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US vs China – which is best for investors and where should you put your money?
There has been a simmering debate since the start of 2021 as to whether China might overtake the US as the engine of world growth over the coming decade.
However, our belief is that ultimately the US will continue to rule the roost economically and politically for the rest of this decade. Its pro-business attitude, both from Capitol Hill and the Federal Reserve, will ensure that companies continue to thrive and the economy continues to grow.
President Biden’s ambitious rescue plan is likely to pass in one form or another, and even if corporate taxes rise in the short term it is unlikely to put too much of a dampener on things.
Plus there are at least as many exciting US growth companies as there are Chinese companies.
That said, a balanced portfolio should really have exposure to both markets with actively-managed funds which seek out the most interesting growth opportunities and do all the hard work for you a good option.
At the end of the article we highlight some investment trusts to buy, all of which have shown that by superior stock selection they can beat their respective markets by a healthy margin.
China entered the pandemic earlier than other countries, and due to its unique ability to clamp down on freedom of movement it also exited the pandemic earlier, since when its economy has been firing on all cylinders and growth is expected to outstrip that of most developed countries this year and next.
The US, in contrast, was late to implement lockdown and vaccinations, and is exiting the crisis with falling industrial confidence and a stuttering jobs market, as shown by the latest disappointing payroll figures, while technology stocks are under the cosh due to inflation fears.
If the US is going to remain the dominant economic power this decade, then it’s reasonable to assume that many of the most valuable companies in the world will still be American.
If on the other hand China is going to dominate, we should expect to see more Chinese companies on the list of the world’s most valuable businesses.
Taking the decades which ended in 1990, 2000, 2010 and 2020, the list of the largest companies by market capitalisation at the end of each of the four periods tell their own story.
The last decade reflects the resurgence of technology stocks, both in the US and China, almost all of them consumer-facing. Interestingly, one company – Microsoft – has managed to make the list not twice but three times, showing how adept it is at finding new ways to grow.
For Alphabet, Amazon.com, Facebook and Tesla, the rise has been meteoric. From being fairly big companies to begin with, they have become goliaths, insinuating their way into most of our lives. The same is true of Alibaba and Tencent in China.
The question is, are there more Alibabas and Tencents waiting in the wings to usurp their US peers, or are there more US candidates for the 2030 list, companies which are ‘bubbling under’ at the moment but are about to begin their own meteoric journey?
IT’S NOT ALL ABOUT GDP GROWTH
There have been plenty of studies which show that stock markets and GDP growth have a low correlation with one another. A country with a faster-growing economy doesn’t necessarily generate higher stock market returns than a country with a lower economic growth rate.
China is a perfectly good example. Over the decade from 2010 to 2019 its economy grew by an average annual rate of 7.7% against just 2.2% for the US. That means that, on a cumulative basis, China’s economy more than doubled over ten years while the US economy grew by just 25%.
Yet 2010 to 2019 was pretty much a lost decade for equity investors in China, with the Shanghai Composite index losing 7% of its value over the period while the US S&P 500 index almost trebled in value.
That’s not to say there haven’t been some great investments in China, as demonstrated by the performance of Alibaba and Tencent, but if you had invested in a tracker fund you would have lost money.
While the Chinese economy has doubled in size, it is changes in the structure of the economy which matter most. From being reliant on fixed asset investment, often inefficient and fuelled by unsustainable amounts of debt, the authorities have sought to rebalance growth over the last decade by taking advantage of the vast amount of national savings to boost consumption.
A BALANCING ACT
It is widely expected that China will continue to grow faster than the US in the early stages of this decade, after it exited the pandemic earlier and on a stronger footing.
In the latest ‘Five-Year Plan’ published earlier this year, the government set out its key priorities: to make China a self-reliant technological and manufacturing powerhouse, prioritise quality of growth over quantity of growth, accelerate the drive towards a low-carbon economy, achieve ‘common prosperity’ and ‘elevate China’s leadership role in regional and global economic governance’.
China’s economy is increasingly service-driven, which makes it employment-intensive, but it faces a huge challenge – the labour force is shrinking. According to the latest census, the coronavirus pandemic caused the number of births in China to fall last year to its lowest since the Great Famine of 1961.
This slump in new births means China has to re-calibrate. Just a few years ago, demographers expected the population to peak in 2030, now they think it could happen as early as next year.
