China A-Shares: The More Things Change, the Stronger the Case for Active

China’s onshore equity market has evolved meaningfully over the past decade. The number of listed companies has grown steadily, access for foreign investors has improved, and trading infrastructure has modernized. Yet several features still distinguish it from other major equity markets. Benchmark providers apply restrictive inclusion rules and capitalization haircuts, retail investors account for a large share of trading activity, and analyst coverage is thin across much of the listed universe.

These features reinforce the case for active investing in China A-shares for two reasons. First, passive allocations based on standard emerging market (EM) and global benchmarks leave investors underexposed to one of the world’s largest equity markets. Second, the combination of inefficiency and liquidity creates a fertile environment for stock selection.

That said, not all active approaches are equally well suited to exploit this opportunity set. Growth-oriented discretionary strategies that once thrived amid speculative froth have struggled in recent years as fundamentals and sentiment turned. We believe that systematic approaches offer the breadth and balance to generate stable outperformance—but they require sophistication and adaptation to the A-share market’s unique features.

EM Benchmarks: Still Underweight China

China’s investable onshore universe is a diverse set of over 5,000 companies, representing roughly $5.5 trillion in float-adjusted capitalization.¹ By number of listings, it is the largest investable equity universe in the world; by capitalization, it ranks second. The market has continued to grow and modernize, supported by regulatory reforms.

These reforms included the launch of the STAR market, which piloted a registration-based listing framework that has been adopted across other domestic exchanges.² The changes have shifted regulatory focus in the IPO process from assessing investment merits to enforcing disclosure compliance, provided mechanisms for more firms to list, and made new-issue pricing and trading more market-driven.

Investors who allocate to China based on EM or global benchmark weights are materially underweight the vast onshore market—and by extension, China’s public equities as a whole. On a pure investable-cap basis, China accounts for roughly 50% of EM’s public equities, which coincides with the country’s GDP share.³ Yet standard EM equity benchmarks assign the country only about a 25% index weight. 

This gap exists because only a small portion of A-share investable capitalization—about $400 billion, or roughly 7% of the investable total—is reflected in the index (Figure 1).

Figure 1: China’s Onshore Equity Universe

This gap results from how index providers treat A-shares and the contours of the onshore listed market itself. First, major index providers, including MSCI, FTSE Russell, and S&P Dow Jones, still maintain significant inclusion constraints and capitalization haircuts of roughly 75% to 80%. In the absence of MSCI’s 80% haircut, investable A-shares’ implied weight would exceed 33%.

The index restrictions reflect the providers’ subjective judgments about investability and accessibility (and, in some cases, geopolitical risk). Yet there has been material improvement in aspects of market accessibility that index providers highlighted in inclusion reviews from 2017–2019. Investment quotas have been eliminated, foreign exchange and remittance rules have become more flexible, and the expansion of the Stock Connect program reduced reliance on more onerous license-based access.⁴

ll be less fully represented than many other EM markets because China’s onshore equity universe is unusually tilted toward smaller-cap stocks. In Figure 1, the thousands of off-benchmark names accessible through Stock Connect and QFII licenses have average investable capitalizations of $1 billion and $640 million, respectively.

As a result, while conventional EM mid- and large-cap benchmarks typically capture roughly 85% to 90% of constituent countries’ investable capitalization, the comparable number for China A is closer to 41%. Figure 1 also documents that this differential has grown in the 2020s. Figure 1 shows that recent issuance has been concentrated in off-benchmark names.

There are two practical consequences. First, an allocator with a benchmark allocation to EM would find their China exposure concentrated in a narrow slice of the country’s investable equities, one emphasizing large offshore listings while leaving much of the domestic universe unrepresented. While some investors’ views on China may happen to align with this impact of the index providers’ judgments, allocators should not assume that alignment.⁵ In particular, for those anchoring exposures to economic production, unwinding benchmark inclusion and weighting constraints on A-shares can bring China exposure back in line with the country’s global economic footprint.⁶ More broadly, we would recommend openness to modulating exposure to onshore China through dedicated A-share allocations alongside EM or EM ex-China mandates.

Second, the small-cap orientation of the A-share market has distinct investing value. Its small firms tend to be domestically oriented, making full A-share market exposure a useful diversifier in a global portfolio. China’s onshore market also offers a particularly attractive environment for stock selection.

Stock Selection in China A-Shares

Several features of China’s onshore equity market contribute to this compelling opportunity set.

