Isn't lack of transparency in China a huge risk for international stock index?

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Vision
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Isn't lack of transparency in China a huge risk for international stock index?

Post by Vision » Tue Oct 15, 2019 5:09 am

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by motorcyclesarecool » Tue Oct 15, 2019 5:19 am

Yes.
Cooked books is always a risk. With U.S. securities of all types, too.

The real question is whether you’re being sufficiently remunerated for the risk you’re taking.
Understand that choosing an HDHP is very much a "red pill" approach. Most would rather pay higher premiums for a $20 copay per visit. They will think you weird for choosing an HSA.

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Seasonal » Tue Oct 15, 2019 5:25 am

motorcyclesarecool wrote:
Tue Oct 15, 2019 5:19 am
The real question is whether you’re being sufficiently remunerated for the risk you’re taking.
Exactly. Put another way, the market is aware of the risk and has priced Chinese stocks (and other investments) to take the risk into account.

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by sambb » Tue Oct 15, 2019 5:30 am

investing in stocks in generak is a huge risk.... compared to CDs. but also potentially more reward

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by columbia » Tue Oct 15, 2019 5:31 am

Absolutely.

How does the market accurately price in corruption, fraudulent accounting and the risk of state seizure?

The answer is that it cannot accurately do so.

How far off is it? Nobody knows.

Everyone has to make their own decision on whether the potential payoff is worth the additional risk factors (compared to developed markets).

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by asif408 » Tue Oct 15, 2019 5:38 am

The nice thing in that China is only 3% of VT if that concerns you. I'd be more concerned about US fraud since they makes up 55% of VT. Sure China is corrupt but let's not pretend that Worldcom and Enron didn't exist or that some future Worldcom or Enron types currently exist in the US stock market.

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Vision » Tue Oct 15, 2019 5:49 am

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Vision » Tue Oct 15, 2019 5:50 am

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by nisiprius » Tue Oct 15, 2019 6:03 am

It's not a huge risk because according to Vanguard, in the Total International Stock Index Fund, VTIAX the percentage of dollars invested in China is only 7.7%; and in VTWAX (Total World), only 3.4%.

So if you are holding the whole world at cap weight--either in a single fund or in a pair, Total Stock and Total International, 3.4% of your money is in China. If you happen to be holding international at less than global cap weight--I don't want to re-open that debate here, but many of us do--it is less. For Vanguard's own all-in-one funds, for example, 40% of their stock allocation is international, so about 3.1%. For me, in my own case, it's less than 2%. And then, too, if you are not holding 100% stocks, then the percentage of total portfolio in Chinese stocks is even less.

I think that as a practical matter, in a portfolio, you might be exaggerating the relative risk of China because you are underestimating the overall risk of stocks as a whole. It is putting it too strongly to say China is just a drop in the bucket, but if every Chinese stock instantly went to zero tomorrow, then the total international stock index would drop 7.7%. If the US market fell 7.7% that wouldn't even be called a "correction."

We tend to exaggerate the risks that bother us the most. For example, I don't know if it's still allowed, but insurance companies used to sell a vile and irrational product called "dread disease insurance," which was cheap because it only covered a handful of illnesses that actually scare people, which turn out not to be statistically the things that cause most of the medical bills.

In the case of China, this is just a normal risk of investing in foreign markets in general, and emerging markets in particular. Laws vary all over the world. Even in developed markets, for example, compared to the US, laws against insider trading may be weak or nonexistent. In the case of emerging markets, Vanguard's summary prospectus says that the principal risks include
Emerging markets risk, which is the chance that the stocks of companies located in emerging markets will be substantially more volatile, and substantially less liquid, than the stocks of companies located in more developed foreign markets because, among other factors, emerging markets can have greater custodial and operational risks; less developed legal, tax, regulatory, and accounting systems; and greater political, social, and economic instability than developed markets.
So this is just par for the course.

China's been in the news and you have been educating yourself about China. It's always going to be there, if it's not China it will be something else. And the risks are known to all investors.

China is just one hot pepper floating around in the bowl of risk soup. By deciding to invest in stocks at all, you've decided that overall the risk is worth it. My idea is that it's best to just eat the soup--broccoli, monkey eyeballs and all--and just take an honest ladleful, and not think it's easy to get all the good stuff yourself and stick your sister with the gross stuff. In general, if you look too closely at the details within any portfolio, the mere act of focussing attention on a part of it is going to make you see problems in that part.

Of course, if you feel that you don't want emerging markets, Vanguard has a developed markets index fund and so do other companies.
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by AlohaJoe » Tue Oct 15, 2019 6:07 am

Vision wrote:
Tue Oct 15, 2019 5:09 am
So if we look at world stock index like VT which also holds Asia stocks - isn't it a huge risk that Chinese stock data is pretty much fabricated?
No it isn't a huge risk. Vanguard's Total Word funds hold less than 5% China. How much of a haircut do you think "lack of transparency" might lead to? A massive 50% drop? Bigger than the Global Financial Crisis? Then VT would drop by 2.5%. Not even noticeable. Even if China went to $0 because of "lack of transparency", VT would only drop 5%. VT dropped by more than that back in the first week of August. Did you even notice that back in August? (If I did, I've totally forgotten about it now just 10 weeks later....)

