Gearing up for the global rebalancing act

With emerging economies leading the global recovery and a developed world creaking with the burden of high debt levels, the wealth and asset management community is calling out to its clients to take advantage of the rebalancing global dynamic. The new picture is likely to lead to shifts in consumption and production, says Kam Yoke Meng, equities portfolio manager at regional Asian wealth manager DBS in Singapore. Reductions in consumption in the developed world can be offset by an increase from surplus countries, with China, in particular, knowing it cannot rely on exports, he believes. And private clients’ investment portfolios should be prepared for this shift in emphasis. “Consumers in the debt-laden developed countries are expected to tighten their spending over the next few years, while the propensity to consume in emerging countries increases with rising wealth, development of their banking system and favorable demographics,” says Mr Meng. It is Asia that stands out as the safer regional exposure, playing on the emerging markets theme, believes Fan Cheuk Wan, head of research at Credit Suisse Private Banking in Singapore. “We experienced the Asian financial crisis ten years ago, so Asia is actually ahead of the curve in deleveraging. Asian economies have largely cleaned up national balance sheets, lowering private and public debt levels, and this accounts for the strong financial fundamentals of the region.” The fundamentals that make emerging Asian economies so appealing to investors are missing in other emerging markets. “Eastern Europe, for example, has structural problems and it doesn’t have the long-term growth prospects of Asia,” says Tristan Hanson, manager of asset allocation and strategy at boutique funds house Ashburton. “The region has shrinking populations and is running current account deficits. There have been countries requiring IMF bailouts and so forth. It might be an area that ends up doing well, but it is a risk.” The fact that emerging markets seem to offer better prospects for growth than developed economies has reignited the debate as to whether business cycles in these economies have become more independent of – or decoupled from – those in advanced economies. However, the interconnectivity of the global economy makes it difficult for one region to be decoupled from the rest. When looking at the decoupling idea it is important to examine both the financial markets and the wider economies as a whole, says Pinakin Patel, vice-president within JPMorgan Asset Management’s Far East and Japan equity product group. “Equity markets have not decoupled; irrespective of wherever you are they have all fallen. What is important in terms of decoupling is that, from a GDP perspective, economies such as India and China have been able to weather this storm because of the domestic nature of their drivers of growth – they are less export driven,” he says. “In China’s case the ability to implement the fiscal stimulus package and the manner and nature of how that package has fed through has clearly resulted in a pick-up in GDP.” Mr Patel is positive on domestically-driven economies such as China and India, and Indonesia to a certain extent. “As far as Korea and Taiwan go, we would like to see a pick-up in exports and a better global environment to be a little more bullish on those.” He recommends focusing on those well-managed companies – with good visibility, good earnings growth and dominant market share – which have emerged positively from similar cycles. Since Asia is now less reliant on exports than previously, it is better suited to ride out the economic downturn, believes Ayas Ebrahim, CEO of Halbis in Asia, part of the HSBC group. “Asia is more dependant on itself than it ever has been, at least in recent history, and that is a trend that is only going to carry on, and the big economies of China and India are going to lead that.” Exports are still a vital part of emerging Asian economies however, and the region therefore cannot be decoupled from the developed markets. “With the US being soft and Europe being soft, exports have declined and this will have real impact on economic activity in this part of the world,” he says. “Hence you have the strong fiscal and monetary stimulus taking in place in China and elsewhere, and clearly there is a need to try and boost domestic consumption because of the fall off of exports.” Thematically, if investors want to look at what is driving economies in Asia, then the areas to focus on are infrastructure, growing wealth, and populations ready to spend internally, believes Bhaskar Laxminarayan, chief investment officer for Asia at Pictet’s Private Wealth Management division in Singapore. “If you put these factors into place then China, India and Indonesia are the three countries that stack up as the three big names,” he suggests. All three have seen huge spending on infrastructure, which ties them together, although each is at a different stage of growth. “The biggest moving factor in Asia is China, by far, simply because of the scale of operations and how important they have become in a global economic sense, and India is definitely behind China in terms of scope,” says Mr Laxminarayan. “But it is a large country and it will see super-normal growth compared to world averages for many years to come. These two countries are quite a way ahead of Indonesia, but it also has a lot of these characteristics.” It is important for investors to look for populations with an ability to increase consumption, and that requires two things, he says. “They should have a certain amount per capita that enables them to do so, and the population should be of a size that makes that sustainable.” This cannot be said for some of the other, smaller economies in the region such as Thailand, Malaysia or the Philippines, which therefore do not offer the same domestic growth opportunities to investors, he adds. Sectors which are linked to growing levels of domestic consumption and governmental fiscal stimulus initiatives are the ones which offer earnings potential to investors. “Infrastructure is definitely one key area because project sizes tend to be large, investment opportunities tend to be large, and hence it attracts attention.” But areas such as housing and retailing also need to expand if these economies are to continue to grow, adds Mr Laxminarayan. Halbis’ Mr Ebrahim believes the advanced nature of the Indian stockmarket makes it attractive to investors. “The working of stock markets and capital markets is quite sophisticated already by emerging market standards. You get companies that are publicly listed in India that are quite transparent, which is very positive from an investor’s standpoint.” He points out the corporate governance index published by independent brokerage house CLSA, based on factors such as transparency, accounting standards and independent director boards, which rates India third in the region after Hong Kong and Singapore (ex Japan and ex Australia). “The actual stockmarket has a broad range of sectors, which from an investors’ standpoint is exciting.” Mr Ebrahim believes India is accelerating investment into infrastructure, and that consumer expenditure is starting to take off. “But the government really needs to keep the momentum behind infrastructure spending going,” he warns. “My own view is very positive on India but if this does not happen then bottlenecks will be created, I am not sure exactly when, perhaps five or ten years on, but there would be enough bottlenecks to actually stifle growth.” Politics off the agenda In the past, investors have been put off from investing in the region because of political risk, but this is now far less of an issue. In China’s case, the one-party political set-up has been an advantage throughout the global economic downturn. Command economies can be of benefit in times of crisis. The Chinese fiscal stimulus was in place far quicker than the US or European equivalents, and, according to Mr Ebrahim, China’s political system also means it can make the changes that it wants. “Rightly or wrongly, the administrative control the Chinese use to pull levers in the economy has so far proved to be quite useful. You know they can tell, for example, the banking sector to stop lending to the property side.” He also believes the one-party system puts pressure on the government to deliver growth. “If you don’t give people freedom you have to give them prosperity, so they have to keep growth going at a decent pace,” he explains. Taiwan is one country that has benefited from the changing political climate. It now has much more rapprochement with China, says Mr Ebrahim. “China has come to the table and is dangling a lot of carrots out there. For years there was an outflow of capital from Taiwan, much of it going towards China, because Taiwanese industrialists themselves were worried about what was happening to the country. There was no real focused economic policy and tensions with China weren’t helping. But we are now seeing a reversal of that and we feel that over the next few years the capital outflow will stop and we will start to see inflows of Taiwanese money returning, and we will also see mainland Chinese money investing in the country.” He believes this money will flow into infrastructure projects, and he would not be surprised to see some of the Chinese banks starting to take stakes in Taiwanese financial companies. Value through growth Although valuations in the region are not as attractive as they once were, there is real potential for growth over the medium to long-term. “You have to look at Asia like you looked at the US in the seventies and eighties,” says Pictet’s Mr Laxminarayan. “This is a growth market and so you have to be in equities. It will be the prime asset class for many years to come. Valuations are purely a time frame issue.” Mr Ebrahim at Halbis agrees. “The growth rate is there, and when you have growth your earnings valuations are certainly not stretched. Valuations today are obviously more expensive than they were in March, but compared to long-term trends, if you look at forward price-earnings ratios, we are probably just trading below one standard deviation, so we are not stretched. If we believe there is going to be an earnings recovery into next year we will see those valuations come down further. I would never recommend an investor to come in on the short-term, but over the medium-term I am still very positive, and I don’t think that on that basis that you could say markets are expensive here.” He also believes that the nature of emerging economies lends itself to active management, though he recommends looking for investment houses with a history of investing in the region. “I think the markets we are talking about are not as efficient as developed markets, and if you are able to pick out funds and fund managers who have shown demonstrably decent track records and have the research teams to back their funds then I think than one can truly add alpha,” says Mr Ebrahim. “Active fund management works in this Asian market because they are more inefficient, and therefore if you do have quality research teams than you can get the value.”

