Understanding China

Since returning to HK more than two years ago, I’ve been often challenged by my old pals inside China and my Chinese professional friends with the same question: do you really understand China?

An embarassing question indeed to a Shanghai-born man who left the country only when he was 27 years old – old enough to boast I should have known everything about China. If I couldn’t understand China, how could you trust those HK, NY or London based native English speakers to understand this country?

Nevertheless, during the course of the last 2+ years, I’ve gradually accepted the fact that understanding China has nothing to do with mastering of Chinese language; neither does it have to do how long you’ve been living in China. I did NOT, I should admit, understand China, my own country when I lived there before 1997; I did NOT understand it, either, during most part of the first decade of 21st century.

When most people talk about China, they think about a sovereign country.  Therefore, they would analyze China in the same way they do with any other modern country, i.e. looking into government policies, watching leadership personality, etc.

THIS IS JUST WRONG. Today’s China is still just one of many dynasties passing in its long history. Unlike old dynasties, however, China today is not ruled by one emperor family, but ruled by intellectual “elites” representing a variety of interest groups under one common title “China Communist Party” (“CCP”).  

This finding might not be too shocking to many people as such concept has been brought up many times before. However, I  doubt most people really give such finding any serous thoughts, particularly when they invest in China.

A typical strategy investing in China is combining both top-down and bottom-up approaches by trying to identify what’s government policy focus first and then screen potential beneficiaries. If you don’t truly understand China, you will simply follow what the government says – and most likely, it would lead to investment disasters.

For people who do understand China, the top priority is finding out what the key interest groups inside the CCP is really trying to achieve, which is not necessarily always the same as what they say. And the next step is determining what’s the price to be paid if they really want to achieve that goal and if that price can be justified by the very same group making such decision. The fundamental analysis comes into the next part to see if market forces can accomodate such determination and what by-product effect could incur during the process of implementing such policies.

The complexity comes when the key interest groups are in conflict and there needs to be some compromise – or even worse, one group will have to fight and beat the other group to get the upper end, which could lead to some nasty outcomes.

Not giving any concrete examples here, I just want to emphasize again: the market-based rational fundamental analysis only comes into the latter part of evaluation process and by no means is the determining factor. Nevertheless, if you have deep understanding about what interest group is driving the policy, fundamental analysis can give you some edge by having quantifiable scenario outcomes in your mind.

Good luck for everybody’s China investing -and Merry Christmas & Happy New Year!

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