Maybe August is a huge risk for international stock indexes? :twisted:

edit: seems like nisiprius was typing a similar reply at the same time as me....

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by vineviz » Tue Oct 15, 2019 6:33 am

Vision wrote:
Tue Oct 15, 2019 5:49 am
motorcyclesarecool wrote:
Tue Oct 15, 2019 5:19 am
Yes.
Cooked books is always a risk. With U.S. securities of all types, too.

The real question is whether you’re being sufficiently remunerated for the risk you’re taking.
But US securities are more strictly controlled by government while Chinese gov can actually encourage to cook books and present false data.
If you think the US economic system is 18x less corrupt than the Chinese system, I encourage you to spend more time in either Chinese or US businesses.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by nisiprius » Tue Oct 15, 2019 7:33 am

For some kind of look at the overall transparency issue, see Transparency International's Corruption Perception Index. Are they objective? I don't know. And it is a perception index.

You will see that
  • the US is hardly the cleanest country in the world
  • China is hardly the dirtiest
  • The US is a lot cleaner than China.
Yes, developed markets countries are generally cleaner than emerging markets countries. As always, "more risk" does not mean worse investment, or even less prudent investment. Whether it's prudent or not depends on the whole picture of your investment portfolio.

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by sd323232 » Tue Oct 15, 2019 7:38 am

Vision wrote:
Tue Oct 15, 2019 5:09 am
So if we look at world stock index like VT which also holds Asia stocks - isn't it a huge risk that Chinese stock data is pretty much fabricated?

We already know that China is extremely shady with data they provide and most of it is probably fabricated and inflated. So if you invest in total stock market you buy big chunks of China with this fabricated stock data and shady dealings.

Isn't it a risk?
What about usa companies? They can fabricate anything also, remember Enron? Theoretically, it is possible that all money put into vanguard are ending up in someone else's pocket, ala bernie Maddoff, and all statement are faked. Theoretically, it is possible cause it happened before!

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by JoeRetire » Tue Oct 15, 2019 7:45 am

Vision wrote:
Tue Oct 15, 2019 5:09 am
So if we look at world stock index like VT which also holds Asia stocks - isn't it a huge risk that Chinese stock data is pretty much fabricated?

We already know that China is extremely shady with data they provide and most of it is probably fabricated and inflated. So if you invest in total stock market you buy big chunks of China with this fabricated stock data and shady dealings.

Isn't it a risk?
Has it been a huge problem so far? Nothing new here.
Don't be a lemming.

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by firebirdparts » Tue Oct 15, 2019 7:49 am

Be wary of the modern liar's payoff where any statement can be met by totally made up imagination. I don't just mean here, I mean everywhere. If you don't want to think about the question, you can just say "All company results are false and fabricated in every country", and I have in fact heard people say that. It's not really true. It may be that one company fools you, and that is a great argument for index investing. It may be that some company is manufacturing phony earnings and you notice, but they think you don't notice.

In this discussion we have the comparative questions of whether foreign investing is a "huge" risk, or whether all stock investing is a more huger risk. I suppose somebody could argue that not investing is the mostest hugest risk of all. The truth is that none of these are huge risks. They're just the regular kind. In terms of transparency, emerging markets are the worst if you're going to generalize. China is considered emerging, but it's obviously in a special category. History has shown that emerging markets do produce some returns. They don't steal all the money every time.

If you look at the Callan chart, you'll see that emerging market stocks win the prize for most volatile. They are not dull.
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Vulcan » Tue Oct 15, 2019 7:56 am

nisiprius wrote:
Tue Oct 15, 2019 6:03 am
China is just one hot pepper floating around in the bowl of risk soup. By deciding to invest in stocks at all, you've decided that overall the risk is worth it. My idea is that it's best to just eat the soup--broccoli, monkey eyeballs and all--and just take an honest ladleful, and not think it's easy to get all the good stuff yourself and stick your sister with the gross stuff.
This right here is the best metaphor for passive market cap investing I've ever seen anywhere :-)

Nisi, you just keep getting better! :beer
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by JoMoney » Tue Oct 15, 2019 8:15 am

It is concerning, along with the reliability of the information you're given.
The documentary (which are always sensationalized) "China Hustle" suggests that even Chinese "stocks" that follow the SEC regulatory process to be listed on a U.S. exchange are providing bad information, big-name U.S. accounting firms not actually verifying the balance sheets presented and the corporate officers signing the statements have no real legal liability that can be enforced by a U.S. person, and the process of selling company shares to a foreign person may not be legitimately recognized by China.

