We believe an earnings rebound and market reforms are reasons for optimism in Asia ex-Japan equities. Asia’s outlook is positive as the threat of a global recession recedes and investors could be in for a pleasant surprise as earnings upgrades accelerate. For disciplined, bottom-up, patient stock pickers, fickle, short-term-focused retail investors in Asian markets can provide opportunities.
The past five years have seen slower economic growth hit corporate earnings potential, leading to a decline in margins and lower asset turnover. During that period, local stocks typically traded at a 25-30% discount compared to their developed market peers as returns on capital deteriorated. The situation is now turning with significant earnings upgrades coming through across the board. This trend, which we expect may accelerate, began in early 2016.
Figure 1: Asia Pacific ex-Japan earnings revisions
Source: Investec Asset Management, Factset, May 2017. Please note that this chart has been redrawn by Investec Asset Management. Time period shown covers the period for which we have reliable data.
To counter the slowing economic growth during the past five years, there has been significant supply-side reform in the region, particularly in China. The steel, cement and coal industries have cut large amounts of inefficient capacity through largely governmental initiatives in China. We believe that rising share prices and, possibly, a closing of the historical valuation discount versus developed markets could be the reward for those companies that successfully achieve this reform.
Figure 2: Sales, margins and turns
Source: Credit Suisse HOLT, as at 31 March 2017. For further information on investment process, please see the Important Information section.
In South Korea, efficient commerce has been hampered by the system of interlinked family conglomerates, known as Chaebols. Corporate structures are having to reform now, due to state policies as well as family tax and succession issues. This should lead to greater transparency.
Many companies now operate on a global stage. They are bringing in international professional management teams to improve governance structures to respond to shareholders’ need for a reasonable reward for the risk they take. As a result, dividend pay-out ratios are rising, admittedly from low levels. The reformed and streamlined ownership structures should make it easier for stocks to be priced correctly.
Asian markets have historically been influenced to a greater extent by retail investors, rather than long-term institutional investors in developed markets. Certain markets, notably the China A-share market, remain dominated by retail investors who appear to be frequent buyers of what we consider to be over-priced fashionable stocks that do not merit their sky-high prices. At the same time, they appear all too ready to overlook stocks with improving fundamentals. This can lead to behavioural biases, volatility and sharp turns in sentiment towards stocks as investors base their decisions on emotions, not underlying fundamentals.
This creates an opportunity for disciplined investors who take a more measured, long-term, dispassionate investment approach. Using our 4Factor™ investment process, we look for companies with good management teams driving higher returns on capital investment on reasonable valuations with improving earnings prospects.
The portfolio is built from the bottom up and is both benchmark and style agnostic – with a current pro-cyclical bias. We have recently increased exposure to the materials, energy and financials sectors while maintaining our longer-term overweight positions to the information technology and consumer discretionary sectors. Geographically, we have increased the portfolio’s exposure to South East Asia, as well as China, as we have seen a broadening out of economic growth through the region.
Figure 3: % Portfolio allocation based on the pooled vehicle
Source: Investec Asset Management, 30 September 2017. The portfolio may change significantly over a short period of time. Data is run monthly and is based on a pooled vehicle within the strategy. This data is not available at the composite level. Figures in brackets represent the MSCI AC Asia Pacific ex Japan Index weighting.
For further information on indices, please see the Important Information section.
Figure 4: Annualised (Gross) performance in USD
Source: Investec Asset Management, 30 September 2017.
Performance is gross of fees (returns will be reduced by management fees and other expenses incurred relative to its advisory account), income reinvested, in USD.
The periodic deduction of fees and expenses will have a compounding effect on performance. Example effect of management fees taken monthly over 10yrs on the value of a client’s portfolio:
Initial value = $100m, assumed return = 10% p.a., grows to $259m (no fees), grows to $243m (0.65% p.a. net fees). The annualised returns over 10yrs are 10% (gross of fees) and 9.29% (net of fees).
* 4Factor™ Asia ex Japan Equity Strategy inception date: 01 August 2000.
** Comparison index: MSCI AC Asia ex Japan NDR (pre Mar-08, MSCI AC Far East ex Japan NDR). For further information on indices, please see the Important Information section.
Geographic / Sector: Investments may be primarily concentrated in specific countries, geographical regions and/or industry sectors. This may mean that the resulting value may decrease whilst portfolios more broadly invested might grow.
Currency exchange: Changes in the relative values of different currencies may adversely affect the value of investments and any related income.
Developing market: Some countries may have less developed legal, political, economic and/or other systems. These markets carry a higher risk of financial loss than those in countries generally regarded as being more developed.
