Fidelity China Special Situations (LSE:FCSS) has been making the case for a strengthening Investment story in China, following annual results in which stock selection delivered a clear Margin over the index.

Fidelity China Special Situations (LSE:FCSS) has spent recent months setting out why it believes the investment case for China is improving. Its central theme has been a change in the investment story, founded on better earnings, innovation and valuations.

The trust's most recent full set of figures covers the year to 31 March and was published in June. Net asset value total return was 10.7% and the share price total return 9.5%, against 1.6% for the MSCI China index in sterling. Last year's interim figures were published on 10 December.

About the company

Fidelity China Special Situations is a closed-ended investment trust listed in London and a member of the FTSE 250. Its objective is long-term Capital growth through a concentrated portfolio of companies that are based in, or earn most of their Revenue from, China and the wider Greater China region. The manager has the freedom to hold shares across the market-capitalisation range, in Hong Kong, mainland China and the United States, and to invest in unlisted businesses.

The trust does not manufacture or sell anything itself. Its income and returns come from the dividends and share price movements of the companies it owns, and shareholders gain exposure through a vehicle that can use borrowing, here delivered through contracts for difference. The approach is benchmark-aware but not benchmark-driven, with position sizes reflecting conviction in individual stories such as autonomous driving, industrial technology and consumer brands.

Financial performance for the year to 31 March illustrates the intended outcome. Net asset value total return of 10.7% and share price total return of 9.5% compared with 1.6% for the index in sterling. The final Dividend rose 12.5% to 9p per share, and the board repurchased 33.3 million shares as the discount moved from 7.3% to 8.5%.

Stock selection and private assets

Stock selection was the main driver of last year's outperformance, especially in consumer discretionary, industrials and information technology. Hesai Group and Pony.ai, both active in electric vehicles and autonomous driving, were among the leading contributors, as were Ningbo Deye, CATL and Impro Precision in industrials, and Zhongji Innolight and Minimax in technology. Not holding Xiaomi, Meituan or JD.com also helped.

The shortfalls came from being underweight in energy and financials, including PetroChina and state-owned banks, which rallied with oil prices and with bank shares. Full Truck Alliance and Tuhu Car were affected by competition and by weak share prices, and Lexin Fintech was sold in July 2025 after falling.

ByteDance remains the largest unlisted holding. HashKey was the only new private investment during the year and has since listed in Hong Kong. Mr Nicholls's portfolio was overweight healthcare, real estate and communication services and underweight financials at the year end.

Gearing and the single-stock limit

Net gearing, delivered through contracts for difference, was about 20% over the period, and detracted 0.8 percentage points from returns. The chair, Mike Balfour, also put forward a proposal to raise the single-stock limit from 15% to 20%, chiefly to allow a larger position in Tencent, which stood at 12.3% of net Assets but 15.2% of the benchmark.

The final dividend was increased by 12.5% to 9p per share, payable on 28 July, with revenue per share of 9.22p, compared with 10.18p in the previous year when a one-off dividend from Lufax had boosted income.

The discount widened from 7.3% to 8.5% over the year, having exceeded 15% after the US Tariff announcements in April 2025. The board repurchased 33.3 million shares, at a cost of just over £100m.

How the China investment case is framed

Investors in Chinese shares have had to weigh policy, property-sector stress, trade tensions and geopolitical risk against low valuations and rapid innovation. Many of the most dynamic businesses are privately held or newly listed, which is why a trust that can own unlisted holdings alongside quoted ones occupies a distinctive place among emerging market options.

A stock-picking approach relies on the idea that the index does not reflect the economy's growth areas. State-owned banks and energy groups carry heavy index weights but may offer different drivers from the technology, healthcare and industrial companies the manager prefers, so periods of sector rotation can create large gaps between the trust and its benchmark.

What to watch next

The proposed increase in the single-stock limit will be a point of discussion, because it would allow a larger holding in the biggest company in the index and could raise concentration. Gearing is another variable, since borrowing amplifies returns in both directions.

Monetary policy in major economies, oil prices and trade policy may all influence sentiment toward emerging markets. The discount will also remain a focus, together with the board's willingness to continue repurchasing shares. The next full set of results will show how these factors came together.

Valuation and risk

The MSCI China Index was trading on about 11.4 times forward Earnings at the time of the results, broadly in line with its long-term average, which Mr Nicholls regarded as supportive. He has also argued that periods of dislocation can create Mispricing that a stock-picker can exploit.

Mr Balfour expects China's economy to remain resilient and called the long-term opportunity compelling, while pointing to the Middle East conflict and oil prices as continuing risks. Tighter global monetary policy, with rate rises from the Federal Reserve, the European Central Bank and the Bank of Japan in September, may add a further complication for emerging market equities in the months ahead.

The next results from the FTSE 250 constituent will show whether these arguments have translated into a further period of outperformance.