China has been getting a lot of attention. The world’s most populous country has made headlines including: "The China Question1," “The New China: Opportunity or Threat?2" and “China, U.S. Face Off Over Reforms3.” Surely these articles have come out recently in response to the latest groundbreaking events coming out of China? Think again. In fact, all of these headlines were made back in 2005. Media coverage around China is not a 2021 phenomenon.
Although China has been making headlines for decades now, you’re not wrong to have noticed that it has been a popular topic as of late. Between the US Executive Order regarding “Communist Chinese Military Companies,” sustainability and social issues, the introduction of nationwide property taxes, and the financial troubles of China Evergrande, this particular country has been a popular subject across newspapers, television, and social media.
While these headlines may be alarming, they tell us that this news is being widely publicized to investors across the world. Fresh information is shared quickly with millions of market participants who react to this information by adjusting their expectations around risks and returns. Market prices instantly reflect this information, including political and country-specific risk.
China’s relative size in the world market may be smaller than you think. As of the end of 2020, China's equity market represented $3.525 trillion dollars, while the US had a stock market representing about $41.925 trillion dollars4. It is true that China's economy has grown over recent years, but even now, it makes up only about 5% of the global stock market; of course, each equity security in China will make up a fraction of that4. Population size, GDP, and even export rates do not necessarily imply the amount of exposure your portfolio should have to a country; rather, a country’s relative market capitalization may be a better starting point.
Control what you can control. Diversification is one of the most effect ways to reduce country and company specific risk within portfolios. Broad diversification can help ensure that your investment outcomes are not driven by a single company.
No one can say with certainty what the future holds for China – or any country for that matter. The important thing to remember is that when you see a headline, likely investors around the world are also looking at that news; any information around risk and return can then be quickly incorporated into the market. Diversification provides more flexibility in implementation and helps increase the reliability of expected outperformance.