How to avoid the Shanghai surprise

When China sneezed on 27 February, the whole world caught cold. Within a few hours the Shanghai composite index plunged 8.8 per cent, its biggest one-day fall since February 1997, causing Hong Kong’s markets to shiver. The contagion quickly spread to Japan, Korea, Australia and India. Before the day was out, leading stocks in Europe and then in the United States had joined the sick list.

Shanghai’s unwelcome surprise was a new development in global markets more commonly shaken by American ailments — and it has served only to raise the level of unease many investors already felt about buying Chinese stocks directly. After all, the Shanghai and Shenzhen markets are still stuffed with the same moribund state-run enterprises that mainland investors were trading ten years ago. Most have pedestrian names sprung from a more socialist era — China First Pencil and Xinxing Ductile Iron Pipes come to mind — and are run by local cadres who treat corporate governance with the sort of contempt China also reserves for democracy and human rights.

Fortunately, there are better and more reliably profitable ways to invest in China, notably via foreign companies that are helping to write whole chapters of the country’s staggering growth story. Take for example China’s crying need both to clean up its horribly polluted air, land and waterways, and to cut its growing dependence on foreign oil. Auto majors Toyota and Honda and, to a lesser extent, General Motors have taken the lead in alternative drive systems — hybrid and electric cars that burn cleaner fuel more efficiently — and their stocks are a good long-term bet.

The Beijing-based management consultant David Wolf believes that China will leapfrog even hybrids and go straight to electric cars, just as it once bypassed clunky old VHS cassettes and went straight to DVD.