In light of the recent recommendations to reenter the Chinese stock market, I thought it would be useful to compare the performance and risk of the comparable U.S. stocks.
On November 20, Bloomberg reported that “China will reopen from its Covid Zero lockdowns gradually and its property sector will recover slowly with policy support, helping propel the country’s benchmark stock index by 13% in the next 12 months, according to Hao Hong, chief economist at GROW Investment Group.”
There are three areas of interest, eCommerce, Internet and Search, and cryptocurrencies. Let’s take a brief look at each. (Please note that Chinese stocks listed on U.S. Exchanges are ADRs and therefore carry higher risk and do not provide voting rights to shareholders.)
In the U.S. we have Amazon (AMZN). In China they have Baidu (BIDU), JD.com (JD), and Alibaba (BABA) (OTCPK:BABAF), all big, viable companies. Even conservative traders and retirement funds are likely to hold these stocks.
As for performance over the past 5 years, all have suffered a global economic downtrun. Figure 1 shows the price history adjusted to 100 on January 1, 2017. JD tracks AMZN the closest, while BIDU and BABA have declined the most. Only AMZN seems to be holding above the S&P performance for the 5-year period.
Figure 1. eCommerce stocks price history.
In terms of volatility, Chinese stocks are 2 to 3 times more volatile than AMZN (Figure 2). It is important to size Chinese stock positions much smaller (1/2 to 1/3) than U.S. stocks in order to get the best diversification.
Figure 2. Volatility of eCommerce stocks.
The two most actively traded internet stocks are Google (GOOG) (GOOGL) and Tencent (OTCPK:TCEHY). As you can see in Figure 3, Google has had a smoother path and a better return than Tencent. When we compare the volatility (Figure 4), Google shows 24% and Tencent 37%. Overall, Chinese stocks are more volatile than their U.S. equivalents.
Figure 3. Internet stocks price history.
Figure 4. Internet stocks volatility.
For cryptocurrencies, Bitcoin (BTC-USD) is the biggest player in the world. Ethereum (ETH-USD) is said to offer more commercial applications, but it tracks similarly to Bitcoin, as seen in Figure 5. Prices have been set to 100 as of January 1, 2018.
Figure 5. Crypto price history.
The major Asian crypto markets are Tamadoge (Japan) and Tether (USDT-USD) (the biggest after Bitcoin in Asia), but they have a remarkably short price history, so they have been omitted. We can compare Binance (BNB-USD) with Coinbase (COIN), two popular crypto “exchanges.” In Figure 6 we see that BNB has held up better than COIN but has considerable volatility.
Figure 6. Crypto exchanges Binance and Coin.
One of the biggest issues with crypto is its volatility. In Figure 7 we compare the volatility of BTC and ETH against the S&P ETF (SPY). Over the past 5 years, SPY has had an average 20-day volatility of 14.6% while BTC and ETH have been 55% and 74% respectively. The volatility of the exchanges (Figure 8) shows Binance has been 77% versus COIN at 22%. Even with COIN heading towards zero, its volatility is very low.
Figure 7. Crypto volatility.
Figure 8. Crypto Exchange volatility.
The volatility tells us that we need to trade 1/5 of our normal size in BTC or ETH and even less in BNB. It is important that all positions have equal volatility. But the frequent, large spike present a different problem, which we will discuss next.
That Was the Good News
For most of the comparisons, U.S. stocks outperformed Chinese, and with lower volatility. Often must lower. We also can see that Chinese stocks have more volatility spikes than U.S. stocks. That brings us to the underlying issues trading Chinese stocks:
- Much like OPEC, the Chinese government makes surprise announcements about their economy and policy changes. We have no advance notice.
- The Chinese policy on COVID-19 has been severe and filled with surprises. They will lockdown a city of 1 million if one person tests positive. On November 3, 2022 they locked down Zhengshou, home of the largest iPhone factory.
- The U.S. has restricted imports of Chinese semiconductors. It has restricted exports of some technology. This has had a negative effect on Chinese stocks.
- Due to government policy, one-half the foreign companies in Hong Kong are looking to relocate.
Even more important, the Chinese have never agreed to allow the New York Stock Exchange to audit its company’s books. We have no idea if any of the data is correct. When combined with unexpected policy announcements, which drives up volatility, not being able to have confidence in earnings or capitalization seems to be even a bigger problem. We can measure volatility but have no clue if any of the other numbers are true.
How to Handle Broker Recommendations
Some brokers are recommending buying Chinese stocks now that the government has changed the rule on housing and China is easing COVID-19 restrictions. That may turn out to be a good recommendation, but the risks are high. If you participate, it should be with a very small position and an eye on another change in Chinese policy. One never knows.