Kicking the Elephant Out of the Room: The Case for EMs ex-China

Rapid growth in the ETF market over the past two decades has made it easier for investors to add emerging markets (EM) to their portfolios—but also has made investors more aware of the complexities and risks associated with such an allocation. Along those lines, China has recently been the "elephant in the room," leading some to question whether a global EM allocation is worth the trouble. In this article, we assess various arguments for a modern approach that calls for carving China out of one's EM allocation and treating it differently from a traditional cap-weighted global emerging markets portfolio. Those considerations range from China's size within the EM basket to more technical aspects of portfolio construction, and even sentiment toward China and value-based reasons for casting it aside. Our conclusions will help frame the discussion of whether investors should separate China and EM ex-China, and how they might go about investing among and within those two allocations.