Taking stock of China's crash: How U.S. investors are affected

By Stan Choe
AP Business Writer

NEW YORK (AP) — It’s tempting to think of China’s stock market crash this summer as just a faraway problem. It’s not.

If you have a 401(k) or IRA, odds are good that you have at least a sliver of your savings in Chinese companies. The lure of China’s potential is so strong that more than half of all stock mutual funds have at least one Chinese company in their portfolio, and that includes hundreds categorized as U.S. stock funds.

Of course, it’s important to keep the figures in context. Chinese stocks account for just a small portion of most portfolios. Among the international stock funds that own Chinese stocks, the median investment is 4.2 percent of the fund’s assets, according to data from Morningstar. For U.S. stock funds, it’s 0.7 percent.

Plus, there are many different types of Chinese stocks, and government restrictions bar most mutual funds from owning stocks traded in mainland markets, which are the ones that have had the steepest drops.

The Shanghai composite index plunged 30 percent in less than four weeks after setting a peak on June 12, for example. Stocks traded in Shenzhen, another major market in southeast China, lost 40 percent. But most U.S. funds own stocks that trade in Hong Kong or New York, not Shanghai or Shenzhen.

Here’s a look at what’s been going on in China and how it’s affecting mutual-fund investors.

What is a Chinese stock?

This question isn’t so simple. When investors talk about Chinese stocks, they could be talking about any number of things.

The recent focus has been on what are called “A-shares.” These are shares of companies incorporated in China, listed in Shanghai or Shenzhen and traded in yuan.

The Chinese government has long restricted foreign ownership of A-shares, though it has been loosening the limits recently. That means the market is dominated by mom-and-pop Chinese investors and many U.S. mutual-fund managers were essentially bystanders.

“A-shares were a bubble, but that isn’t a concern for me because I have no direct exposure to A-shares,” says Alexander Muromcew, portfolio manager of the TIAA-CREF Emerging Markets Equity fund.

Most mutual funds instead invest in mainland Chinese companies that are listed in Hong Kong—“H shares.” This market has more professional investors, and it didn’t rise as fast as A-shares in the months leading up to the crash. H-shares also didn’t get as expensive relative to their earnings and didn’t fall as much as A-shares subsequently: 25 percent from their late May peak through July 8.

What happened to Chinese stocks?

China’s A-share market was relatively listless from 2012 until last summer, but then it took off.

The surge was largely the result of Chinese mom-and-pop investors pouring into the market, often using borrowed money to buy even more shares. The Shanghai Composite index surged nearly 120 percent in eight months.

The steep climb raised worries about a bubble, and the market’s descent since its June high has been just as sudden. Shenzhen stocks lost 40 percent in less than four weeks.

Even with the crash, though, Chinese stocks are still up more than 80 percent over the last year. The market has stabilized somewhat in recent days as the Chinese government has moved to stop the slide.

How much do mutual funds invest in China?

It can be a lot.

Funds that specialize in emerging markets have been popular, growing to a total of $410 billion in assets. Many of these funds benchmark themselves against the MSCI Emerging Markets index, and roughly a quarter of the index is in China.

Even investors who haven’t sought out international stock funds likely have Chinese stocks. Many workers use target-date funds, for example. Virtually all these retirement funds own some Chinese stocks for their growth potential, even those built for people hoping to retire soon.

The amounts are typically modest. Vanguard is the largest provider of target-date funds, and its funds generally have well below 2 percent of their portfolios in Chinese stocks.

Will more U.S. funds own A-shares?

The trend is heading that way.

Vanguard said in early June that its Emerging Markets Stock Index fund will begin tracking a new index, one that includes A-shares. The announcement came only days before A-shares hit their peak, but the market’s tumble hasn’t deterred Vanguard, says Joe Brennan, head of its equity investment group.

The company still plans on beginning to add A-shares later this year, through a special license obtained from the government. The aim is to give deeper exposure to stocks from the world’s second-largest economy and increase the fund’s diversification.

Other funds also own some A-shares through special licenses. Matthews China fund, for example, began adding them last year, and had 6 percent of its portfolio in A-shares at the end of the first quarter.

Even though A-shares generally are still much more expensive than H-shares relative to their earnings, the market offers access to different types of Chinese companies, says Winnie Chwang, portfolio manager at Matthews. Many more health care stocks are available in the A-share market, for example, including those that specialize in traditional Chinese medicine.

“We want to use A-shares as a complement to our existing strategy,” Chwang says. “We’re looking to find just a handful at more reasonable valuations.”


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