Look to long-term growth with Invesco China Equity

Its managers, Mike Shiao and Lorraine Kuo, invest in domestic listed Chinese A shares, Hong Kong-listed H shares and American Depositary Receipts – certificates issued by US banks that represent shares in foreign stocks. They look for companies that they think have sustainable leadership in the industries in which they operate and competitive advantages. They invest in ones that they feel are undervalued by between about 25 and 30 per cent, and hold them with the expectation that they will reach fair value over a three to five-year time horizon.

They prefer private enterprises, whose interests are better aligned with those of shareholders, to Chinese state-owned enterprises. “Invesco China Equity can invest in companies of any size, but because its managers are very selective about state-owned companies and generally dislike the banks, the fund tends to be underweight larger companies and has a bias to medium-sized ones,” comment analysts at research company FundCalibre. “Sectors that the managers tend to veer towards are consumer companies and healthcare – the latter because, unlike many other emerging economies, China has an ageing population.”

Consumer companies accounted for over 40 per cent of the fund’s assets at the end of February – the types that over the long term should benefit from growth in emerging economies such as China.

This investment approach has been successful: the fund has beaten its benchmark, MSCI China 10/40 index, and the broader MSCI China index over one, three, five and 10 years. Although past performance is never a guarantee of future success, especially in the current uncertain situation, the fund’s managers, who are based in Hong Kong, are highly experienced and supported by a team of around 20 analysts.

Lead manager Mike Shiao is chief investment officer, Asia ex Japan, at Invesco where he has worked since 2002, and he has 28 years investment experience. Co-manager Lorraine Kuo has 21 years investment experience and has worked at Invesco since 2011.

Because Mr Shiao and Ms Kuo generally see little value in owning large state-owned companies such as banks and prefer under-researched companies that are typically further down the market cap spectrum, this fund has a mid-cap bias. But mid-caps can be more volatile than larger, stable companies.

The fund’s managers' contrarian, value approach means they often invest in stocks before consensus on them is reached, and this could lead to periods of underperformance and additional volatility. This could be exacerbated further by the fund’s high concentration – it only held 31 stocks at the end of February.

Also, single-country emerging market funds are extremely high risk even at the best of times because their fortunes are concentrated in one high-risk region.

However, the fund’s managers also tend to avoid smaller companies and unquoted stocks, which are considered to be higher risk than listed mid and large-caps. At present the fund has a relatively high allocation to cash of nearly 13 per cent, which should help to dampen extreme volatility, as well as enable its managers to invest in any opportunities they spot at short notice.

And so far the fund’s experienced managers seem to have got it largely right, beating regional indices and other China equities funds over most performance periods. Analysts at FundCalibre add: “On both a relative and risk-adjusted measure, [Mr Shiao and Ms Kuo] have shown an excellent ability to outperform in a variety of markets.”

So if you have a very high risk appetite and long-term investment horizon, meaning that you can see this crisis through and wait for emerging markets such as China to grow in the years ahead, a small allocation to this fund could be a useful addition to a large, diversified growth portfolio. Buy.