China’s mainland stock market (A shares), represented by the Shanghai Composite is down one third from its high, although still up 15 percent for the year-to-date period. The mainland market is where the Chinese are allowed to buy and have used margin at an increasing rate, up 5 fold this year. As the market corrected in mid-June, these leveraged positions were sold creating more selling pressure. The Hong Kong market (H shares), which does not include Shanghai, is where nearly all institutional international investors have positions which has experienced one-half the volatility of the mainland.
Chinese equities are part of a diversified portfolio and fit within the emerging market allocation. As you move upstream, emerging markets are joined with developed markets to make up the International equity exposure of a portfolio. As a U.S. investor, generally, emerging markets make up one-fifth of the total international allocation, which is less than a third of a well-diversified portfolio. Another way of saying, direct Chinese stock exposure is a 0-2 percent position for any of our models.
However, we continue to be positive on the international developed equity markets. The European Central Bank and Japan are expected to ease monetary policy into mid-2016. Most of these economies have started to show real benefits and have a long runway of economic growth ahead of them. On the valuation side, the developed markets are still attractively priced relative to their history and the U.S. In our appropriate models, we continue to hold a significant position in international developed equities.