The China Conundrum

This must be a first: I agree with almost everything Jim Wiandt says in his recent blog.

The China issue is a conundrum. Everyone buying a market-cap-weighted index is dramatically underweight in China. China’s float-adjusted share of global market capitalization is about 1%, and yet, it’s the third-largest economy in the world. Investors who buy, say, the SPDR MSCI ACWI ex-US ETF (CWI) … one of my favorite ETFs … get a bigger stake in Italy and the Netherlands than they do in China. Now, I eat more pasta than the next guy, but if I was designing a portfolio, it’d definitely have more China in it than Italy…

That said, it’s a raging, screaming, ugly bubble. Anyone who doesn’t think so should read Heather Bell’s article on the A-shares premium. There’s simply no other explanation for that premium than tulips and tech stocks.

All this is one of the reasons why the approach that Burton Malkiel outlined at the Art of Indexing conference makes sense. He said he was developing a China strategy with two prongs: one-half exposure to Chinese equities, and one-half exposure to U.S. equities that are benefiting from the China boom. That’s a nice way to gain exposure while avoiding the worst of the bubble.

Looking out 10 or 20 years, water could easily emerge as a choke point for countries like China, where industrial demand will run into consumption needs and create a volatile situation. I was speaking with Jeff Saut, an analyst at Raymond James, and asked him what the really smart money was doing right now. He said without skipping a beat: “Buying large tracts of land in Brazil.”

As the cost of agricultural commodities continues to rise, and as water becomes more valuable, that could be a smart approach indeed.

Written by Matthew Hougan

Comments

[Ray Nazarro]

Of the top 25 stocks held in CAF only one, Air China, is part of the China AH Shares Premium Index. I don't fault you for getting it wrong, the information on CAF holdings is hard to find but given the facts it is clearly meaningless to use the AH Index as a benchmark when talking about CAF. For a list of the CAF top 25 holdings as of 6/30/07 visit tinyurl.com/3alxr4