Global institutional LPs try to separate rhetoric from country risk when assessing emerging markets, which means they are reluctant to dismiss China out of hand even though geopolitical tensions have made it more challenging, the Milken Institute Global Conference in Los Angeles heard.

Speaking a week before the Biden administration increased tariffs on a range of Chinese imports, Molly Murphy, CIO of Orange County Employees Retirement System (OCERS), noted in a panel discussion that both US presidential election candidates would likely come out strong on China. However, OCERS was already wary based on the country’s demographic and economic outlook.

“We have been underweight China for the last two years just on that alone. We are trying to look at currency risk and the real country risk we are taking on. Hopefully, the rhetoric will stay in the noise zone, but every day is a new opportunity to be wrong on that,” said Murphy, whose USD 3.5bn private equity portfolio features managers such as Orchid Asia and GGV Capital.

“We will see what happens as we enter the frenzy of the last gasp of the election cycle – it could get a lot more uncomfortable. But our board has been supportive of understanding the risks in the portfolio and not all the pundits.”

The University of Southern California (USC) endowment was worth USD 7.46bn as of June 2023, of which 13.8% was in venture capital and 11.6% in private equity. According to Amy Diamond, CIO of USC’s investment office, the endowment generated strong returns out of China starting in the early 2000s, and venture capital was central to that.

“We still hold a lot of those investments today. When we look at our exposure to China, half if not more is in private investments where we have less flexibility. On the public side, it’s really the competition for capital. Why would we look to invest outside the US? We would have to get some kind of incremental return or believe there is some diversification benefit,” said Diamond.

“We compare opportunities rather than make a specific decision to put an X through a country.”

Hostplus, an Australian superannuation fund with AUD 120bn (USD 80bn) in assets, also chose private markets as the primary mode of access to China. Its balanced plan has a 10% allocation to private equity, of which over half is in VC. Broken down by geography, the PE portfolio is 9.3% China. Speaking on a separate panel, CEO David Elia said that geopolitics has complicated decision-making.

“I suspect that over time we will find that government policy will influence how we go about investing our money, in particular areas and particular regions,” Elia said, referencing the “general expectation on the part of government” that investors would pull money out of Russia.

“As it stands today, we are an ongoing investor in China through listed stocks and private equity. But we are also finding opportunities in other parts of Asia. India is interesting – complex, but interesting and diverse. We are pivoting away from China to some degree into India.”

Victoria Funds Management (VFM), a sovereign wealth fund for the Australian state of Victoria with AUD 80bn in assets, is cautious of China for similar reasons. CEO Kate Galvin said that VFM is trimming overall emerging markets exposure due to a perceived risk-return imbalance. It recently made its first commitment to an Indian credit fund, but only after tracking the GP for four years.

The Indian opportunity was also flagged by Murphy of OCERS and Diamond of USC. However, it is qualified optimism. “I’m hesitantly bullish on India only because I’ve done two round trips of disappointment,” said Murphy. “If you’re in the business long enough, every 10 years it’s the next greatest thing until it’s not.”

Other Asian markets came into focus as potential beneficiaries of efforts to diversify China-centric supply chains. Allison Hill, state CIO of Australia’s Queensland Investment Corporation (QIC), which has over AUD 100bn in assets and an AUD 8.5bn private equity portfolio, highlighted Southeast Asia – and its appeal as a relatively low-cost manufacturing centre – in this context.

She is wary of illiquid exposure to China given the chances of investment risk spiking or stakeholders agitating for divestment. More broadly, QIC tries “to balance what we see as the risk versus the return,” said Hill. “The world is getting much more bifurcated in the blocs that are building from an economic perspective, and so it gets more challenging from an investment perspective.”

Boeing, which has USD 123bn across different pension plans, strives for the same high-level approach before diving into country-specific conversations. Data points are entered into risk analysis systems and the team looks at overall portfolio exposure to certain themes or markets, before assessing the extent of the risk, said Liz Tulach, Boeing’s CIO.

One objective is to ensure opportunities are not overlooked amid concerns about risk. Tulach is bullish on India, but she is willing to be patient on China as well. “China will be interesting given the valuations,” Tulach said. “You just have to hold your breath and hang on tight.”