy.
IT companies had highest international revenue exposure
Data as of April 30, 2024.
International revenues tied to stronger performance
In the decade ending December 2023, Chinese stocks with higher international revenue exposure outperformed their parent indexes, especially during bull markets. The 50 stocks with the largest international revenue exposure in the MSCI China Index delivered an annualized excess return of 16% over the MSCI China Index. Over this period, the sector profile of the 50 stocks shifted noticeably toward IT from a previously stronger representation of industrials, mirroring the evolution of many Chinese companies that have turned their sights to international markets. Similarly, the 50 most internationally exposed A shares in the MSCI China A Index outperformed the index by 14% a year for the six years ending 2023.[7]
Companies with higher international revenue exposure outperformed the market
Panel A: MSCI China Index
Panel B: MSCI China A Index
Data period from January 2014 through December 2023 for Panel A and from January 2018 through December 2023 for Panel B. The MSCI China A Index was launched on March 1, 2018. The top 50 constituents with the highest international revenue exposure were selected based on data at year-end. We compared the equal-weighted average of the total annual returns in local currency of the top 50 constituents each year and the gross return in local currency for the respective MSCI China and MSCI China A Indexes.
New perspectives linked to international diversification
The continuing growth in outbound investment from China has reflected Chinese companies' efforts to explore opportunities in overseas markets as well as to adapt to the changing domestic macroeconomic environment. Economic exposure and alternative data could provide new perspectives to help domestic Chinese investors analyze and build portfolios for international diversification. These perspectives could also help global investors better understand portfolio performance and risk exposures related to the China market.
1 The QDII quota for each institutional investor is managed and granted by the State Administration of Foreign Exchange (SAFE). The quota was USD 165.5 billion at the end of April 2024, according to data from SAFE. With Stock Connect, a domestic investor in China can only invest in a universe of eligible securities, such as eligible stocks and ETFs, listed in Hong Kong.2 Paola Bellabona and Francesca Spigarelli, “Moving from Open Door to Go Global: China goes on the world stage,” International Journal of Chinese Culture and Management 1, no. 1 (January 2007).3 “China's first deficit in foreign investment signals West's 'de-risking' pressure” Reuters, Nov. 6, 2023.4 The trend in international revenues has been slightly higher since the end of 2018, when the percentages were to 12% and 14% for MSCI China and MSCI China A Indexes, respectively.5 Based on revenue aggregation of individual companies and the MSCI Market Classification Framework, the constituents of the MSCI USA, MSCI World excluding USA, MSCI Emerging Markets excluding China and MSCI Japan Indexes earned roughly 28%, 44%, 29% and 47% of their revenues from international sources, respectively, as of April 30, 2024.6 Our analysis is based on the Global Industry Classification Standard (GICS®) sectors. GICS is the global industry classification standard jointly developed by MSCI and S&P Global Market Intelligence.7 The MSCI China A Index was launched on March 1, 2018. From 2021 to 2023, based on the MSCI Barra All China Equity Model (ACH1L) and the Barra China A Total Market Equity Model (CNLTL), although the top 50 most internationally exposed Chinese companies had higher trading activity, higher risk, smaller capitalization and paid less dividends compared to the broad market, the majority of their active returns were attributable to company-specific sources.
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