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The Asia Opportunity – Looking for Smarter Growth

Asia has been on a remarkable journey in the past few decades. The most notable aspect has been the emergence of China. Thirty years ago, there were just a handful of listed companies in China; now it is the second largest stockmarket in the world. More importantly, China’s economy has grown rapidly, and it is now the world’s second biggest.

The region has changed in other ways too. Back in the 1990s, all that mattered for Asian economic activity was the strength of the US economy, given the importance of the US for Asian exports. Thirty years on, the picture is very different. The US remains a major market for Asian exports but what has become more important is intra-regional trade, driven by internal demand and growth in Asia itself.

Besides the shift in trading patterns, we have observed a continual improvement in technology and ‘value add’ within Asian manufacturing. Some of the most advanced memory chips and semiconductors are now made in Asia which wasn’t the case 25 years ago.

More importantly, in our view, in many areas of highend manufacturing, we are seeing Asian companies becoming much more competitive and in some areas industry-leading. We believe this transformation has important implications for both profits and investing in the region and also the rest of the world.

There are important structural changes taking place in the way companies are run. We are finding that many Asian companies have a greater focus on profitability than in the past. They are generating higher returns on invested capital and delivering what we call ‘smarter growth’. Pleasingly, they are also increasingly recognizing the importance of shareholder returns, such as dividends and share buybacks.

With a combination of dynamic economies and innovative, more shareholder-friendly companies, Asia’s long-term prospects look promising, in our view.

However, one thing that hasn’t changed is that Asian equities are prone to swings in sentiment. At the moment, a number of clouds are hanging over the region leading investors to be cautious about the asset class.

The first source of concern is arguably China, where disappointment about the economic recovery following the end of the “zero-covid” policy and worries about the property sector have weighted on share prices.

The second potential issue is the region’s vulnerability to US interest rate rises and the US dollar. On this issue, we think investors’ worries are exaggerated. Unlike in the Asian financial crisis in the 1990s, most regional currencies now float freely against the US dollar and Asian economies are able to set interest rates to suit their own domestic economies. This has reduced the risks linked to US monetary tightening, in our view.

As result of this negative sentiment and the accompanying stockmarket weakness, we believe that Asian equities are currently attractively valued both on an absolute basis and relative to global peers. As we saw in the Asian financial crisis, times of bad news and falling stock prices could offer interesting long-term opportunities for stockpickers who can look beyond near-term uncertainty.

Risks and opportunities in China

The Chinese property market is a critical driver of China’s economy – it represents around a quarter of economic activity. However, for some time now, it has been regarded as one of biggest risks the country faces.

Since 2020, the property sector has been through a material and painful adjustment as policymakers have set out to curb rising prices, reduce debt levels and shrink the sector’s importance to the economy. The effect of deflating the property bubble has probably been worse than expected: it has had a direct impact on economic activity as well as the wealth effect and consumer confidence. (Falling property prices has made consumers feel poorer).

However, in our view, the issue is a “known, known” – policymakers understand the problem and are dealing with it. Over the past few months, we have also had a raft of policy measures designed to boost the faltering economy, including mortgage rate reductions, fiscal easing and cuts in bank rates. In July, the Politburo of the Communist Party pledged to increase support for the economy with a series of reforms, which we believe was an important signal.

With low inflation and a large current account surplus, we believe that policymakers in China have plenty of flexibility to support the economy as required.

The real-estate driven slowdown in China is undoubtedly a risk but, in our view, the high degree of uncertainty is creating attractive opportunities to buy very good companies at lowly valuations.

For instance, technology companies are trading at depressed valuations compared to their global peers. They also have high levels of net cash and in many cases are buying back their shares to support the share price. We are also finding many profitable non-tech companies where the net cash on their balance sheet is worth the same or more than their overall market cap.

Another reason we are excited about investing in China today is the fact the country is leading the world in the energy transition. As the world’s largest emitter of carbon[1], China has a lot of progress to make but it is investing heavily in renewables, with solar and wind power installations at record highs.

China’s shift to a cleaner energy future is likely, in our view, to present many opportunities in areas such as solar, wind power, electric vehicles (EVs) and supply chain management. The market already offers world-leading firms in environmentally friendly technologies such as solar panels and EVs, which will likely have a tangible impact on global markets over the next decade.

Although there is a degree of nervousness about the near-term outlook for China’s economy, we believe there are currently fantastic opportunities for bottomup stockpickers to find attractively valued Chinese companies that can potentially participate in these positive future trends.

Investing with conviction

When it comes to finding opportunities across Asia, we follow a well-established, valuation-focused stockpicking process. We look for situations where a specific debate or controversy has driven a large wedge between the price and what we believe to be the value of a stock.

We believe that conviction is critical to successful investing. To achieve this, we select investments from our core research universe, a carefully curated list of more than 450 companies in Asia ex Japan that we have been tracking in some cases for more than 30 years. We meet the companies in our universe regularly in order to understand the business and get a superior perspective on the risk of ownership.

A key element of our approach is “value-added shareholder ownership”. When we invest in a company we seek to work closely with management as longterm partners to help them improve. We might make suggestions about strategy, capital management such as growing dividends for shareholders, or improving diversity on the board.

Over the past decade or so, Asian companies have become more open to our engagement. As experienced Asian investors who understand the culture and look to engage respectfully, we believe this is a distinctive feature of our investment approach that has the potential to deliver some successful outcomes for our investors.

Source : Ifa Magazine