These "stocks" may not even represent the same legal claim people have come to expect, it's not really a fractional share of company ownership. You can't vote for the board of directors or on corporate actions. You (or a big institution) can't buy all the shares and take the company private. Even if the company thought it was in there best interest to move (for taxes or other economic benefits), the Chinese government has been considerably less open to these things. It's very easy for investment capital to flow into China, and very tightly controlled trying to find a way out.
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by HEDGEFUNDIE » Tue Oct 15, 2019 8:25 am

With lack of transparency comes opportunity.

Emerging markets are one area where there is a case for active management:

https://www.portfoliovisualizer.com/fun ... mark=VEIEX

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by nedsaid » Tue Oct 15, 2019 8:31 am

JoMoney wrote:
Tue Oct 15, 2019 8:15 am
It is concerning, along with the reliability of the information you're given.
The documentary (which are always sensationalized) "China Hustle" suggests that even Chinese "stocks" that follow the SEC regulatory process to be listed on a U.S. exchange are providing bad information, big-name U.S. accounting firms not actually verifying the balance sheets presented and the corporate officers signing the statements have no real legal liability that can be enforced by a U.S. person, and the process of selling company shares to a foreign person may not be legitimately recognized by China.

These "stocks" may not even represent the same legal claim people have come to expect, it's not really a fractional share of company ownership. You can't vote for the board of directors or on corporate actions. You (or a big institution) can't buy all the shares and take the company private. Even if the company thought it was in there best interest to move (for taxes or other economic benefits), the Chinese government has been considerably less open to these things. It's very easy for investment capital to flow into China, and very tightly controlled trying to find a way out.
This is an excellent summary of my concerns about Chinese stocks.
A fool and his money are good for business.

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by AlohaJoe » Tue Oct 15, 2019 8:40 am

JoMoney wrote:
Tue Oct 15, 2019 8:15 am
These "stocks" may not even represent the same legal claim people have come to expect, it's not really a fractional share of company ownership. You can't vote for the board of directors or on corporate actions. You (or a big institution) can't buy all the shares and take the company private.
You're talking about Facebook and Snapchat here, right? :D

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by garlandwhizzer » Tue Oct 15, 2019 1:31 pm

HEDGEFUNDIE wrote:

Emerging markets are one area where there is a case for active management:

https://www.portfoliovisualizer.com/fun ... mark=VEIEX
The example given, an actively managed fund using a dividend strategy in single country, China, compares those results to a EM index fund which uses a different strategy (cap weighting) and importantly holds 65% of its assets in non-China countries. This is a classic apples to oranges comparison which does not effectively make the case that in general active beats passive in EM. Instead it is cherry picking an active winner in a single segment/single country fund without considering the host of active losers.

Larry Swedroe wrote an article looking at the question of whether active beat passive in the less efficient EM markets based on analysis of past performance of existing funds.

https://www.etf.com/sections/index-inve ... nopaging=1

His conclusions:
Summary

The bottom line is that active management is just as much a loser’s game in emerging markets as it is in U.S. large-caps. It’s a game that, while possible to win, the odds of doing so are so poor that it isn’t prudent to try.

Importantly, no one has found a way to identify which few active funds will manage to outperform in the future, as there is no evidence of persistence of outperformance beyond the randomly expected. Just like roulette or craps, the surest way to win a loser’s game is to not play.
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by TomCat96 » Tue Oct 15, 2019 1:49 pm

Vision wrote:
Tue Oct 15, 2019 5:09 am
So if we look at world stock index like VT which also holds Asia stocks - isn't it a huge risk that Chinese stock data is pretty much fabricated?

We already know that China is extremely shady with data they provide and most of it is probably fabricated and inflated. So if you invest in total stock market you buy big chunks of China with this fabricated stock data and shady dealings.

Isn't it a risk?
Insofar as China is not a big proportion of the world index no.

But I disagree fundamentally with those who say the market has already accounted for such risks. If it were true that the market could simply accomodate such risks and continue to grow, then there would be no point to market regulation at all. In fact legal systems wouldn't matter. Governments would not matter.

This is a fundamental misunderstanding on this website of how markets works. The idea of the efficient market is that information is efficiently priced in. (strong, semi-strong, weak depending on the ambit of information efficiently priced in)

If you then remove the ability of the market to efficiently price in information, you cannot then go around and say that the market has already priced it in.

No.

Interfering with the free flow of information to be priced in is in fact the one thing the market cannot accommodate.

If everyone routinely cooked their books, if no information was legitimate, if fraud was rampant, then you do not have an efficient market that has accurately priced in all that fraud, what you have is an inefficient market! If I am living in Soviet Russia and I don't know the fair market value of any industries because it's all propaganda numbers, how does an financial analyst price in a jump in expected cash flows?

What is the proper market discount of a propaganda number? What is the proper Price to Earnings ratio?

