Active managers see opportunity in volatile A-shares


Nicholas Yeo said the ‘rather unique’ market environment allowed his firm to do well in up and down cycles.

The dominance of retail investors in Shanghai and Shenzhen A-shares markets has made those markets a happy hunting ground for active managers, analysts say.

With 97% local ownership and institutional ownership under 20%, those markets have proven to be a good place for active managers to deliver “significant amounts” of alpha, noted Gareth Anderson, a London-based research specialist with Mercer Investments’ manager research team.

“It’s a very liquid, very inefficient market,” the last place one would want to get passive exposure to, said Alexander Treves, a Hong Kong-based managing director and head of the investment specialist team in Asia with J.P. Morgan Asset Management (JPM)’s Asia-Pacific equities business.

The last three years in particular, the value delivered by active management has been “quite extraordinary,” said Mr. Anderson, with some managers exceeding their benchmarks by 10 percentage points or more. Typically, a good emerging markets manager might deliver 1.5 to 2 percentage points of excess return, gross of fees, he said.

Aberdeen Standard Investments’ China A Share Equity Fund, the largest in Morningstar’s A-shares category with a $2.2 billion mix of overseas retail, high-net-worth and pension fund money, is a case in point. Over the three years through Feb. 28, the fund topped its MSCI China A index benchmark in rising markets, with an “up capture ratio” of 120.8, while falling only half as much as the benchmark in declining markets, according to Morningstar Inc.

Over that period, the fund had annualized returns of 21.6%, surpassing its benchmark return of 8.9%.

UBS Asset Management’s Luxembourg-based China A opportunities fund, the category’s second largest with $1.3 billion in assets under management at the end of February, likewise outperformed in both market upturns and downturns over the past three years, with an up capture ratio of 140.5 and a down capture ratio of 56.5.

Nicholas Yeo, Hong Kong-based director and head of equities, China/Hong Kong, with Aberdeen Standard Investments, attributed that ability to perform well in both parts of the cycle to a “rather unique” market environment in China over the past two or three years. Sentiment was generally bearish, and even retail investors became more focused on the defensive, quality companies Aberdeen Standard counts among its concentrated, 33-stock portfolio. Investors include private bank clients, Aberdeen funds and pension funds from around the world.

While 2017 saw the local indexes jump more than 20%, lingering cautiousness made it a “rational bull market,” in contrast to less selective bull markets where Aberdeen Standard would be expected to capture only 60% to 70% of upside moves, said Mr. Yeo.

From the beginning of this year, Aberdeen Standard has captured roughly 90% of the market’s upside but it’s too early to judge if the current rally will turn out to be a “crazy bull market,” said Mr. Yeo.

That noisy market backdrop could prove distracting as institutional investors grapple with how to respond to the increased inclusions for A shares and the initial inclusion this year of Chinese bonds in the Bloomberg Barclays Global Aggregate Bond index.

For the moment, valuations can still be seen as a plus for overseas investors mulling a new allocation to mainland stocks.

Even after a more than 20% rally since the start of the year, A shares have only gone from “very undervalued to just undervalued,” said Aaron Costello, Singapore-based head of Asia-Pacific of Cambridge Associates LLC.

Likewise, the retail-driven trading that active managers have been able to take advantage of — as the market surges 100% one year and drops 50% the next — will eventually give way to more fundamentally driven factors as foreign participation grows, but that could take 10 years to play out, said Mr. Costello.

Mr. Costello said while A-shares managers have proved adept at exploiting the local markets volatilities to add alpha, a strong case can be made for using “all-China” strategies, which include Hong Kong-listed H shares and Chinese stocks listed on U.S. exchanges as well to allow managers to “move in and out of the A-shares market” to add value.

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