To combat the decline in the labour force – the working age population has already shrunk from 70% to 63% in a decade as the average age increases – tens of millions more people will need to migrate from rural areas to cities, and the government will need to raise the statutory retirement age, a contentious move which it attempted in 2015 and failed.
However, this will need to be accompanied by a huge increase in state spending on healthcare and pensions for those in work and those who have retired to continue feeling comfortable drawing on their savings to fund their spending.
Increased healthcare and state pension costs likely mean higher taxes on companies and on the working age population, so the government has to pull off a major balancing act if it is to avoid the economy slowing.
Meanwhile, the US has its own balancing act to pull off. president Biden’s ‘American Rescue Plan’ calls for over $4 trillion of government spending across all areas of the economy and social life.
To put the plan in perspective, the Obama administration’s Emergency Economic Stabilisation Act of 2008 cost the US government an estimated $700 billion to $800 billion, although all of the $440 billion of TARP funds used to stabilise the banking system were recovered, at a small profit.
Put simply, Biden’s spending plan is vast, with $2.3 trillion set aside for infrastructure spending and $1.9 trillion for a ‘families plan’. That America’s physical infrastructure is dated and needs a major overhaul is in no doubt. Its transport infrastructure in particular is light years behind China’s, which boats mag-lev trains and state-of-the-art airports.
The US’s digital infrastructure is also in dire need of upgrading, as shown by the recent cyber attack which halted the operation of a major US pipeline supplying roughly half the gasoline to the East Coast.
Hackers were able to steal hundreds of gigabytes of data from the company running the pipeline, then lock the firm’s computers and force the firm to pay a ‘ransom’ to prevent a data leak.
Utility companies are particularly vulnerable as their computer systems were often designed decades ago and security features are poor, but as commerce secretary Gina Raimondo observed, these sorts of attacks ‘are becoming more frequent, they’re here to stay, and we have to work with business to secure networks to defend ourselves’.
THE ART OF THE DEAL
While Donald Trump pitched himself as a brilliant deal-maker, president Biden is well known in Washington for being an arch negotiator. He knows full well his spending plans – and the tax reforms he proposes to part-fund them – face opposition not just from Republicans but from some within his own party.
By ‘going large’ on stimulus to begin with, he has given himself room to negotiate to a position where as few people as possible are unhappy. There are fears his corporate tax proposals will stifle investment, the opposite of what the US needs right now, but similarly by starting from an extreme position he has left room for an increase which both sides can agree, a ‘Goldilocks’ deal.
Also, many of those that control the purse strings are allies, with several regional Fed governors supporting the President’s call for ‘aggressive’ support for the jobs market and for families.
WHAT ABOUT TECH STOCKS?
Technology stocks have been the undoubted stars of the last decade, surfing the rollout of e-commerce, cloud computing, social media and more recently remote working which has driven demand for everything from routers and laptops to networking tools such as Teams.
The US has made noises about clamping down on the small clique of tech companies which dominate the stock market, but this would seem to be more a case of leaning on them to allow some trickle-down of technology – and ultimately earnings – to others in the sector.
In China, in contrast, the authorities are desperate to limit the power of domestic tech companies because they see them as a threat to the established order. Having amassed billions of bytes of data on the Chinese populace for their own commercial ends, the government wants to limit their power and is almost prepared to sacrifice the golden goose to get its way.
Ant Group, owner of the ubiquitous AliPay app and Huabei credit card and reckoned to be behind as much as 10% of China’s total consumer lending in 2020, has been ordered by the regulators to restructure, severely weakening its credit business.
Alibaba, which owns a 33% stake in Ant Group, has been fined $2.8 billion by China’s anti-trust regulators over restrictions it allegedly placed on those selling on its e-commerce platform. The fine itself is a drop in the ocean for Alibaba, but the message is clear.
New ideas and technology will still come from China, as James Anderson, outgoing manager of the Scottish Mortgage (SMT) trust points out. ‘The creative energy within the technology industries which used to be found in Silicon Valley more than anywhere else is now more and more found in China and North Asia’, he says.
So what of the current US tech leadership? We find it hard to believe that, having made the list more than once, Apple and Microsoft won’t remain among the world’s most valuable companies by the end of this decade.