If the Chinese government has cities of buildings with no tenants in them, and declares their books fine, what is the proper discount the efficient market can incorporate when buying those Chinese stocks? Did the government want to "lie a little bit today" or "lie alot"

What is the book value of lies?

Seriously. What is the generally accepted accounting principle rule for discounting a lie? What is the book value of a lie? Do i list it under assets, liabilities? Does it matter that I can move one to the other because I'm fabricating it?

It simply makes no sense to say the market can price in fraud.

The poorer the flow of information (and the quality of information), the more inefficient the market.

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by iamlucky13 » Tue Oct 15, 2019 1:57 pm

Yes, I'd call it a risk.

However, as noted above, China is 5% of the global market, which limits the impact of holding funds with Chinese stocks in them. I think I'm more concerned about the potential trickle down effect to the US market than the direct effect on my Total International holding.

Also, China's CAPE is half that of the US. I propose that, among other factors, lack of transparency is one of the concerns active investors have priced into their valuation of Chinese companies.
TomCat96 wrote:
Tue Oct 15, 2019 1:49 pm
If you then remove the ability of the market to efficiently price in information, you cannot then go around and say that the market has already priced it in.
The market does not price in information it does not have.

It does not know which companies have misstated finances and by how much.

However, it does know that financial oversight is not as strict in China as in the US, and that there are issues like government currency manipulation.

The market can price in this "known unknown" as reflecting elevated risk.

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by vineviz » Tue Oct 15, 2019 3:03 pm

iamlucky13 wrote:
Tue Oct 15, 2019 1:57 pm
TomCat96 wrote:
Tue Oct 15, 2019 1:49 pm
If you then remove the ability of the market to efficiently price in information, you cannot then go around and say that the market has already priced it in.
The market does not price in information it does not have.

It does not know which companies have misstated finances and by how much.

However, it does know that financial oversight is not as strict in China as in the US, and that there are issues like government currency manipulation.

The market can price in this "known unknown" as reflecting elevated risk.
I was about to make the same point. The most basic quality of efficiency is that market prices incorporate all available information and expectation, but EMH never posits that markets somehow know every possible piece of information with 100% accuracy.

Indeed, setting prices under conditions of uncertainty is exactly what markets do best.
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Seasonal » Tue Oct 15, 2019 4:24 pm

TomCat96 wrote:
Tue Oct 15, 2019 1:49 pm
But I disagree fundamentally with those who say the market has already accounted for such risks. If it were true that the market could simply accomodate such risks and continue to grow, then there would be no point to market regulation at all. In fact legal systems wouldn't matter. Governments would not matter.
...
It simply makes no sense to say the market can price in fraud.

The poorer the flow of information (and the quality of information), the more inefficient the market.
The market can accommodate a lack of information or unreliable information by lowering prices to account for the risk. Effective government regulation of markets certainly matters - it increases confidence in the accuracy of information, lowers risk and therefore increases prices. This is good for investors and good for honest companies.

Of course the market can price in the possibility of fraud. If it "thinks" there is a high risk of fraud it will lower prices dramatically.

You may disagree with the market as to how much to decrease prices to account for these risks, but that's not really different from any other disagreement with the market. If you throw up your hands and avoid markets that make you uncomfortable you'll miss some diversification benefits. It's hard to say how much this will matter.

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Northern Flicker » Wed Oct 16, 2019 2:01 am

It is concerning, along with the reliability of the information you're given.
The documentary (which are always sensationalized) "China Hustle" suggests that even Chinese "stocks" that follow the SEC regulatory process to be listed on a U.S. exchange are providing bad information, big-name U.S. accounting firms not actually verifying the balance sheets presented and the corporate officers signing the statements have no real legal liability that can be enforced by a U.S. person, and the process of selling company shares to a foreign person may not be legitimately recognized by China.
The video is also from 2004. I’m not sure the shell company issue is still happening. There are lots of concerns with investing in stocks. Stocks in some countries are significantly riskier than others. If you don’t care for the risk of some or all emerging market stocks but want non-US exposure, just invest in VTMGX/VEA. It has about 81% of the exposure of a total int’l index fund, but excludes countries designated as emerging markets by FTSE.

Holding VTMGX instead of a total int’l index fund is not going to make or break your portfolio return. You likely will have a little less diversification (the downside) but also likely a little less tail risk (the benefit), although both of those features are debatable.

The reason EM equity is perfectly reasonable to hold is that you are diversified across a bunch of EM countries but holding it in aggregate at an allocation level comparable to the equity of a single developed market country (UK).
Index fund investor since 1987.

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by fennewaldaj » Wed Oct 16, 2019 4:28 am

garlandwhizzer wrote:
Tue Oct 15, 2019 1:31 pm
HEDGEFUNDIE wrote:

Emerging markets are one area where there is a case for active management:

https://www.portfoliovisualizer.com/fun ... mark=VEIEX
The example given, an actively managed fund using a dividend strategy in single country, China, compares those results to a EM index fund which uses a different strategy (cap weighting) and importantly holds 65% of its assets in non-China countries. This is a classic apples to oranges comparison which does not effectively make the case that in general active beats passive in EM. Instead it is cherry picking an active winner in a single segment/single country fund without considering the host of active losers.

