China turns to ‘real assets’
As reserves dive, Beijing builds up equities
by David Marsh
Tue 8 Sep 2015
The record $94bn fall in China’s foreign exchange reserves in August – a larger amount than the official currency holdings of the UK or Canada – has commanded international headlines. However, amid signs that Beijing is accelerating its build-up of foreign ‘real assets’ in quoted and non-quoted equities, infrastructure and real estate, the People’s Bank of China’s official reserves are becoming a less important guide to the overall value of China’s wealth held abroad.
China sold some of its official dollar and euro holdings to support the renminbi during a volatile month for the China currency marked by a loosening of its peg to the dollar – a long-trailed move to make the renminbi more responsive to market forces. This took China’s official currency reserves to $3.6tn, down $400bn from their peak of June 2014.
Volatility on Chinese stock markets is contributing to flows of funds out of the country. Yet this is part of a generally healthy rebalancing of China’s net foreign assets. Foreign equity holdings by private and public sector companies are progressively taking over a larger share of China’s overall net foreign asset position, estimated at $1.8tn at the end of last year, making it the world’s second largest net foreign creditor (behind Japan and ahead of Germany).
Significant portfolio shifts are taking place into Europe, with Germany and the UK in the lead as investment destinations.
The state-owned Beijing Automotive Group is in talks with German motor concern Daimler about taking ‘a significant stake’ in the Stuttgart-based company by the end of the year – which will almost certainly involve a sizeable degree of technology transfer from Germany to China. Fosun, the Shanghai-based investor group, is negotiating to take over the troubled Frankfurt BHF-Bank in a contested deal, shortly after it acquired the private bank Hauck, a competitor institution also based in Frankfurt. The UK has become an attractive home for Chinese asset managers building real estate and infrastructure holdings, with an estimated £11.7bn spent acquiring stakes in UK businesses over the past decade.
According to industry figures, between 2000 and 2014 Chinese companies spent €46bn on more than 1,000 direct investments across the EU, with most deals struck since the 2009 financial crisis.
The pick-up in interest in ‘real assets’ demonstrates how Beijing has reacted to a lamentable track record in making returns from its more conventional holdings. A research paper from the Bank for International Settlements in September 2013 underlined how China and Germany recorded entirely different performances in their overall foreign investments over the past 15 years.
Germany made consistent annual returns since 2005 of 5–6% of its net international asset position, according to the BIS paper, while China turned in regular annual losses averaging 3–4% of its asset position since 2008.
The BIS experts ascribe this to two overriding reasons. First, the official sector – both government entities and the central bank – accounts for a much greater percentage of internationally-held assets in China than in Germany. Second, and more importantly, China’s net investments have been substantially geared to other countries’ (mainly the US) debt instruments, whereas Germany has been orientated far more towards portfolio investments in equities and in direct investments, often denominated in its own currency, the euro .
There is strong evidence from many quarters that the Chinese authorities are taking steps to gear the country’s overall foreign portfolio towards a greater proportion of equities and equity-like instruments, not just in Europe, but also in Africa and Latin America. The trend may well be accelerating.
David Marsh is Managing Director of OMFIF.
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