Case for investing in Asia still strong

Stuart Parks, manager of Invesco Asia Trust Plc gives his view on the Asian markets: Asian stockmarkets have outperformed developed equity markets in the six months to the end of June 2007, as macroeconomic and corporate data has continued to remain robust. Despite further signs that the US economy is slowing, a number of Asian stockmarkets were trading at, or near, record highs at the end of the May 2007. Concerns that a slowing US economy would have an adverse impact on Asian growth prospects has worried investors, but so far this has shown little signs of materialising.

Robust GDP growth

Macroeconomic data for the region remains robust with Asian GDP growth figures reflecting further signs of the region’s ability to decouple from the US, while inflationary pressures have remained relatively benign, with the exception of India. China has led the way, reporting extraordinary growth over the period, year-on-year to 31 March 2007. The People’s Bank of China (PBoC) recently announced that first quarter GDP growth in 2007 had accelerated to 11.1% year-on-year, the highest growth figure in more than a decade.

Markets have increasingly priced in a benign environment of slowing, but still positive, US growth and contained inflation expectations. Against this backdrop, Asian markets have outperformed, helped by the general perception that the US economy is headed for a soft landing, along with the US Federal Reserve’s decision to pause in its two-year cycle of monetary tightening. Market performance within Asia itself has been mixed, however, with the best-performing markets being those that have exhibited domestic reflation of their economies, while the markets with weak economic fundamentals have struggled. In particular, worries about a slowing global economy have weighed on the more cyclical markets (Korea and Taiwan), where the poor performance of the technology sector has hindered performance. Conversely, markets have performed strongly in economies where growth continues to be robust, inflation remains subdued and monetary policy is therefore supportive.

Much attention has been focused on China with its domestic stockmarket rising strongly. The market capitalisation of the China ‘A’ share market has surged from US$400 billion to well over US$1 trillion, helped by rising share prices and several listings of major state-owned enterprises. This has sparked concerns over a bubble emerging, with the Chinese government warning investors of this possibility. The main reason for China’s continued ascent remains the abundant amounts of liquidity in the system. Domestic investors have chased prices higher with new issues being heavily oversubscribed. This has been despite the PBoC announcing a number of interest-rate hikes over the period, while it has also raised the amount banks must keep in reserve in an attempt to slow down lending growth.

Outlook for Asian equities

Looking forward, macroeconomic data in the region continues to provide a positive backdrop for equities. Exports remain strong for most Asian markets with China leading the way. Asia is also experiencing domestic reflation with property prices in countries such as Singapore rising strongly, while other broader measures of domestic demand such as retail sales remain robust. Inflationary pressures in Asia also appear to be under control. Broadly speaking, there appears to be little evidence that raw-material price increases are being translated into broader inflationary pressures, and the outlook is for this trend to continue. With regard to exports, the benefits of rising demand from Japan, Europe and intra-Asia trade have more than counterbalanced any slowdown from the US. This is benefiting Asian corporate performance at the profit level and companies remain relatively sanguine about future prospects. The results season in 2007 has generally been positive with earnings for Asia as a whole actually being revised upwards by around 1% - 2%. The major upward revisions have been in the domestic-demand sectors, whereas downgrades have been in the more export-related areas, in particular technology. Overall, Asian corporate earnings are expected to grow to the mid-teens in 2007.

Against such a benign earnings backdrop, the region trades on around 13-times 2008 earnings and the dividend yield is around 3%. These numbers are obviously not as cheap as those of a few years ago, but they remain good value relative to other markets globally. Therefore, we believe Asia should remain a firm investment favourite for overseas buyers, while domestic money, both retail and institutional, will also continue to flow into regional stockmarkets. There is a strong possibility that the straight-line upwards equity market performance that we have seen since last summer is unlikely to continue. With markets having risen so quickly, it is likely that volatility will increase. However, we believe there remain attractive investment opportunities within the region. If the scope of the US slowdown actually became much greater than presently being predicted, or the US housing slowdown turned into a fully-fledged consumer retreat, then that would have an obvious impact on Asian exports. This may then indirectly affect Asian domestic consumer sentiment, which in turn would lead to the domestic demand recovery also being eroded. This remains the major concern, but as yet, there is no evidence for this. With companies potentially well-positioned to take advantage of this benign economic backdrop, we continue to see Asian equities as a long-term undervalued asset class.