Larry Swedroe wrote an article looking at the question of whether active beat passive in the less efficient EM markets based on analysis of past performance of existing funds.

https://www.etf.com/sections/index-inve ... nopaging=1

His conclusions:
Summary

The bottom line is that active management is just as much a loser’s game in emerging markets as it is in U.S. large-caps. It’s a game that, while possible to win, the odds of doing so are so poor that it isn’t prudent to try.

Importantly, no one has found a way to identify which few active funds will manage to outperform in the future, as there is no evidence of persistence of outperformance beyond the randomly expected. Just like roulette or craps, the surest way to win a loser’s game is to not play.
Garland Whizzer
It is maybe worth noting that Matthews has a number of other funds and they seem to all do pretty well. They have a specialize niche (Asia) and seem to have done well there.

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Northern Flicker » Wed Oct 16, 2019 12:23 pm

HEDGEFUNDIE wrote:
Tue Oct 15, 2019 8:25 am
With lack of transparency comes opportunity.

Emerging markets are one area where there is a case for active management:

https://www.portfoliovisualizer.com/fun ... mark=VEIEX
If you compare an active fund focused on one country to the broad EM index, the impact of active management is so diluted by other effects that you cannot draw conclusions about active management from that.

But MCDFX also beat the passive funds MCHI (China excluding A-shares) and CNYA (China A-shares) over holding periods where each pair compared both existed so it may well be a good product (admittedly only about 3 years for CNYA).

But if you look at page 6 of the PDF below, you can see the SPIVA scorecard showing that 85% of active EM equity managers underperform their passive benchmark net of fees:

https://eu.spindices.com/documents/rese ... nload=true

This does not support a blanket statement that EM is an area in general where active management wins.
Index fund investor since 1987.

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Northern Flicker » Wed Oct 16, 2019 2:39 pm

It also should be noted that MCDFX holds a portfolio of 48 stocks with the largest (Tencent) occupying almost 5% of the portfolio.
Index fund investor since 1987.

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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by bck63 » Wed Oct 16, 2019 5:46 pm

Seasonal wrote:
Tue Oct 15, 2019 5:25 am
Exactly. Put another way, the market is aware of the risk and has priced Chinese stocks (and other investments) to take the risk into account.
Are you sure about that? Was the market "aware of the risk" of the junk-filled mortgage backed securities in 2007-2008?

"The market" is not an omnipotent deity. Human factors, particularly greed, often skew so-called efficient markets.

Of course, I am not an economist, so I could be entirely wrong. Would welcome hearing other views.

Trader Joe
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Trader Joe » Wed Oct 16, 2019 5:51 pm

Vision wrote:
Tue Oct 15, 2019 5:09 am
So if we look at world stock index like VT which also holds Asia stocks - isn't it a huge risk that Chinese stock data is pretty much fabricated?

We already know that China is extremely shady with data they provide and most of it is probably fabricated and inflated. So if you invest in total stock market you buy big chunks of China with this fabricated stock data and shady dealings.

Isn't it a risk?
Yes, you are 100% correct. As an American investor, investing in international equities (which includes China) is definitely not worth the risk. I stick with VFIAX or VTSAX.

KlangFool
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by KlangFool » Wed Oct 16, 2019 5:55 pm

Vision wrote:
Tue Oct 15, 2019 5:49 am
motorcyclesarecool wrote:
Tue Oct 15, 2019 5:19 am
Yes.
Cooked books is always a risk. With U.S. securities of all types, too.

The real question is whether you’re being sufficiently remunerated for the risk you’re taking.
But US securities are more strictly controlled by government while Chinese gov can actually encourage to cook books and present false data.
Enron.

KlangFool

columbia
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by columbia » Wed Oct 16, 2019 6:14 pm

bck63 wrote:
Wed Oct 16, 2019 5:46 pm
Seasonal wrote:
Tue Oct 15, 2019 5:25 am
Exactly. Put another way, the market is aware of the risk and has priced Chinese stocks (and other investments) to take the risk into account.
Are you sure about that? Was the market "aware of the risk" of the junk-filled mortgage backed securities in 2007-2008?

"The market" is not an omnipotent deity. Human factors, particularly greed, often skew so-called efficient markets.

Of course, I am not an economist, so I could be entirely wrong. Would welcome hearing other views.
Markets (and Index funds in particular) excel at efficiently expressing the preferences and choices of investors; that in no way implies or means that those choices are well informed or even rational.

bck63
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by bck63 » Wed Oct 16, 2019 7:13 pm

columbia wrote:
Wed Oct 16, 2019 6:14 pm
bck63 wrote:
Wed Oct 16, 2019 5:46 pm
Seasonal wrote:
Tue Oct 15, 2019 5:25 am
Exactly. Put another way, the market is aware of the risk and has priced Chinese stocks (and other investments) to take the risk into account.
Are you sure about that? Was the market "aware of the risk" of the junk-filled mortgage backed securities in 2007-2008?

