iShares China Large Cap ETF: Value Trap (NYSEARCA: FXI) | Private Equity Weekly

generalize

China is the world’s second largest economy, growing at a rate of more than 8% every year since 1970. According to forecasts, China should continue to grow at a rate of about 5%. government planner and wall street economist.By current standards, this is a rapid growth growth rates that can fuel global economic growth and support demand for raw materials such as oil and copper, while its factories churn out products with increasing added value, while Chinese consumers are crucial to many luxury brands. In short , despite some issues, top-down macro policies should support stock market activity. So why are Chinese stocks at near 20-year lows and with price-to-earnings ratios as high as 10 times? It’s time to buy the iShares China Large Cap ETF (NYSE:FXI)?In short, it comes down to politics, the Chinese Communist Party needs to recapture Investor confidence.

Performance

China’s stock market has been a rollercoaster ride over the past 20 years, with dramatic ups and downs, providing traders with golden opportunities but underperforming long-term investors. I compared FXI to the Hang Seng (Hong Kong) and Shanghai Composite Index, two major Chinese stock market indexes, and found that the ETF tracked the Hang Seng Index more closely. I also compared FXI to its larger China ETF peers, including Kingsoft CSI China Internet (KWEB), which I covered in December. As you can see from the chart below, it appears to have suffered greater losses than its peers during the economic downturn, while rebounding has been limited.

China Macro Outlook

this overall situation Still looks good, and China’s economy The slowdown is driven by a shift away from over-reliance on residential real estate toward a more balanced consumer services sector and higher-value industrial output.end Residential overbuilding It may take a decade or more to normalize, and while the impact on the construction industry and its supply chains is already being felt, the hangover on consumer savings and bank debt is likely to linger and become a factor for faster growth or a shift to services. resistance to economic transformation. This is similar to the savings and loan crisis of the 1980s, the subprime mortgage crisis of 2008 and the ensuing commercial real estate crisis that are now putting pressure on many regional banks. The cleanup will take time and cost billions of dollars, but will ultimately lead to a stronger overall economy.

investor confidence

Portfolios and FDI (foreign direct investment) confidence in the tech sector have been severely shaken by Trump’s tariff hikes, factory shutdowns due to the COVID-19 pandemic, Xi Jinping’s inauguration as lifelong president, and the shift away from a more regulated free-market economy. This combination of factors, combined with slower growth, has led companies to look for alternative manufacturing sources closer to domestic markets or in friendlier (rule of law) jurisdictions, such as Mexico, Vietnam, Indonesia and Turkey. Portfolio investors are uncertainty averse and are voting by selling given a string of poor results and rising macro and geopolitical risks. This is evident from the weight of Chinese stocks in the stock market. MSCI Emerging Markets Index It has dropped from a peak of 38% to 24% and faces further cuts. In my view, China needs to regain investor confidence to attract foreign direct investment and portfolio investors to restore valuations, which remain elusive and unpredictable.

Portfolio up 28%

FXI holds 50 stocks, 28 of which are my consensus estimates, representing 90% of AUM. As shown in the table below, the portfolio is concentrated in technology stocks such as Alibaba (BABA), Tencent (OTCPK:TCEHY) and Meituan (OTCPK:MPNGF) (33%), as well as the banking and insurance industry, which accounts for 25%. It is not a very diversified portfolio and is limited to Hong Kong-listed companies. Nonetheless, based on the YE24 consensus price target, I calculate a weighted upside potential of 28%.

revenue and profit

Using consensus data, I find that ETF holdings have revenue growth of 9% over 2024-25, less than twice China’s GDP growth. These companies appear to be more mature or have structural growth issues that limit expansion. In comparison, the S&P 500 Index (SPX) has similar revenue growth expectations but an economic growth rate of 2.5%. Net profit margin is expected to improve 100 basis points to 18.4%, mainly driven by Tencent. In comparison, the S&P 500 rose even more, at 18.7%, according to consensus.

Earnings per share grew 13%

Based on consensus data, I calculate that the ETF’s EPS growth rate is 13%, in line with the S&P 500 and well below the 21% EPS growth estimate for the Nasdaq 100 (NDX). There are some growth drags on the portfolio, with larger holding Alibaba expected to grow at 5%, in line with the banking sector. The ETF’s growth fundamentals are unspectacular and may not be representative of China’s economic potential.

Valuation: Bargain or Value Trap

The ETF trades cheaply at a price-to-earnings ratio of 10x, or 0.8x PEG (price-to-earnings ratio over earnings per share growth), well below the S&P 500’s 1.4x PEG. The question is what needs to happen for these Chinese stocks to multiplex expansion. As mentioned earlier, valuations are the result of a lack of investor confidence due to the unpredictability of recent political policies and their impact on business growth dynamics as well as fundamental rule of law fundamentals. Therefore, I believe that a portfolio of this ETF may be at risk of becoming a value trap, and the reason for its low price is that the downside risk is as much as the upside risk.

in conclusion

I have a sell rating on FXI. This ETF has two disadvantages, firstly the portfolio is made up of poor industry diversification and is limited to Hong Kong listed companies that appear to be more mature in the medium term or face structural challenges in achieving higher EPS growth, such as banks . The second is a lack of confidence in China as a whole, which has kept investors away from predicting when or whether the CCP will take the right actions. I am concerned that this ETF may be a value trap and prefer to focus on the China exposure of other ETFs.

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