How to avoid the world’s second largest economy in your portfolio

So can you (and should you) avoid the world’s second largest economy? Some experts think that this is exactly what investors should do.

“Investors have underestimated the risk of autocracy,” said Perth Tolle, sponsor of the Freedom 100 emerging markets (FRDM) ETF, a fund that has no exposure to Chinese stocks.
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“You can’t always take into account the risk of a government coming in overnight and telling a company ‘it really can’t make a profit,'” he said.

Tolle told CNN Business that investors should be more concerned about the flow of capital out of the country due to concerns that Beijing will exert more control over companies in mainland China.

That is why your fund has more exposure to other markets such as Taiwan and South Korea rather than China. Taiwan Semiconductor (TSM) and Samsung (SSNLF) they are two of the main holdings of FRDM ETF.

Emerging market funds do better without exposure to China

Tolle is not alone in excluding China from emerging market funds. Big fund companies like iShares and Columbia Threadneedle also have emerging market ETFs that knock Chinese companies out of their positions.

The funds have also outperformed broader emerging market funds this year, showing that investing for social good can pay off.

The FRDM ETF, as well as the iShares MSCI Emerging Markets ex China ETF (EMXC) and Columbia EM Core ex-China ETF (XCEM), are each between 6% and 8% in 2021.
That compares with a 2% drop for the IShares MSCI Emerging Markets ETF (EEM), which owns Tencent, Alibaba and Chinese food delivery service Meituan as major holdings.
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Other investment experts argue that Chinese President Xi Jinping’s recent push to crack down on big tech companies is not a good sign for short-term gains.

“We like the longer-term view, but in the short term, we are more cautious,” said Jeff Mortimer, director of investment strategy at BNY Mellon Wealth Management. “Some other emerging markets have better growth potential.”

“The move from promoting more entrepreneurship to equitable growth in the pie changes the equation,” he added. “We took some money off the table and reduced our exposure to China.”

Another portfolio manager argued that trying to predict which companies or sectors will be under Xi Jinping’s “sphere of influence of thought” makes investing there challenging. Major Chinese education stocks have also been hit this year due to regulatory concerns.

“Investor perception of risk has increased in China, and it has risen for good reason,” said Paul Espinosa, portfolio manager at Seafarer Capital Partners.

Espinosa also said that China is not as attractive as other emerging markets simply because stocks outside the country are better bargains.

Companies in Brazil and other parts of Latin America have more attractive values ​​than companies based in China, Espinosa said. You are also looking for investment opportunities in the Middle East.

“Everybody is so China-centric, and it’s dominated by growth investors,” he said. “But there are more opportunities outside of China.”

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