BRICs Casualty Seen in ETFs New Confidence Without China

Investors flocking to exchange-traded funds to chase the longest emerging-market stock rally since January 2013 are bypassing China.

Investors withdrew a net $42 million from ETFs focused on Chinese equities and bonds since the MSCI Emerging Markets Index began rallying on March 20, data compiled by Bloomberg show. That’s the only outflow from the ETFs for the so-called BRIC countries or biggest developing markets as funds investing in Brazil, India and Russia attracted a combined $422 million.

A 9.7 percent gain in the Hang Seng China Enterprises Index since March 20 through yesterday, the most among the world’s major benchmarks, is failing to convince investors that the worst is over following a 25 percent plunge in the past three years. A report on April 1 showed Chinese manufacturing contracted last month the most since July, underscoring what Premier Li Keqiang called “difficulties and risks” as he tries to control bond defaults and pollution that threatens to stoke public discontent.

“Foreign investors are still skittish about what’s going on there in China,” Robbert Van Batenburg, a director of market strategy at Newedge Group SA in New York, said by phone. “There’s uncertainty about bond defaults. That causes people to keep their powder dry.”

Emerging Markets

The Hang Seng China Enterprises Index, which tracks Chinese stocks listed in Hong Kong, fell 0.6 percent to 10,027.23 at 10:01 a.m., taking its decline this year to 7.3 percent. The MSCI Emerging Markets Index rose for a ninth day, gaining 0.1 percent and paring its drop for the year to 0.1 percent.

The outflow from Chinese ETFs since March 20 represents 0.5 percent of their $8.9 billion assets, according to data compiled by Bloomberg. About $800 million have left the funds this year.

Chris Palmer, a portfolio manager at Henderson Global Investors Ltd., said most of negative news on China has already been reflected in the market and valuation of some stocks, such as consumer companies, are too cheap to pass.

The H-share gauge is trading at 6.9 times estimated earnings over the next 12 months, compared with a valuation of 16 times for the Standard & Poor’s 500 index of U.S. stocks, according to data compiled by Bloomberg. The 57 percent discount was near the steepest since at least 2005.

“There’s still opportunities to make money in China,” Palmer, who oversees about $2.5 billion in assets, said by telephone from London. “Investors are more selective.”

Debt Payments

Chinese stocks rallied over the past two weeks as signs of economic slowdown sparked optimism that policy makers may take steps to stimulate economic expansion. The government will speed up construction projects to support growth, the State Council said March 19, the same day that the securities regulator approved the first share sales by developers in about four years.

That isn’t enough for investors including Michael Shaoul, the chairman of Marketfield Asset Management LLC, to buy Chinese stocks as a growing number of companies struggle to pay off their debt following a five-year credit binge.

Xuzhou Zhongsen Tonghao New Board Co., a closely held Chinese building materials company, missed a 10 percent coupon payment due March 28 on the 180 million yuan ($29 million) of notes, the 21st Century Business Herald reported yesterday. It would mark the second default for the country’s onshore note market, following one by Shanghai Chaori Solar Energy Science & Technology Co. last month.

‘Danger Remains’

The government may also direct state-owned enterprises to allocate resources to projects that are not profitable in a bid maintain economic stability, according to Shaoul.

“I still have a hard time liking Chinese stocks,” Shaoul, whose firm oversees more than $20 billion, said in an e-mail. “The danger remains that the authorities will sacrifice corporate profitability in the state-owned sector to the greater good of economic stability.”

Investors added $219 million to Russia-focused ETFs since March 20, or 15 percent of their assets. Brazil funds attracted $106 million, while India fetched $96 million.

Brazil’s Ibovespa benchmark has rebounded 12 percent since reaching an eight-month low on March 14, on speculation President Dilma Rousseff’s administration may improve its policy mix to spur growth ahead of the October election.

Russia, Ukraine

Easing tensions between Russia and Ukraine helped Russia’s Micex Index rise 11 percent from a four-year low reached on March 14. India’s S&P BSE Sensex advanced 6 percent this year to a record as the opposition Bharatiya Janata Party leads in opinion polls, sparking optimism that a new government will revive the economy following elections ending in May.

The iShares China Large-Cap ETF, the largest Chinese fund in the U.S., gained 0.3 percent to $35.90 yesterday, paring its decline this year to 6.4 percent. Investors have pulled out $590 million from the fund since Dec. 31, Bloomberg data show.

Short interest on the fund, or bets that the ETF will decline, fell to 17.6 percent, from a record 29 percent of shares outstanding on March 24, according to data compiled by Markit Group Ltd.

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