Following the indian way into african growth Private investors looking to make a play on the emerging Asian economies’ links with Africa would do well to concentrate on the Indian approach, according to Simon Freemantle, director, economic research at Stanlib, South Africa’s third largest funds house, running assets worth $45bn. “What has differentiated India from the other Bric (Brazil, Russia, India and China) countries is that the majority of the commercial thrust we have seen over the past decade has been predominantly a private one.” He recommends focusing on industries that India is domestically strong in, for example ICT (information, communications and technology) and pharmaceuticals. Being a global leader in these sectors, India is able to offer its expertise as well as sell its products into the African markets. “When it comes to ICT, the growth across Africa has been so dramatic, yet there still remains a huge deficit, particularly when you are talking about broadband internet. So jumping on board these large, globally minded Indian multi-nationals coming into Africa is an abundant opportunity for foreign investors,” he explains. Benefiting from Chinese investment in Africa is a little more complex, believes Mr Freemantle. “The vast majority of investments in Africa from China are from state-owned companies, which means investing in these companies in not easy. It is very difficult for non-Africans to get in on these deals.” The picture is changing somewhat though, with smaller, less state-dependent companies now starting to invest in the continent, and he believes that these may be more accessible to private investors. China and India are the two big investors in Africa, but there are other countries worth tracking. He points to Malaysia’s investments in the oil and gas industries, while countries such as Vietnam, whose economic progression links them to China, will by extension probably point them towards Africa as well.

Ayaz Ebrahim, Halbis