"The market" is not an omnipotent deity. Human factors, particularly greed, often skew so-called efficient markets.

Of course, I am not an economist, so I could be entirely wrong. Would welcome hearing other views.
Markets (and Index funds in particular) excel at efficiently expressing the preferences and choices of investors; that in no way implies or means that those choices are well informed or even rational.
Ahhh. Thank you! Makes sense.

columbia
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by columbia » Wed Oct 16, 2019 7:19 pm

bck63 wrote:
Wed Oct 16, 2019 7:13 pm
columbia wrote:
Wed Oct 16, 2019 6:14 pm
bck63 wrote:
Wed Oct 16, 2019 5:46 pm
Seasonal wrote:
Tue Oct 15, 2019 5:25 am
Exactly. Put another way, the market is aware of the risk and has priced Chinese stocks (and other investments) to take the risk into account.
Are you sure about that? Was the market "aware of the risk" of the junk-filled mortgage backed securities in 2007-2008?

"The market" is not an omnipotent deity. Human factors, particularly greed, often skew so-called efficient markets.

Of course, I am not an economist, so I could be entirely wrong. Would welcome hearing other views.
Markets (and Index funds in particular) excel at efficiently expressing the preferences and choices of investors; that in no way implies or means that those choices are well informed or even rational.
Ahhh. Thank you! Makes sense.
To be clearer:

1. The idea that the markets can even vaguely accurately price in the corruption of the Chinese market seems borderline crazy.
2. Until that changes (and unlikely in my lifetime), you won’t see me owning a piece of that action.

Northern Flicker
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Northern Flicker » Wed Oct 16, 2019 10:36 pm

bck63 wrote:
Wed Oct 16, 2019 5:46 pm
Seasonal wrote:
Tue Oct 15, 2019 5:25 am
Exactly. Put another way, the market is aware of the risk and has priced Chinese stocks (and other investments) to take the risk into account.
Are you sure about that? Was the market "aware of the risk" of the junk-filled mortgage backed securities in 2007-2008?

"The market" is not an omnipotent deity. Human factors, particularly greed, often skew so-called efficient markets.

Of course, I am not an economist, so I could be entirely wrong. Would welcome hearing other views.
This is based on the efficient market hypothesis which says that all publicly known information is already priced in. (Technically, priced in so quickly that you cannot act on it, though high speed traders might disagree).

But EMH does not say that a lack of information is already priced in. So it is quite rational to believe that opacity risk is not priced in accurately even if you firmly believe in efficient markets. As previously unavailable information becomes available, it will be priced in.

Also information is priced in probabilistically. As events actually occur, their outcome also will be priced in.
Index fund investor since 1987.

stlutz
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by stlutz » Wed Oct 16, 2019 11:14 pm

An unfortunately not super cheap solution to the problem:

https://www.etf.com/FRDM

alex_686
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by alex_686 » Wed Oct 16, 2019 11:56 pm

Northern Flicker wrote:
Wed Oct 16, 2019 10:36 pm
This is based on the efficient market hypothesis which says that all publicly known information is already priced in. (Technically, priced in so quickly that you cannot act on it, though high speed traders might disagree).

But EMH does not say that a lack of information is already priced in. So it is quite rational to believe that opacity risk is not priced in accurately even if you firmly believe in efficient markets. As previously unavailable information becomes available, it will be priced in.

Also information is priced in probabilistically. As events actually occur, their outcome also will be priced in.
EMH does say the lack of information is priced in. As you state, information is priced probabilisticly. Poor information means poor inputs into the model, so you get wide distributions. That is, higher risk. And you can price risk. I will point out that the Equity Risk Premium is pretty high in China for this particular reason.

You can compare some well run Chinese companies with some poorly run ones. Board is majority outsiders, low state control, etc. The well run ones have P/E ratios and ERP closer to their DM counterparts.

Ari
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Ari » Thu Oct 17, 2019 12:31 am

Ironically, the very fact that posters here are saying "I don't want to invest in China because the market cannot price in the risk of cooked books" is part of the market's mechanism for pricing the Chinese market. These posters are avoiding China because of corruption fears. This lowers the demand of Chinese stocks, which in turns lowers the price.

Now, there are, I think, other legitimate concerns to the efficiency of Chinese markets, and of the global stock market in general. Things like governments propping up the prices artificially and capital flow restrictions meaning the market cannot adjust the prices because the capital cannot flow from an overpriced market to an underpriced one. These are, in my opinion, legitimate concerns that I'd love to see discussed more on BH. But saying that the market cannot price unknowns seems way off to me. That's what markets DO! The future is also an unknown, yet markets are incorporating the likelihood of future events all the time. It can incorporate the likelihood of fraud, as well.
All in, all the time.

