For most of 2014, central bank policy has been the predominant theme across global equity markets. In Asia, the swathe of cheap liquidity and assurance of continued low interest rates have kept share prices buoyant. Fundamentals such as sluggish economic growth, structural weaknesses and increased political risk took a back seat and caused brief moments of stress. But by and large, markets have remained unruffled by these mild annoyances.
The situation, however, could soon be changing. Japan and Europe, given their still struggling economies, are likely to keep interest rates pinned to the floor. On the other hand, the US recovery has been more robust, giving investors reason to worry about an earlier-than-expected normalisation in monetary policy.
In such a scenario, markets are likely to sell off ahead of the anticipated hike. But there is no cause for panic. Short-term volatility is inevitable. We would be surprised if markets did not make a knee-jerk reaction to the withdrawal of easy money. What is worth remembering is that Asia’s fundamentals are strong. One reason for this has been prudent policy decision-making, despite the diverse political landscape across the region.
That is not to say all problems have been eradicated but governments and central banks have done a reasonably decent job of dealing with some of the structural issues that have been impeding growth.
Faced with widening current account deficits and the rising cost of capital, both India and Indonesia have raised interest rates to try and reduce their reliance on foreign funding.
Despite slower growth rates, we would argue they are now in a better place than they were six months ago to face a scarcer liquidity environment. Malaysia is now pursuing a similar policy, hiking rates to curb credit expansion and keep its current account in the black.
Indeed, voters appear more discerning in their choice of government and less tolerant of bureaucratic ineptitude. Recent elections have punished administrations that had not delivered while ushering in new leaders that appear focused on reform and growth. Again, India and Indonesia come to mind.
Second, fears of a hard landing in China and the impact this might have on global trade appear overblown.
True, Chinese growth rates are not what they used to be but, at around 7.5 per cent, are still fairly robust. More importantly, consumption is slowly replacing investment as the economy’s main engine. This is changing the type of goods China imports, from commodities and capital goods to finished products that tend to track income and discretionary spending more closely.
Granted, it will not be easy to restructure the economy and maintain social stability with a tolerable level of growth all at the same time but we believe Beijing has the political and financial nous to ensure the balance is not tipped one way or the other.
Third, corporate earnings are recovering as companies enforce cost cuts in the face of weaker consumption and poorer revenues. The sharpened focus on margins during tougher times should lead to bottom-line improvements soon. Encouragingly, companies have also maintained or even increased dividend payouts.
In Japan, we are seeing better capital management and more share buybacks, in line with prime minister Shinzo Abe’s push to raise governance standards and enhance shareholder returns.
To sum up, some volatility in Asian equity markets is to be expected in the near term as liquidity becomes less abundant after years of Fed largesse but the longer-term prospects remain intact.
The region is home to two-thirds of the world’s population, the middle class is still expanding, debt levels are relatively low and political and business frameworks have improved tremendously. Companies with market leadership, clear growth strategies and well-tested management will be best placed to tap this potential.
Despite the run-up in share prices, valuations remain supportive on both an absolute and a relative basis and we believe the patient investor will be rewarded over the long term through prudent stockpicking.
Hugh Young is managing director of Aberdeen Asset Management Asia