Asia contains the majority of the world’s population and is growing fast enough to produce an economy the size of Germany every four years. “But you wouldn’t know it” from recent stockmarket performance, says Kopin Tan in Barron’s. The MSCI Asia Pacific ex-Japan index has fallen by more than 20% from April’s peak, taking it to a three-year low. Fears over a hard landing in China, falling commodity prices and the prospect of higher interest rates in America, which would draw money away from emerging markets, have been the main culprits. “Many countries rely heavily on sales to China,” notes Craig Erlam of Oanda, so their growth will be undermined if China doesn’t pick up soon.
Exports to China make up around 10% of GDP, on average, for its regional neighbours, although the figure ranges from the low-single digits for India, Indonesia and the Philippines to 25% for Hong Kong. Still, the good news is that worries over a hard landing in China are receding – this may prove a good entry point for long-term investors.
China’s clouds are lifting
For one thing, the slide in the equity market, which has eased, “didn’t fuel an economic boom on the way up”, says Capital Economics, so its reversal shouldn’t hamper growth. The shift from industry towards labour-intensive services is keeping the jobs market tight, which should buoy consumption. Recent monetary easing – interest-rate cuts and less stringent conditions on bank loans – has revived credit growth and property sales. Government spending has risen too. Manufacturing activity seems to be stabilising, and although exports are still falling, foreign demand seems to be picking up.
Any improvement in China should boost Asia ex-Japan’s exports. Interest rates across the region are near all-time lows. Subdued inflation means any further falls in Asian currencies should not prompt rapid rate rises to squeeze out inflation in import prices. All in all, Capital Economics expects GDP growth in emerging Asia to rise to 5.6% in 2016 from 4.3% this year. In 2004-2013, annual growth averaged 7.4%.
Stocks are cheap
While the outlook has improved, markets are still gloomy – which often spells opportunity for investors. As Naomi Rovnick notes in the Financial Times, many analysts reckon Asian stocks are “too cheap”. The MSCI Asia ex-Japan index is on a price-to-book ratio of 1.35, the lowest since the global crisis and not far off the sub-1.0 levels seen in the Asian crisis of the late 1990s. The index’s price/earnings ratio of 11.4 also compares favourably with the average of 14 over the past decade.
This doesn’t seem much to pay for the region’s potential. A widely cited E&Y study from 2013 estimates that two-thirds of the world’s rapidly growing middle class – people with enough money to buy consumer goods – will live in Asia.
In Indonesia, the number of people in the middle-income bracket is set to more than double in five years. All this means “huge pent-up demand for housing, consumer durables, transport and banking services”, says Aberdeen Asset Management’s Hugh Young on Trustnet.com. The region has also begun “to emerge quietly from China’s giant shadow”. The ten nation Association of Southeast Asian Nations, Asean, “has developed into something resembling a single market of some 625 million consumers”, says Young. Youthful populations will swell the ranks of the region’s labour force for years to come.
Two investment trusts are worth a look. Scottish Oriental Smaller Companies (LSE: SST) is the top-performing trust in the sector over the past decade, says Citywire. It has gained 275% in the past ten years. A less risky play, as it is not skewed towards small caps, is the Fidelity Asian Values (LSE: FAS) trust, up by 150% over the same time period. The two funds are on discounts of 11%-12% to their net asset values (ie, their share prices are below the value of their portfolios).