Asia is the world’s fastest-growing region having expanded rapidly in recent years primarily through exports to developed countries and fixed capital investment.
Although this growth may be slowing, GDP is projected by the International Monetary Fund to expand by approximately 6.7 per cent this year and 6.8 per cent in 2015, comparing favourably with global growth rates of 3.6 per cent and 3.9 per cent respectively.
Interestingly, Asian equity markets failed to reflect strong growth figures last year and, despite outperforming most peers in emerging markets, trailed the double-digit advances of developed markets. Indeed, the MSCI AC Asia Pacific index has recorded only one other year of single-digit growth since 1997.
Such sluggish equity performance was blamed predominantly on concerns that the US Federal Reserve would begin to taper its asset purchase programme in the middle of the year. Although the Fed did attempt to reassure investors that monetary stimulus would be maintained until a more convincing economic recovery was forthcoming, uncertainty prevailed for much of the year.
China likewise played a role in elevating investor uncertainty when a new leadership was announced in March while a handful of markets were buffeted by domestic pressures. Nevertheless, and without wishing to ignore last year, we are cautiously optimistic on the fortunes of Asian equities at the moment – although we expect volatility to remain. After all, decisions by the Fed are still likely to play a role in the direction of capital flows to the region, China is currently tackling a credit boom and there are new governments in Indonesia and India and military rule in Thailand.
A normalisation of monetary and fiscal policies will also perhaps constrain growth. Earnings are therefore likely to be muted but should still be positive. And from our perspective as long-term fundamental investors, valuations are attractive on a historical basis and relative to other equity markets.
As evidence of this, the MSCI Asia Pacific ex Japan index is currently trading at 13 times forward price-to-earnings. The S&P 500, on the other hand, is trading at a forward P/E ratio of 16 times. Admittedly, this is not as cheap as levels reached in the 2008 financial crisis but it compares favourably on a historical basis.
No guarantee can be given that share prices will rise but the long-term investment case for Asia remains undiminished. On a macroeconomic level, many Asian governments, in contrast with their heavily indebted G7 counterparts, have maintained fiscal discipline. Balance of payments accounts across the region are predominantly in surplus and foreign exchange reserves substantial. Not only are balance sheets generally healthy at the country level but more importantly they are as solid at the corporate and household levels.
Structural developments are occurring too, with Asian nations characterised by young and growing populations. A strong rise in the working-age population is expected over the next few decades, with an emerging middle class likely to drive the shift away from export dependence towards domestic consumption. The OECD estimates that by 2030, two-thirds of the world’s middle class will be in Asia, accounting for more than 50 per cent of global consumption.
Businesses are finally beginning to refocus on margins, cashflow and balance sheets. These companies are following a well-trodden path in response to tougher times – slashing costs, cutting capital expenditure, boosting free cashflow and reducing debt – and this is beginning to bear fruit.
Company scrutiny nevertheless remains a must. Stock coverage in Asia is not as extensive as in the West and the governance thresholds in order to get listed are lower. We believe these shortcomings create attractive opportunities for investors who are willing to do their own company due diligence and we will continue to focus on our strategy of seeking out well-run firms that have clear, sustainable business models that are backed by solid finances and have a healthy regard for minority shareholders.
Asian assets have been shunned by global investors for some time and therefore arguably trade at a discount to assets in the developed world. Despite both expectations of economic recovery in the West and fears of economic collapse in China, opportunity beckons for the contrarian investor – albeit with heavy doses of careful due diligence and patience required.
Hugh Young is managing director of Aberdeen Asset Management Asia