Investment consultant Mercer is calling on institutional investors to add "meaningful" exposure of 5% to 10% of their equity portfolios to China's onshore A shares market.
In a new paper, Positioning your portfolio for the future of emerging markets, Mercer recommended a higher strategic allocation to emerging markets than the current MSCI All Country World index weighting of 12%, citing diversification benefits and higher potential returns.
Investors' equity portfolios should preferably have an allocation to emerging markets of up to 25%, "with any overweight driven largely by China exposure," the paper said.
"The rise of China over the coming decades could underpin unique economic and corporate growth drivers that we believe investors should have exposure to in equity portfolios," the paper said.
While the mega cap offshore-listed Chinese stocks that dominate the MSCI Emerging Markets index are concentrated in a few sectors, exposure to key sectors — including technology, health care, leisure, food and beverages, and media — may only be fully accessible through the A shares market, the paper said.
Mercer recommended that investors address current low exposure to China's A shares market through dedicated, actively managed China equity strategies.
Investors can either top up the China exposure they're getting now through broad emerging markets weightings with "a dedicated China A shares or All China allocation," or carve exposure to China out of emerging markets and create separate, dedicated all-China and emerging markets ex-China allocations.
For a top-up scenario, Mercer said investors could add a dedicated A shares allocation of 5% to 10% of their equity portfolios to an emerging markets allocation of 12% to 15%, lifting their total emerging markets exposure to between 17% and 25%.
For a carve-out scenario, Mercer said an emerging markets ex-China allocation of 7% to 9% could be combined with an all-China allocation of 13% to 16% for a total emerging markets exposure of between 20% and 25%.
