By Christopher Vass, Senior Product Manager, FTSE Russell.

China A50: Is big still beautiful?

China A-Shares have made headlines as major index providers have begun phasing them into their major global equity indexes. The inclusion process began recently, but FTSE Russell has offered China A-Shares indexes since 2001 when China first started easing restrictions on A-Shares foreign investment.

Among these initial indexes was the FTSE China A50 Index, which launched in 2003. Given the unprecedented transformation in China’s economy since – and the walls tumbling down in terms of access for investors – one might be forgiven for pondering the relevance of this index.

Sixteen years is a long time for the China economy. But for several reasons it remains highly relevant for investors looking for exposure, even in a profoundly altered China A-Shares market. Why is this?

The index, which comprises the 50 largest A-Share stocks listed on the Shanghai and Shenzhen exchanges, might appear narrow based on number of constituents but it’s actually more representative of the broader China A-Shares market than one might expect. Given the large market capitalization of its 50 constituents, the China A50 Index represents 43.5% of the market cap of the FTSE China A Free Index, which is itself comprised of over 800 constituents.

The industry composition of the FTSE China A50 Index might also raise questions about its representation of the China A-Shares market. The Financials sector comprises 60% of the index – nearly double the weight of the sector in the FTSE China A Free Index. However, a closer look at the subsector composition of the Financials sector reveals diversity across the Banks, Life Insurance, Real Estate, and Investment Services subsectors.

Source: FTSE Russell.

The FTSE China A50 Index performance track record has also helped the index maintain its popularity. By definition, the index is comprised of large companies – many considered to be pillar companies of the Chinese economy who are leaders in their industries. And as China A-Shares inclusion events have become more widespread among global index providers, the process has attracted more flows to China A50 constituents. As shown below, the FTSE China A50 Index has outperformed FTSE Russell’s broader China A indexes over the past five years.

Source: FTSE Russell.

The escalating global trade tensions has also been a tailwind for China A50 performance relative to broader China A-Shares indexes. By comparison, the FTSE China A50 Index has low exposure to the Industrials and Materials sectors, making its composition of companies only 5% export-driven.

With its relatively high concentration of constituents, one might expect the FTSE China A50 to be more volatile than broader China A-Shares indexes. But its track record has told a different story – as shown below, over the past five years, China A50 Index volatility has been mostly in-line with broader China A-Shares index volatility.

Source: FTSE Russell.

This could at least in part be explained by growing institutional foreign ownership of FTSE China A50 Index constituents. Longer-term institutional China A-Shares allocations could be tempering the high turnover associated with domestic retail trading.

The final reason why the FTSE China A50 Index is still relevant is the liquidity of its constituents, particularly during times of market volatility. As shown below, if we look at the five days with the biggest stock market swings in the past 12 months, trading volumes for China A50 Index constituents were considerably higher than other China A-Shares market cap segments.

Source: FTSE Russell.

Because China A50 constituents are highly tradeable, the index has also become the basis of some widely used financial products. FTSE China A50 Index futures are the only offshore China A Share futures contracts available to international participants, with growing open interest and liquidity. In addition, because of its history of relatively robust liquidity, several listed ETFs track the FTSE China A50 Index, and it remains highly relevant to investors despite the transformation in China’s economy and equity markets since its inception.

(The views expressed here are those of the author and do not necessarily reflect those of ETF Strategy.)