For anyone who remembers the Asian crisis in 1997, Greece’s troubles bring a strong sense of déjà vu. There are the politicians blaming speculators and markets rather than their own mistakes. There’s the endless series of failed interventions that make things worse. There’s even, sadly, rioting and now deaths.
And looming over it all, the big question: who’s next once this one goes down? How far will the contagion spread?
If there’s any good news, it’s that emerging Asia should be safe. Thanks to changes the region made after its own crisis, most countries are in good fiscal shape – with perhaps one exception …
• Why Asian currencies will keep going up
• Don’t miss out on Vietnam
• MoneyWeek Asia archive
Why Asia’s finances are sounder than Europe’s
Most of emerging Asia doesn’t suffer the same lethal combination of imbalances that has felled Greece. (I’m leaving Japan out of this – it has a whole mess of its own to deal with, and has little in common with the rest of the region).
As you can see from the chart below, Asian governments’ debt levels are generally much lower relative to GDP. And the bulk of the debt tends to be denominated in a country’s own currency and held by domestic investors.
Singapore’s apparently high debt level here is a bit misleading. The country budgets for future health and pension liabilities. These are unfunded and off-balance sheet in most developed economies, so this is a sign of good accounting, rather than unsustainable debt.
As well as the stock of existing debt, current spending is also much more under control in Asia. Even although most Asian countries ran larger budget deficits than usual last year, due to stimulus spending, these are already shrinking as economies recover.
And Asia’s international financing position is much stronger. One of the lessons Asia learned from 1997 was that you never want to be dependent on inflows of foreign capital, since short-term investors can suddenly withdraw their money. Hence the focus on export-driven growth, running a large trade surplus (see chart below), and building up foreign exchange reserves.
This surplus-driven strategy creates its own problems. It leads to imbalances in both the domestic and global economy. But it does mean that most Asian countries are now net lenders to the developed world, rather than net borrowers, as the chart below shows. This is a much better position to be in at a time like this.
We could go on to look at the high foreign exchange reserves in emerging Asia; the region’s better competitiveness and flexibility; lower leverage in the domestic economy; the lack of bad loans in the banking system, and many other factors. But they all point the same way. Emerging Asia is today one of the most robust regions in the world – far better than most of Europe.
Some governments could certainly improve their finances. For example, India’s combination of relatively high debt and a large budget deficit needs to be brought under control. But almost no emerging Asian economy has the combination of problems that are likely to bring about a crisis at the moment.
In the medium term, this should be good for Asian currencies and government bonds. As awareness of Asia’s better fundamentals grows, more investors will want to hold their debt rather than that of distressed Western economies. Local currency debt is likely to grow in importance as an asset class.
I’ll look at this trend in detail at some point. But if you want to investigate further, the easiest and cheapest way to invest in Asian government debt is the ABF Pan Asia Bond Index Fund (HK:2821). This is a Hong Kong listed ETF that holds local currency government bonds from eight Asian countries.
How vulnerable is Vietnam?
There is one exception to this reassuring picture. You may have noticed on the charts above that Vietnam is consistently to the left on almost every metric. This underlines the fact that this country has more vulnerabilities than the rest of region.
Vietnam is a fascinating investment story. You can sum up the case for it as ‘China a decade ago’. I wrote about Don’t miss out on Vietnam in more detail a while back.
The long-term proposition hasn’t changed. But as I noted at the time, it has some problems to deal with in the short term. So let’s catch up on how it’s doing.
Vietnam’s debt level is higher than ideal, but it isn’t onerous. The budget deficit – even without the effects of the credit crisis – has been wider than it should be. It will have to be brought down over time, but this needn’t happen immediately.
Vietnam’s biggest issue is that it has been running a persistent current account deficit of more than 9% of GDP in recent years (see chart below). This makes it very different to most of emerging Asia. It means Vietnam has fairly sizeable foreign currency funding needs. And – again, unlike most of the region – its FX reserves are low.