First, retail investors account for an uncommonly large share of A-share trading volume, roughly 60%. Although this share has declined somewhat, Figure 2 shows that it remains far above levels in most developed markets, where retail activity typically accounts for less than one-third of turnover. It is also higher than in other major EMs, including Korea, Taiwan, and India. This matters because retail trading tends to create and amplify inefficiencies, supporting stock selection opportunities. In China’s onshore market, for example, sell-side research confirms that retail participation is often associated with short-term overreaction to news and subsequent reversals.⁷

Figure 2: Retail Participation across Major Global Markets

A second source of inefficiency is thin analyst coverage, particularly outside the large-cap segment. Figure 3 shows that analyst coverage among small-cap A-shares roughly halved between 2016 and 2018, and it has hovered around 40% since.⁸ Our research also highlights an interesting pattern in where analysts focus: In order to pick up coverage on new issues, they tend to drop more-seasoned firms.

Figure 3: Analyst Coverage in Onshore Equities 

While the A-share market is relatively inefficient, it is also highly liquid despite its small-cap orientation. A-share stocks below the $1 billion threshold are three to six times more actively traded than similarly sized firms in other markets.⁹ Small-cap A-shares also have lower trading costs. Figure 4 shows that their bid-ask spreads are consistently tighter than for comparably sized stocks in other major developed and emerging markets; their spreads more closely resemble those of global mid- and large-cap stocks.

Figure 4: Median Bid-Ask Spreads in China-A Shares

Together, these features create a rare combination for active investors: persistent inefficiency alongside enough liquidity to harvest stock-selection alpha at scale. Moreover, the limited analyst coverage does not imply limited information. For investors who are equipped to make use of it, there is plenty of data available outside of traditional research channels.

Better Outcomes from Breadth and Balance

Between 2017 and 2020, discretionary growth strategies in China A-shares delivered exceptional benchmark-relative returns. As Figure 5 shows, the median manager in this cohort generated approximately 11% annualized excess return, effectively doubling benchmark performance. But that regime turned in 2021. Over the subsequent five years, the median manager in the same group produced annualized excess returns of about -3%.

Figure 5: Active Manager Performance – Excess Returns

What changed? Our analysis suggests that many of these portfolios were unbalanced in several respects. They were concentrated—holding only 40 to 50 companies, tilted toward large- and mega-cap stocks, and were overweight real estate-linked financials and related industries. These portfolios initially benefited from performance chasing that propelled a narrow frothy trade, but they became vulnerable as stress emerged in the real estate sector and regulators cracked down.

By contrast, high-breadth systematic strategies have delivered more stable outcomes. As Figure 5 shows, the median systematic manager generated positive excess returns during both periods.

In our view, this contrast in performance is not accidental. Scalable systematic forecasting, portfolio construction, and implementation methods are especially well suited to a market as broad, inefficient, and liquid as China A-shares. For investors with the right processes, these conditions are conducive to stable generation of stock-specific alpha from diverse sources rather than relying on narrow thematic exposures.

For traditional discretionary managers, however, leveraging the expansive opportunity set poses steep challenges: How to cover the full market and manage a portfolio with sufficient breadth to fully leverage the opportunity set? Lack of process scalability helps to explain why discretionary A-share managers tend to pursue stock selection based on narrow drivers. 

But even for systematic managers, the unique features of the A-share market call for special process adaptations. These include investment analysis of diverse alternative information sources, including company and exchange releases, news flow, social media posts, and management discussions, all in the local language. The peculiar market structure also implies that some predictive signals function differently in A-shares than elsewhere, such as the relationship between trading volume and future prices. Such differences in signal behavior favor systematic approaches with forecasting models that are flexible enough to capture market-specific nuance.

Finally, improvements in trading infrastructure call for ongoing refinement of execution to maximize returns. Progressive market structure reforms, including tighter controls on trading suspensions, improved trading continuity, and more efficient post-trade processing, have created a more predictable and institutionally mature execution environment.¹⁰ Such changes have facilitated broader adoption of algorithmic execution, raising the potential for improved outcomes for managers who incorporate thoughtful portfolio construction and implementation. 

Conclusion

China’s onshore equity market has evolved, but not in ways that diminish the case for active investing—if anything, the case has strengthened. Among active strategies, this market’s breadth, composition, and information environment favor high-breadth, scalable, and sophisticated systematic investing approaches. The market offers such managers an uncommon opportunity to deliver meaningful and stable benchmark-relative outperformance.