An Efficient Avenue for Finding the Next Big Winners Among Chinese Stocks

As advisors well know, stock picking, regardless of region in question, is difficult. The task is even harder when it comes to small caps. Take it to international small caps and selecting individual names in that asset class is truly burdensome.

Add China and its history of dubious, financially flimsy smaller companies, many of which have at one time or another listed in the U.S., and the task of identifying viable stocks is tough even for professional investors.

On the other hand, this is the world's second-largest economy we're talking about and it's an increasingly relevant destination for a wide array of clients. When it comes to allocating to China, much of the allure comes by way of the country's vibrant internet and technology sectors. Though those groups have been under intense regulatory scrutiny in recent months, there's no denying China is home to its own cadre of story stocks, including Alibaba (NYSE:BABA), (NASDAQ:JD) and Nio (NYSE:NIO), among others.

Though it's just one example, Alibaba is an ideal comparison to Amazon (NASDAQ:AMZN) in myriad ways, including it's the type of stock clients wish they had known about a lot sooner. Fortunately, there is an avenue that makes identifying the next big stories among Chinese stocks a lot easier: The STAR Market.

Looking for Shining STARs

In non-colloquial terms, the STAR Market is officially known as the SSE Science and Technology Innovation Board. As its name implies, its primarily home to smaller Chinese healthcare and tech companies – two sectors with a reputation for dynamism in that country.

The STAR Market isn't old – it turns two years old next month. But it serves useful functions, including acting as a launching pad for private science and technology companies to get to initial public offerings (IPOs). Despite the aforementioned controversies associated with some newly public Chinese companies over the years, there's still domestic and global appetite for this fare. As such, the STAR Market is one of the largest IPO exchanges in the world.

“Recent increases in fund-raising activity on Chinese exchanges can largely be attributed to the STAR Market, which accounted for 47% of capital raised across China’s Mainland A-Share market in 2020,” according to KraneShares.

The STAR Market plays another important role. It's a proving ground of sorts for possible inclusion in the SSE Composite Index and Shanghai-Hong Kong Stock Connect. Don't be quick to criticize that strategy. It's one frequently used in the U.S. For example, the NASDAQ Next Generation 100 Index is the “junior varsity” for the popular Nasdaq-100 Index and the exchange traded fund tracking the next-gen benchmark has over $1 billion in assets under management in just eight months on the market.

Tapping Innovation

Another benefit of the STAR Market is that its requirements for  admittance are likely to keep clients from companies heavily controlled by Beijing and those that are currently epicenters of geopolitical controversy – two traits to avoid, particularly in the current environment.

Rather than dabbling in the STAR Market on their own – itself a burdensome endeavor – advisors can discuss the KraneShares SSE STAR Market 50 Index ETF (NYSEARCA:KSTR) with clients.

KSTR provides “exposure to companies poised to be China’s future leaders across industries that could represent the growth engine of China for decades to come,” notes KraneShares.

KSTR debuted in late January, but proving some asset allocators are warming to new ETFs, it's already a success story with almost $101 million in assets under management. It's not going to be a major chunk of client portfolios, but it fills a void worth filling and KSTR offers risk-tolerant clients the growth exposure and international diversification they likely want.

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