The same can probably be said of Amazon.com and Alphabet, but could the appearance of Tesla mark its zenith? Its shares have already lost a third since their peak in January, more than enough to relegate it from the list already, and in an era when corporate governance is increasingly integrated into stock selection how many big investors can afford to look the other way while its founder makes policy on the hoof on social media platforms?
Ways to play China
Fidelity China Special Situations (FCSS)
Price: 398p – Discount to NAV: 2.7% – Gross Assets: £2 billion
The fund, the UK’s biggest China investment trust, is run by 25-year Fidelity veteran Dale Nicholls and has a five-star rating from Morningstar.
The trust has beaten the MSCI China index in US dollars by a handsome margin over one, three, five and 10 years, almost entirely through capital growth as the dividend is not that much more than 1%.
Nicholls looks for growth opportunities in China’s changing economy. Many of the stocks in the portfolio play into the growth of domestic consumption, supported by the natural development of the middle class, and the emergence of strong local brands.
More cyclical areas include tankers, where order books are at a historic low relative to the size of the fleet, and dry bulk such as industrial metals.
One of its most exciting holdings is Wuxi AppTec, a laboratory services firm which allows biotech companies to accelerate their research and development and plays into the healthcare and ageing population theme.
Also, the trust has invested in unlisted companies since launch in 2010 and can invest up to 10% of its assets in this space. It was an early investor in ‘future disruptors’ like online e-commerce firm Alibaba, which is still a top 10 holding.
JP Morgan China Growth & Income (JCGI)
Price: 583p – Discount to NAV: 5% – Gross Assets: £564 million
This fund, which also has a five-star rating from Morningstar, combines a focus on growth companies in the ‘new China’ with a predictable quarterly income, and yields just under 4% at current prices.
Managers Howard Wang and Shumin Huang have worked together on the fund for the last 15 years, over which time it has beaten the MSCI China index over one, three, five and ten years by a considerable margin.
As well as holdings in Alibaba, Tencent and Wuxi, the trust owns stakes in CATL, one of the world’s largest makers of batteries for electric vehicles, and Ping An Insurance, which as well as offering savings products has branched out into digital healthcare services, a market which has grown rapidly thanks to the pandemic.
Despite its income characteristics, the trust is underweight Chinese state-owned banks as they are not just slow growing but are seeing greater government involvement in their operations, something the trust is keen to avoid.
Ways to play The USA
Allianz Technology Trust (ATT)
Price: 256p – Discount to NAV: 7.6% – Gross Assets: £1.2 billion
Another five-star rated fund, the trust is managed by Walter Price, co-head of the AllianzGI Technology Team, who joined the firm in 1974.
It has beaten the Dow Jones World Technology Index over one, three and five years, and while its outperformance was more measured over the last one and three years it has left the index trailing since the start of 2021.
Technology stocks continue to benefit from strong tailwinds in areas such as cloud computing, big data, artificial intelligence, the internet of things and gaming.
Also, says Price, ‘We are seeing a wave of innovation in the technology sector: automobiles, advertising, security, retail, and web services are all being shaped and transformed by advances in technology’.
The current chip shortage has boosted the trust’s returns from stocks such as Applied Materials, Micron and Samsung Electronics, all among the top 10 holdings, while the uptick in cyber attacks will surely see companies such as CrowdStrike – another top 10 holding – continue to rack up impressive sales growth.
JPMorgan American (JAM)
Price: 632p – Discount to NAV: 4.6% – Gross Assets: £1.4 billion
For any general or non technology-biased US fund to have outperformed the S&P 500 index over the last one, three and five years is so rare that this trust is unique for being the only one in the Association of Investment Companies’ North American sector to have achieved this feat.
Managers Timothy Parton and Jonathan Simon have worked at JPMorgan for more than 30 years and 40 years respectively, although they only took over management of this flagship fund two years ago.
The emphasis is on capital growth rather than income, and the approach is multi-cap so the managers are able to own interesting smaller companies while the ‘permanent capital’ structure of the trust means they can let their ideas run.
The fund’s top five holdings are already among the top 10 biggest stocks in the world – Alphabet, Amazon, Apple, Berkshire Hathaway and Microsoft - while its most notable overweight versus the index is in financial stocks, with three more – Bank of America, Capital One and Loews – also on its list of top 10 holdings.
The fund’s focus on quality stocks has served it well despite the ‘value rotation’ seen in global markets and the managers look for opportunities during sell-offs to add to their high-conviction picks.