ANALYSIS: Sinking Chinese Stocks a Costly Diversification Choice for Canada’s Pension Plans

Justification made by Canadian public-sector pension plans last May that China offers diversification in their portfolios is proving costly
ANALYSIS: Sinking Chinese Stocks a Costly Diversification Choice for Canada’s Pension Plans
A woman leaves the stock exchange building in Shanghai, China, on Nov. 4, 2020. (Hector Retamal/AFP via Getty Images)
Rahul Vaidyanath

As Chinese stocks hit multi-year lows amid ongoing government rescue efforts, justification by Canadian public-sector pension plans that China offers portfolio diversification is proving costly. This is particularly the case for the largest among them—the Canada Pension Plan (CPP)—with its outsized allocation to China.

Investing in China takes place amid geopolitical tensions, concerns over massive debt loads at all levels of government, lack of transparency in financial reporting, and a bankrupt real estate sector. 
Many global investors also believe Chinese leader Xi Jinping is mismanaging the country’s economy and financial markets.
Investors have been selling Chinese stocks in such large quantities that the Chinese Communist Party (CCP) has taken steps to stem the plunge, by having state-owned firms buy stocks to prop up the market and by restricting short-selling—where an investor borrows a stock and sells it, hoping to make a profit by buying it back at a lower price.
“I would not treat China as an investment. I would treat China as a trade. If you ask me, do I think in six months from now, China’s equity market will be up or down? I probably say up but would I keep my money there long term? Absolutely not,” Richard Dias, global macro strategist at PGM Global, told The Epoch Times on Feb. 13.
But senior officials at Canada’s large public-sector pension plans, all long-term investors, told parliamentarians last May that they will continue to invest in China.
“China often moves in ways uncorrelated to developed markets, thus adding balance to our portfolio,” said Michel Leduc, senior managing director and global head of public and corporate affairs at the CPP Investment Board (CPPIB), testifying before the House of Commons Special Committee on the Canada-People’s Republic of China Relationship on May 8, 2023.
Mr. Leduc added that the CPPIB is aware of the risks of investing in China and that “[we] always have to brace ourselves” for Chinese authorities potentially confiscating its current assets.
Vincent Delisle, senior VP and head of liquid markets at CDPQ (Caisse de dépôt et placement du Québec) echoed the CPPIB. “We see China as a market that contributes to our diversification and our depositors’ long-term performance,” he told parliamentarians.
Two other pension funds, Ontario Teachers’ Pension Plan and British Columbia Investment Management Corp., said they were either pausing or reducing investments in China.
Mr. Dias says “the real question is, China used to be about return on capital, and now, China is about return of capital.” 
“Now that we know that that’s true, pension funds in Canada should not be allocating to that. Pension funds should not be in the business of worrying about whether or not they’re going to get their money back,” he said.
While four of the five pension funds represented at the parliamentary committee each has less than 5 percent of its assets in China, the CPPIB stood out as having 9.8 percent invested. The Canada Pension Plan’s size was $576 billion as of Sept. 30, 2023.
Mr. Dias says he believes allocating 9.8 percent to China is too high but that the percentage has likely fallen since then due to losses.

Risky Business

While investing in China hasn’t paid off over the long haul, 2023 was particularly bad.
Looking at global performance for 2023, Chinese stocks, as measured by China’s CSI 3000 index, were down 11.4 percent while many other markets were up, including indexes in Japan, France, Germany, England, the three U.S. markets, and Canada.
The MSCI Emerging Markets (EM) ex China index, which excludes China, returned 20.03 percent in 2023—more than double the 9.83 percent for the EM index that includes China. Over 3-, 5-, and 10-year periods, and since Dec. 29, 2000, the EM ex China index has beaten the index that includes China.
Typical EM funds include China and are heavily weighted to China, to the tune of 20 to 30 percent.
“Anytime you invest in a Chinese company, you’re investing alongside the Chinese Communist Party. Since he came to power in 2013, Xi Jinping has amplified the CCP’s influence over ‘private’ Chinese companies. In effect, no business in China is private the way you or I think of a private company, with clear laws and boundaries separating it from the government,” said Ed D’Agostino, publisher and COO of Mauldin Economics, in a Feb. 6 note.
Mr. D’Agostino pointed out that the number of new EM funds that exclude China reached a record annual high in 2023.
“If you invested in China and the Shanghai Shenzhen 300 index 15 years ago, you’re down about 33 percent,” Kyle Bass, founder of Hayman Capital Management, told The Epoch Times program “American Thought Leaders” on Jan. 11.
Mr. Bass also warned that more economic pain is coming for China and that China could invade Taiwan—which is something Mr. Xi could do to “change the narrative to stay in power.” 
“If that is the case, the West’s relationship with China and investment in China is in a very precarious place today,” he said.

Sombre Outlook

China Beige Book (CBB) questions whether further rate cuts will actually help the Chinese economy. CBB noted on Feb. 8 that while the costs of borrowing in the first quarter of 2023 plunged in the “sharpest one-off fall we had ever seen in CBB history,” firms did not increase their borrowing materially. 
CBB said rates fell precipitously in the fourth quarter but firms again did not borrow more and thus there was no meaningful pickup in economic activity even after China ended its “zero-COVID” policy.
Why should cutting rates again be the panacea for 2024’s problems, CBB asks.
Mr. Dias says that investing in China used to be about the growth prospects, but now it hinges on more fiscal or monetary support.
BMO senior economist Art Woo forecasted a weak Chinese economy that will muddle along for 2024. “There just doesn’t appear to be really any overwhelming drivers that would positively impact the economy,” he said last November during a podcast. 
The Bank of Canada forecasts China’s economy to grow at a rate of 4.5 percent in both 2024 and 2025. It estimates that China’s growth was 5.2 percent in 2023, following a growth of 3.0 percent in 2022.
Rahul Vaidyanath is a journalist with The Epoch Times in Ottawa. His areas of expertise include the economy, financial markets, China, and national defence and security. He has worked for the Bank of Canada, Canada Mortgage and Housing Corp., and investment banks in Toronto, New York, and Los Angeles.
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