Investing in China: Investment in mainland China may involve a higher risk of financial loss when compared with countries generally regarded as being more developed.
Equity investment: The value of equities (e.g. shares) and equity-related investments may vary according to company profits and future prospects as well as more general market factors. In the event of a company default (e.g. bankruptcy), the owners of their equity rank last in terms of any financial payment from that company.
The information may discuss general market activity or industry trends and is not intended to be relied upon as a forecast, research or investment advice. The economic and market views presented herein reflect Investec Asset Management’s (‘Investec’) judgment as at the date shown and are subject to change without notice. The value of investments, and any income generated from them, can go down as well as up and will be affected by changes in interest rates, exchange rates, general market conditions and other political, social and economic developments, as well as by specific matters relating to the assets invested in.
There is no guarantee that views and opinions expressed will be correct, and Investec’s intentions to buy or sell particular securities in the future may change. The investment views, analysis and market opinions expressed may not reflect those of Investec as a whole, and different views may be expressed based on different investment objectives. Investec has prepared this communication based on internally developed data, public and third party sources. Although we believe the information obtained from public and third party sources to be reliable, we have not independently verified it, and we cannot guarantee its accuracy or completeness. Investec’s internal data may not be audited. Any decision to invest in securities or strategies described herein should be made after reviewing the prospectus and conducting such investigation as an investor deems necessary and consulting its own legal, accounting and tax advisors in order to make an independent determination of suitability and consequences of such an investment. This material does not purport to be a complete summary of all the risks associated with this Strategy. A description of risks associated with this Strategy can be found in the Prospectus or other disclosure document for the fund or Strategy. Copies of such documents are available free of charge upon request. Investec does not provide legal or tax advice. Prospective investors should consult their tax advisors before making tax-related investment decisions.
There is no assurance that the persons referenced herein will continue to be involved with investing for this Strategy or Fund, or that other persons not identified herein will become involved with investing assets for the Manager or assets of the Strategy or the Fund at any time without notice.
Any description or information regarding investment process or strategies is provided for illustrative purposes only, may not be fully indicative of any present or future investments and may be changed at the discretion of the manager without notice. References to specific investments, strategies or investment vehicles are for illustrative purposes only and should not be relied upon as a recommendation to purchase or sell such investments or to engage in any particular Strategy. Portfolio data is expected to change and there is no assurance that the actual portfolio will remain as described herein. There is no assurance that the investments presented will be available in the future at the levels presented, with the same characteristics or be available at all. Past performance is no guarantee of future results and has no bearing upon the ability of Manager to construct the illustrative portfolio and implement its investment strategy or investment objective.
The target is based on Manager’s good faith estimate of the likelihood of the performance of the asset class under current market conditions. There can be no assurances that any Strategy or Fund will generate such returns, that any client or investor will achieve comparable results or that the manager will be able to implement its investment strategy. Actual performance of investments and the Fund or Strategy overall may be adversely affected by a variety of factors, beyond the manager’s control, such as, political and socio-economic events, adverse changes in the interest rate environment, changes to investment expenses, and a lack of suitable investment opportunities. Accordingly, Performance Targets may be expected to change over time and may differ from previous reports.
Specific Portfolio Names
References to particular investment or strategies are for illustrative purposes only. Unless stated otherwise, the specific companies listed or discussed are included as representative of the Strategy or Strategies. Such references are not a complete list and other positions, strategies, or vehicles may experience results which differ, perhaps materially, from those presented herein due to different investment objectives, guidelines or market conditions. The securities or investment products mentioned in this document may not have been registered in any jurisdiction. More information is available upon request.
Indices are shown for illustrative purposes only, are unmanaged and do not take into account market conditions or the costs associated with investing. Further, the manager’s strategy may deploy investment techniques and instruments not used to generate Index performance. For this reason, the performance of the manager and the Indices are not directly comparable.
If applicable MSCI data is sourced from MSCI Inc. MSCI makes no express or implied warranties or representations and shall have no liability whatsoever with respect to any MSCI data contained herein. The MSCI data may not be further redistributed or used as a basis for other indices or any securities or financial products. This report is not approved, endorsed, reviewed or produced by MSCI. None of the MSCI data is intended to constitute investment advice or a recommendation to make (or refrain from making) any kind of investment decision and may not be relied on as such.If applicable FTSE data is sourced from FTSE International Limited (‘FTSE’) © FTSE 2017. Please note a disclaimer applies to FTSE data and can be found at www.ftse.com/products/downloads/FTSE_Wholly_Owned_Non-Partner.pdf