Things to Consider Before Investing in Chinese Stocks

The reason why any of us are interested in a particular market is that we might get good returns there compared to the rest of the world. China has been home to the most extreme economic growth in human history. In just four short decades, the nation has gone from a struggling backwater filled with poverty to a nation of glistening skyscrapers. The driver of this growth has been the embrace of the free market and opening itself to international trade.

There have been several predictions that China will overtake the U.S as the world’s top economy by 2032, mainly because of its unstoppable economic rise over the past years. Seeing this sustained growth, a lot of people are keen to jump on board. Millions of dollars have been made by millions of people and any logical investor would be foolish to not have exposure to the largest growth market in the world.

If you look at the Chinese CSI of 300 index (which looks at the largest 300 companies), the returns since 2005 have been tremendous. This is an emerging market that comes with very high volatility alongside the prospects for greater returns. In investment, you have got to be willing to swallow the risk in order to get access the potential greater upside.

However, even for seasoned investors, the market for Chinese companies is not exactly the promised land of double-digit annual returns you may think it is. The Chinese Stock Market has a market cap of over $3 Trillion and if you compare it with the US, just one company like Apple alone has a market cap of around $2 trillion. This implies that it’s not a huge market just yet but importantly accelerating market. This is because there are a few major problems that have yet to be overcome. The stock market in China is both regulated and not regulated enough.

There are 2 dominant stock exchanges in China; The Shanghai Stock Exchange and the Shenzhen Stock Exchange. One is a fair bit larger but tends to list stocks in more established industries, and the other is a slightly smaller but has a larger listing of up-and-coming entities like tech companies. The important thing to notice is that both these exchanges are entirely owned by the Chinese government like the tax department or the military. Given that China is at least in theory a communist state, the government handles and controls what companies get listed. On one hand, the government is responsible for making rules related to ownership structures, reporting standards and who can buy the shares is very limited. For example, buying shares directly as a foreign investor is not allowed without meeting the government’s requirements. These include: have a permanent China residence card, be an employee of a listed company or work in China. On the other hand, Chinese A- shares are open for foreign investment as they are traded on major U.S. stock exchanges as American Depository Receipts (ADRs). You can directly invest in these companies through a U.S. broker.

If you are looking to diversify your investments, investing in foreign stocks can be appealing, and there are a wide range of Chinese companies to choose from. Conclusively, it is important to consider the risks, higher fees, language barrier, fluctuation in currency exchange rate, political events, liquidity level, and so on before you decide to make an investment in Chinese stocks.