After taking a hit last autumn amid worries over the unresolved European sovereign-debt crisis and the softening Chinese economy, Asia-Pacific markets have been rebounding this year due to better economic news. Although fund portfolio managers note that challenges persist, they also are bullish on the market’s prospects.
“The very strong performance in Asia is a reflection of the fundamentals,” says Chuk Wong, vice president at Toronto-based GCIC Ltd. and lead manager of Dynamic Far East Value Fund. “At the macro level, most Asian countries are running current-account surpluses and have very low fiscal deficits and, in some cases, there are fiscal surpluses. And at the micro level, corporate Asia has deleveraged massively, thanks to the financial crisis in the mid-1990s.” He adds that monetary authorities have shifted from a tightening to a neutral stance.
Further, Wong notes that Asian firms have lower net debt/equity ratios than are found in the U.S. corporate sector.
As for China, its growth is expected to slow after a decade of heavy infrastructure spending. “We had a massive build-out of residential properties and factories,” says Wong. “That story has not come to an end, but it is slowing down. The investment-driven economy is at the stage [at which] imbalances are a concern; it’s not sustainable.
“We are in the middle of a very exciting transformation, in which the economy will become more domestic-driven than export-driven,” continues Wong, noting that the forecast for gross domestic product growth of 7.5% in China this year is still very impressive.
“The region is quite healthy, and stocks are underappreciated,” says Wong. Stocks in the emerging Asia-Pacific markets (which exclude Hong Kong and Japan) are trading at about 11.4 times 2012 earnings, vs 13.1 for the U.S. and 22.0 for Japan. “I’m not in the bearish camp, as far as China is concerned; I’m constructive,” he continues. “At the end of the day, I’m more concerned with individual stocks. If the macro environment is stable, then I know I can pick stocks.”
From a strategic viewpoint, about 32% of the Dynamic fund’s assets under management is in China, 4% is in Hong Kong, 12% is in Indonesia, 9% is in Thailand and smaller weightings are in Japan, Taiwan and South Korea. There also is 8% in cash.
In running the 50-name fund, Wong favours companies such as MGM China Holdings Ltd., whose largest shareholder is MGM Resorts International. MGM China is active only in Macao, where the gaming industry is several times larger than that in Las Vegas. “This is a consumption story,” says Wong. “As the middle class continues to rise, more people are interested in gaming. Macao is the only place where casinos can legally operate.”
MGM China shares are trading at about HK$14 ($1.76) a share, or about 12 times earnings. Wong has no stated target.
Another favourite is AKR Corp., Indonesia’s largest distributor of gasoline and petrochemicals. “It will benefit from the liberalization of fuel in Indonesia, which [began] in April,” says Wong, adding that fuel has been heavily subsidized until now. “The state-owned companies are not prepared for the liberalization, but AKR is. And it has the most extensive network outside the big cities.”
AKR stock is trading at about 16 times earnings and pays a 1.5% dividend. Its shares are trading at roughly IDR3,925 ($0.43) a share.
valuations are on the cheaper side of “fair value,” based on historical benchmarks, says John Millar, a Japanese equity specialist with Edinburgh-based Martin Currie Investments Inc. and co-manager of TD Pacific Rim Fund: “In the post-Lehman crisis world, there has been some very effective restructuring by quite a lot of the companies we are looking at. They are cheap, assuming they can return to normal historical levels of returns. In fact, they are even cheaper, once you take into account the benefits of the restructuring. Markets have done well lately, although they are not overheated and factoring in too much good news.”
The one cautionary note Millar strikes is on China: “Over the past 10 years, it has been a major driver of sentiment. Lots of companies in the region have done well out of China. We’re not saying that China is a busted flush. But [its] GDP growth has been set at 7.5% this year, which is somewhat slower than what we’ve seen in the past few years.”
Millar notes there will be a change in China’s political regime this autumn, which will bring in the next five-year plan. “It will be more linked to consumption than the infrastructure projects that have been such a feature of the past decade,” he says. “At the margin, this could have negative implications for commodities and infrastructure. There is, after all, a concerted effort to slow the level of construction activity.”
Although Millar believes the region’s stocks are fairly priced, and “you are not paying up for growth,” he is particularly bullish on Japan’s stocks, which are trading at or slightly below book value.
