The blue-blooded investment and banking house, with over £4 billion of client money, said the amount of debt in China has surged to around $23 million from $9 million in the past five years, a situation that cannot persist and could end messily.

Avoid China
– that’s the recommendation of the investment boss at Rothschild Wealth
Management. A build-up of debt in the world’s second-largest economy is
unsustainable and brings with it the risk of a credit crunch, it says.

The blue-blooded investment and banking house, with over £4
billion of client money, said the amount of debt in China has surged to around $23 billion from $9 billion in the past five years, a situation that cannot persist
and could end messily.

“We are very concerned about the situation in China and
believe the credit bubble is likely to burst at some point. In November there
was an important meeting for the Central Committee of the Communist Party of
China, the highest political authority,” Dirk Wiedmann, head of investments at Rothschild Wealth Management,
said in a note.

“During the Third Plenum President Xi rolled out his
blueprint for the central government reforms. The 46-page document released
after the plenum included everything from weakening the role of state owned
enterprises to liberalisation of interest rates and capital markets as well as
a relaxation of the one-child policy. The indicated reforms are a step in the
right direction but are not a panacea to the country’s credit problems and
slowing growth,” he said.

Wiedmann is worried that China’s economic growth has been
driven by debt, which has risen by 20 per cent a year over the past decade;
this debt lies predominantly with local governments and non-state-owned
businesses, and now stands at more than 200 per cent of the country’s gross
domestic product.

China reform plan reactions

The comments come at a time when most wealth management
firms such as UBS and Coutts have been broadly positive about the recent
package of intended reforms from Chinese policymakers, seeing them as going
further in making supply-side reforms than expected. Even so, an enduring worry
for some managers has been the amount of leverage in the Chinese economy, such
as its property sector. Chinese equity markets have lagged those of the developed
world, including Japan,
this year.

“Although equity valuations appear cheap, we advise avoiding
the temptation of looking for short-term, tactical investment opportunities.
The market could fall rapidly at the first signs of any problems,” Wiedmann’s
note said.

“Instead, investors should ensure their portfolios are well
diversified by incorporating uncorrelated instruments and assets could help to
cushion the impact of the credit bubble bursting as well as other associated
risks. They include specialist macro hedge funds that follow the situation in China
closely and have the ability to gain exposure in ways that could deliver
attractive returns if the worst-case scenario plays out. These investments
should offer diversification when China’s financial system begins to show
increasing signs of stress,” he said.

We recommend investors avoid direct exposure to China and
protect their portfolios against the associated risks,” he added.