Northern Flicker
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Northern Flicker » Thu Oct 17, 2019 1:27 am

EMH does say the lack of information is priced in.
We’ll just have to disagree there. Opacity risk is by its nature likely to be mispriced.
Last edited by Northern Flicker on Thu Oct 17, 2019 3:57 am, edited 1 time in total.
Index fund investor since 1987.

fwellimort
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by fwellimort » Thu Oct 17, 2019 2:39 am

There is nothing we can do as investors if Xi decides tomorrow that domestic stocks are only valid for its citizens.
Different country, different laws.

Ya, there are huge risks of investing in the international market. The reason we diversify at end of day is because no one really knows the future.
For instance, the US might go through what Japan did for 30~40 years after its peak. The USD may also no longer be the de facto currency.

Or, maybe international market is at its peak right now and it's only the US that will grow going forward. Maybe India is the next boom in our lifetime. Maybe China's stock will never go up (maybe the boom only occurs on the A shares which most funds don't have proper access to).

Or maybe US realizes social security isn't enough and decides to then nationalize pension funds (e.g. 401k/ira).
Truth is, investing will always have 'some risk'. Whether you get properly rewarded for that risk, no one knows. For instance, in theory, Emerging Markets should have outperformed the US market in the past decade or two. In reality.. that wasn't the case.

At the end of day, stocks are valued at whatever the other trader decides to pay for. And all these EMH and what not, is just a hypothesis at end of day. Who knows what it actually means. All stocks cannot be efficient on all short / intermediate / long term. So what is the stock market actually efficient at? The short term? The long term? The intermediate? Just like greedy algorithms are not always optimal, the concept of EMH cannot always be optimal on all short / intermediate / long term.
Don't try to think too hard. We as passive investors can only hope for the best at the end of day.

And let's not kid ourselves here with US exceptionalism. We had Enron. We had financial crisis that we got out by printing a boat load of cash (if we weren't the reserve currency during the time, US might still be undergoing something far far worse than the Great Depression -also, for a country that is so exceptional, why did it have to go through the Great Depression? Had it not been for WW2, who knows what state US would be in today-).

Truth is, no one knows. There's variables out there the market just can't price "efficiently" in because the public just doesn't understand the correlation between the variables and the market itself. So why worry. Just sit back and enjoy the ride.

Chicken Little
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Chicken Little » Thu Oct 17, 2019 5:14 am

In retrospect, it seems like plenty of people knew that the housing landscape was a disaster waiting to happen before the market imploded. The information was available. Was that really priced in?

Was the average investor happy with the market's pricing ahead of that crash?

Isn't it disingenuous to say that the market is efficient (with the available information) except when people act irrationally?

bck63
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by bck63 » Thu Oct 17, 2019 5:34 am

Northern Flicker wrote:
Wed Oct 16, 2019 10:36 pm
bck63 wrote:
Wed Oct 16, 2019 5:46 pm
Seasonal wrote:
Tue Oct 15, 2019 5:25 am
Exactly. Put another way, the market is aware of the risk and has priced Chinese stocks (and other investments) to take the risk into account.
Are you sure about that? Was the market "aware of the risk" of the junk-filled mortgage backed securities in 2007-2008?

"The market" is not an omnipotent deity. Human factors, particularly greed, often skew so-called efficient markets.

Of course, I am not an economist, so I could be entirely wrong. Would welcome hearing other views.
This is based on the efficient market hypothesis which says that all publicly known information is already priced in. (Technically, priced in so quickly that you cannot act on it, though high speed traders might disagree).

But EMH does not say that a lack of information is already priced in. So it is quite rational to believe that opacity risk is not priced in accurately even if you firmly believe in efficient markets. As previously unavailable information becomes available, it will be priced in.

Also information is priced in probabilistically. As events actually occur, their outcome also will be priced in.
This is fascinating. Thanks!

Seasonal
Posts: 550
Joined: Sun May 21, 2017 1:49 pm

Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Seasonal » Thu Oct 17, 2019 5:49 am

Northern Flicker wrote:
Thu Oct 17, 2019 1:27 am
EMH does say the lack of information is priced in.
We’ll just have to disagree there. Opacity risk is by its nature likely to be mispriced.
The amount of information available is, itself, information.

Chicken Little
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Chicken Little » Thu Oct 17, 2019 6:05 am

Ahead of the tech crash, the chairman of the Federal Reserve told me that the NASDAQ was overvalued. I assume he reached that conclusion based on available information. I chose to believe the market.