“Two of the three most active holdings in our fund are Japanese stocks – which is unusual in the time we’ve managed the portfolio,” says Millar, who shares fund-management duties with Jason McCay, lead portfolio manager and head of the Asia and global emerging-markets team at Martin Currie.
From a country perspective, about 37% of the TD fund’s AUM is in Japan, 11% is in Hong Kong, 10% is in Australia, 9.7% is in South Korea and 8% is in China, with smaller holdings in Taiwan and Thailand.
Running a 76-name fund, Millar and McCay like Toyota Motor Corp., a leading global automaker. “It represents both a lot of the problems Japanese manufacturers had last year but also the reasons we find them attractive at the moment,” says Millar. “They are starting to pick themselves up from the canvas after the significant disruptions from the earthquake and tsunami and the floods in Thailand.”
This year, Toyota has begun to rebound, thanks to the falling yen vs the U.S. dollar, 25% production growth and rising sales in the important U.S. market. Toyota’s stock is trading at about ¥3,575 ($42.25) a share, about one times book value. Assuming the yen continues to fall against the US$, Millar believes Toyota’s stock price could rise to ¥5,500-¥6,000 within 12 to 18 months.
Another favourite is Dongfeng Motor Group Co. Ltd., a Hong Kong-listed firm that distributes cars made by Nissan Motor Co. Ltd. and Honda Motor Co. Ltd. within China. “Despite China’s fantastic growth, [residents] still are at the fairly early stage of car ownership,” says Millar, adding that Dongfeng stock is a play on serving an indigenous middle-class consumer population.
Dongfeng stock is trading at about HK$13.60 ($1.70) a share, less than nine times current earnings. Millar believes Dongfeng stock could hit HK$18 in 12 to 18 months.
China’s slowing growth is decelerating, due to both external and internal factors, says Mark Lin, vice president, international equities, with CIBC Global Asset Management Inc. in Montreal and manager of CIBC Asia-Pacific Fund: “The whole world is slowing, so it’s impossible for China to be immune because it is a big exporter to Europe and the U.S. But it’s also due to internal policies. The economy had been driven by fiscal stimulus as a response to the 2008 global financial crisis. [China] spent heavily on infrastructure, such as the high-speed rail system, and provided very robust liquidity to the market. That resulted in a housing bubble, which [China is] trying to control.”
In spite of China’s weakening economy, Lin is a big believer in the long-term prospects of that country and the surrounding region: “China is the world’s second-largest economy, so the law of large numbers applies to it. Keep in mind that even 7.5% GDP growth is very robust – and especially for a country the size of China. Our portfolio still has a large weighting in companies based in this area because it has more favourable long-term growth drivers.”
Strategically, 37% of the CIBC fund’s AUM is in China and Hong Kong (compared with an aggregate 16% in the MSCI Asia-Pacific all country index), 22% is in Japan (vs 38% in the index), 15% is in Australia (15%), 9% is in Indonesia (1.8%) and smaller weightings are in countries such as India and Singapore.
A bottom-up stock-picker, Lin looks for companies that: are in industries with a minimum 4% secular growth; benefit from barriers to entry; and are run by managements that are good stewards of capital. One of his favourite holdings in the 40-name CIBC fund is Bank Rakyat, an Indonesian bank that is a leader in micro-financing for small businesses. “Indonesia is an up-and-coming country, where GDP is about US$3,500 per capita,” says Lin. “One of the best ways to participate in this country is through the banks, since they finance the country’s commercial activities. Besides, this bank is trading at a reasonable valuation.”
Bank Rakyat’s stock is trading at IDR6,650 ($0.75) a share, about 11 times earnings. Lin has no stated target.
Another top holding is Jardine Matheson Holdings Ltd., a Singapore-listed conglomerate that owns the Dairy Farm supermarket chain, the Mandarin Oriental Hotel chain and has a large interest in PT Astra International, a leading automotive assembly and distribution firm in Indonesia. “Because it’s a conglomerate, it’s trading at a discount to its true earnings power,” says Lin. “It has very attractive assets in Asia. Not all the parts of the company will produce the same earnings power. But as a whole, it will grow in line with the Asian countries in which it operates.”
Jardine’s stock, which is quoted in US$, is trading at roughly US$49.80 ($49.70) a share. IE
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