The country suffered a mini-balance of payments crisis in early 2008 (in other words, inflows from investment and other sources were no longer enough to cover these outflows, and the country’s foreign exchange reserves were too small to be drawn down to plug the gap.) It was lucky this occurred when it did. Had things come to a head during the worst of the financial crisis in the autumn, it might developed into a full-blown drama.
As a result, the currency was devalued, and the country gained support from official creditors such as the World Bank and the Asian Development Bank. These organisations are providing the necessary funding to plug the gap. And while there have been two further devaluations in the last nine months, the situation appears stable for now.
In February, Vietnam raised $1bn in its second international bond issue (the first was in 2005), paying a rate of 6.95%. So Vietnam should be able to meet its funding needs without too much trouble. And if international markets seize up again as a result of Europe’s problems, it already has a working relationship with the multilateral institutions.
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The economy needs more work
But policymakers clearly have work to do. Sure, capital inflows are picking up again. Remittances from overseas Vietnamese are rising and foreign direct investment is returning, which makes the funding gap more manageable for now. However, the current account deficit needs to fall substantially over time. Running out-sized deficits indefinitely is a recipe for trouble.
Some of this should happen automatically over the next few years. Demand for exports should continue to pick up. And fuel imports – a major contributor to the deficit – should fall as more refining capacity comes on stream. (Vietnam is a net oil exporter, but has to import refined fuels as it only opened its first refinery last year).
But the deficit also reflects strong domestic demand. The government has to be careful to prevent this from overheating again, as it did in 2007-2008. Back then, credit growth was running at more than 50% year-on-year and inflation at almost 30%.
The mini-crisis and global slowdown in 2008 helped bring both back down last year. But credit growth picked up again in late 2009, as the government relaxed policy and pushed banks to lend in a China-style stimulus. And unlike China, credit levels had been rising rather than falling in previous years, and spare capacity in the economy is low. So it would be very easy for Vietnam to overheat again. Indeed, inflation is already picking up.
So Vietnam now faces a tough balancing act. A crackdown on lending earlier this year was apparently too strong. Credit growth came in at just 3.3% quarter-on-quarter in the first three months of 2010, while GDP growth slowed to 5.8% year-on-year. This is too low and banks are now being told to lend a little more.
Yet inflation could hit double-digit levels soon, so the State Bank of Vietnam will need to raise rates to prevent an inflationary spiral developing. Yet so far it is holding back, maintaining rates at 8% in its most recent meeting. Why? No doubt the run-up to the five-yearly National Party Congress (NPC) in January 2011 is making the State Bank reluctant to act too quickly. Politicians will want to be able to point to good growth in the previous year. Unfortunately, this raises the risk that the economy could be allowed to overheat again.
The NPC is causing other problems too. Jostling for position ahead of the next government reshuffle is causing some political backsliding. Executives at Australian airline Qantas’s Vietnam joint venture have been arrested on rather shaky grounds. Some suspect this reflects hardliners’ reluctance to have a private firm out-competing the state-owned Vietnam Airlines. And the long jail sentences recently given to four political activists for ‘subversion’ were unusually severe. Signs like this could worry foreign investors if they suggest a broader shift away from reforms.
A crisis is still unlikely – but we must always watch the risks
That said, these issues don’t look serious enough to cause long-term damage. Vietnam is still very keen to attract foreign direct investment. Multinationals are still very interested in it as a low-cost manufacturing destination. There will always be political mis-steps in an economy like this. But it’s unlikely that the government will turn away from the policy of doi moi (renewal or reform), which has delivered such big benefits for the country.
Rising inflation is a real short-term risk, especially while the recent devaluation of the dong and the resulting rise in import prices work their way through. It seems unlikely that the SBV will let things get as out of hand as it did two years ago. But any tough action may have to wait until after the NPC. So Vietnam could face a bumpy year, followed by quite a hard landing in due course.
There is also the risk of further currency devaluations, although the worst of this has probably passed. A final potential problem is possible bad loans in the banking system, as a result of the rapid credit growth in 2007 and last year. It remains to be seen if a banking system clear-up will be needed, or whether fast economic growth and low debt levels will mean any problems can simply be outgrown.