What is a novice investor supposed to do with this concept of an efficient market? Are they interpreting it correctly? Could a novice investor misinterpret what is meant by an efficient market, and therefore not understand the level of risk they are taking? Would you expect the novice investor to misinterpret the concept of an efficient market based on the way it is discussed here?

alex_686
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by alex_686 » Thu Oct 17, 2019 7:38 am

Northern Flicker wrote:
Thu Oct 17, 2019 1:27 am
EMH does say the lack of information is priced in.
We’ll just have to disagree there. Opacity risk is by its nature likely to be mispriced.
EMH is one of those misunderstood things. I will note that you have move the field posts once, going from not priced in to mispriced. But that too is within the realm of EMH.

EMH says you come up with the best available price based on the information less price discovery. Opacity does require a fair amount of work and leaves a huge error margin for "price discovery".

So the market has come up with a price for this risk. It is the consensus price. It is the best price with the available information - not necessarily the accurate price in hindsight. You think it is mispriced. O.K., what do you think it should be? How confident are you in this belief. Have you acted on this belief? Have you over-weighted China, under-weighted it, or even shorted it? Because your action does turn into information, which gets fed back into the probabilistic price for risk. And if you do have superior skill and come up with a more accurate price then the consensus, you will make money, you will be engaging in the price for risk, and you will be engaging in price discovery.

Please not, I am not criticizing your view on EMH, not China.

Mr.BB
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Mr.BB » Thu Oct 17, 2019 7:43 am

A couple of years ago the head of mutual fund was on TV (I don't remember the name of the fund). He said they were pulling their holdings completely out of China because they simply could not figure out how China was were coming up with the numbers that they did regarding their economy, production, etc. Basically not enough transparency.
"We are what we repeatedly do. Excellence, then, is not an act, but a habit."

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vineviz
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by vineviz » Thu Oct 17, 2019 11:11 am

Mr.BB wrote:
Thu Oct 17, 2019 7:43 am
A couple of years ago the head of mutual fund was on TV (I don't remember the name of the fund). He said they were pulling their holdings completely out of China because they simply could not figure out how China was were coming up with the numbers that they did regarding their economy, production, etc. Basically not enough transparency.
This kind of behavior reduces the price of the asset, which effectively increases the expected return for investors who are willing to beat the risk that this manager was (apparently) not willing to bear.

This is how markets set prices based on uncertainty.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch

Valuethinker
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Valuethinker » Thu Oct 17, 2019 11:23 am

columbia wrote:
Wed Oct 16, 2019 7:19 pm
bck63 wrote:
Wed Oct 16, 2019 7:13 pm
columbia wrote:
Wed Oct 16, 2019 6:14 pm
bck63 wrote:
Wed Oct 16, 2019 5:46 pm
Seasonal wrote:
Tue Oct 15, 2019 5:25 am
Exactly. Put another way, the market is aware of the risk and has priced Chinese stocks (and other investments) to take the risk into account.
Are you sure about that? Was the market "aware of the risk" of the junk-filled mortgage backed securities in 2007-2008?

"The market" is not an omnipotent deity. Human factors, particularly greed, often skew so-called efficient markets.

Of course, I am not an economist, so I could be entirely wrong. Would welcome hearing other views.
Markets (and Index funds in particular) excel at efficiently expressing the preferences and choices of investors; that in no way implies or means that those choices are well informed or even rational.
Ahhh. Thank you! Makes sense.
To be clearer:

1. The idea that the markets can even vaguely accurately price in the corruption of the Chinese market seems borderline crazy.
2. Until that changes (and unlikely in my lifetime), you won’t see me owning a piece of that action.
Look at the PE of the Russian market some time.

Partly that's sectoral. A lot of natural resources companies. But, even then, the stocks are amazingly cheap. If you don't believe the earnings numbers then look at the dividend yields.

And there's a reason for that. The market is discounting the well understood Russian phenomenon of the managers, and the government, stealing assets from external shareholders. And if you look at Gazprom, it's basically a branch of the Russian state, a personal fiefdom of the president.

But it's a very low PE and a half decent yield.

I bought an EM Dividend Yield ETF for that reason - it tilts to all sorts of horrible places, and away from China. But it does have quite a bit of Taiwan which is a much less horrible place.

China? There's a risk of over enthusiasm on stocks - the incipient asset bubble spilling over. But you do get significant discounts to US equivalent stocks, I think especially eg energy stocks (CNOOC etc.).

Valuethinker
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Re: Isn't lack of transparency in China a huge risk for international stock index?

Post by Valuethinker » Thu Oct 17, 2019 11:25 am

Mr.BB wrote:
Thu Oct 17, 2019 7:43 am
A couple of years ago the head of mutual fund was on TV (I don't remember the name of the fund). He said they were pulling their holdings completely out of China because they simply could not figure out how China was were coming up with the numbers that they did regarding their economy, production, etc. Basically not enough transparency.
This is an example of information that is well understood by the market.

Chinese GDP growth numbers are totally unreliable because the statistic is manipulated for political reasons - the State sets a goal for GDP growth, and it is achieved.

Other metrics have been used, such as electric power production, but it may be those also become unreliable once the Party realises they are being targetted by external analysts.

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