Growth numbers continue to be revised upwards across much of the Asian region. There has even been a...
Growth numbers continue to be revised upwards across much of the Asian region. There has even been an upward surprise from Japan.
Korea's economy has been the most extreme example of a faster than expected recovery, while at the same time seeing record low interest rates. The operating and financial leverage of local corporates will be clear-ly evident in earnings this year.
Next year will be more telling, however, as we discover how sustainable the economic rebound is and whether companies continue their deleveraging efforts or begin a new investment cycle. A healthy dose of scepticism is still warranted on the Korean restructuring story. However, whether driven by the government or not, there have been big changes in the corporate landscape which have gone some way to improving shareholder returns.
Better than expected export performance so far this year plus GDP growth upgrades also lead us to favour Taiwan. Local liquidity conditions are supportive as the trade surplus expands and should allow the market to respond to earnings upgrades. The tech sector continues to benefit from the global outsourcing theme while underlying PC growth volumes have exceeded expectations so far this year.
Additionally, Taiwan appears to have caught the M&A bug as two paper companies recently announced the first merger of two listed companies for 20 years. The consolidation theme has already moved to electronics, with the purchase by TSMC of a stake in Acer Semiconductor, as well as the financial sector where the authorities are keen to see consolidation in the fragmented banking system.
We also like the north Asian economies given the importance of economically sensitive sectors to these markets. Steel is a particularly favoured sector with POSCO and China Steel both core holdings. Pricing appears to have bottomed and companies will benefit from lower raw material costs this year. Chemicals exposure is more selective given the less favourable demand/supply balance expected in the second half. Funds also have exposure to the paper and shipping sectors as fundamentals improve.
The other major cyclical exposure for the portfolios is through Australian resource stocks. Investors comforted by better than expected growth data have moved to reduce their underweight positions in this sector, which had been neglected for some time. In addition, the corporate restructuring story for large cap BHP provides further upside and this is a key holding for the funds.
Elsewhere in Australia holdings are tilted towards domestic cyclical plays as growth continues to surprise on the upside while inflation remains low - clear parallels with the US story. Australian banks look less attractive against bond rates and show subdued earnings growth relative to other industrials.
Hong Kong and China are markets where we expect the lack of exchange rate flexibility to depress growth prospects relative to the rest of the region. This pressure is increased by the prospect of a Fed tightening. China's recent move to reduce interest rates is a step in the right direction, but real rates remain problematically high after 19 months of negative inflation. As a result, devaluation of the renminbi remains an option (perhaps in the next 12 months) as the need for aggressive reflation intensifies. Economically sensitive stocks in China would then look more attractive. Elsewhere banks and domestic consumption stories such as media, food and airlines are favoured as recovery plays.
Putting the tech into protection
Square Mile’s series of informal interviews
Fallout from Haywood suspension
Launching later in 2019
£80bn funds under calculation