To put all this in context, problems like these are almost inevitable at an early stage of development. Especially given that the nominally communist government is still getting to grips with market forces. I rate Vietnam as an excellent long-term prospect. In a year or so the outlook should be much clearer.
But investors do need to watch for anything that might suggest these issues are turning into real problems. Vietnam is by some way the least advanced economy that I cover regularly in MoneyWeek Asia (as the table below indicates) and therefore the riskiest.
| Income level | GDP per capita ($) (2009) | Stockmarket classification | Credit rating | |||
|---|---|---|---|---|---|---|
| China | Lower middle | 3,678 | (Nominal) | Secondary Emerging | (FTSE) | A1/A+/A+ |
| 6,567 | (PPP) | Emerging | (MSCI) | |||
| Hong Kong | High | 29,826 | (Nominal) | Developed | (FTSE) | Aa2/AA+/AA |
| 42,748 | (PPP) | Developed | (MSCI) | |||
| India | Lower middle | 1,031 | (Nominal) | Secondary Emerging | (FTSE) | Baa3/BBB-/BBB- |
| 2,941 | (PPP) | Emerging | (MSCI) | |||
| Indonesia | Lower middle | 2,329 | (Nominal) | Secondary Emerging | (FTSE) | Ba2/BB-/BB |
| 4,157 | (PPP) | Emerging | (MSCI) | |||
| Korea | High | 17,074 | (Nominal) | Developed | (FTSE) | A2/A/A+ |
| 27,978 | (PPP) | Emerging | (MSCI) | |||
| Malaysia | Upper middle | 6,897 | (Nominal) | Secondary Emerging | (FTSE) | A3/A-/A- |
| 13,769 | (PPP) | Emerging | (MSCI) | |||
| Philippines | Lower middle | 1,746 | (Nominal) | Secondary Emerging | (FTSE) | Ba3/BB-/BB |
| 3,521 | (PPP) | Emerging | (MSCI) | |||
| Singapore | High | 37,293 | (Nominal) | Developed | (FTSE) | Aaa/AAA/AAA |
| 50,523 | (PPP) | Developed | (MSCI) | |||
| Taiwan | High | 16,392 | (Nominal) | Advanced Emerging | (FTSE) | Aa3/AA-/A+ |
| 31,834 | (PPP) | Emerging | (MSCI) | |||
| Thailand | Lower middle | 3,940 | (Nominal) | Secondary Emerging | (FTSE) | Baa1/BBB+/BBB |
| 8,060 | (PPP) | Emerging | (MSCI) | |||
| Vietnam | Low | 1,060 | (Nominal) | Frontier | (FTSE) | Ba3/BB/BB- |
| 2,942 | (PPP) | Frontier | (MSCI) | |||
On a price/earnings ratio of around 12 times, the Vietnamese market is an attractive long-term prospect for investors who can live with the risks. But, as I wrote last time, I suspect that most people will prefer to wait and see how the short-term situation plays out.
For those who are interested now or want to have it on their watchlist, theres a new option for investment. The PXP Vietnam Fund (LSE:VNF) has just been cross-listed on the London Stock Exchange, joining a good handful of existing investment trusts (see Don’t miss out on Vietnam for a full list).
This is an equities-only fund that’s fairly well-known and established by the standards of Vietnam funds, having been formed six years ago, and has a good record. The management fee is 2% and it has no performance fees, making it fairly competitive on costs compared to its peers. It currently trades on a discount to net asset value (NAV) of 34%, meaning that you are effectively buying Vietnamese stocks at a p/e of 8-9.
Since it’s newly listed, it’s relatively illiquid at the moment. But I’ll be looking into it in more detail and will decide in my next Vietnam feature whether I prefer this to my two main Vietnam suggestions at the moment. For now, these are the Vietnam Opportunity Fund (LSE:VOF), which is a diversified fund on a discount to NAV of 35%, and the db x-trackers FTSE Vietnam ETF (LSE:XFVT).
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