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Asia's fundamentals strong despite sharp market swings
FOLLOWING a strong start to the year with a gain of 5.5 per cent in January, Asian equities have tumbled over the past few months, sending their year-to-date performance (as at Sept 17) into negative territory, with prices declining 9.2 per cent in SGD terms.
The intra-year maximum drawdown (peak-to-trough) currently stands at 14.8 per cent, which is not too far away from the average drawdown of about 21.5 per cent for the period 1988-2017. Despite remaining within historical norms and averages, sentiment towards Asian equities has turned decisively bearish in recent months. What has contributed to the reversal?
While there is no single event or catalyst to pin the reversal on, several factors have contributed to the turnaround. The end of the supposed goldilocks environment where growth, inflation and monetary policy were deemed to be "just right" and supportive of both valuations and returns was a significant contributing factor. Bond yields rose towards the end of January as markets fretted over growth numbers that might prompt the US Federal Reserve to hike interest rates faster than expected.
It was also the end of a period of synchronised global growth, where many economies across the globe saw business activity continue to accelerate alongside economic growth. While Purchasing Manager Indices (PMIs) had been signalling an acceleration of business activity in the first two months of the year, most of the subsequent readings have shown a deceleration. Most of the latest releases were near their lows for the year albeit indicating an expansion of business activity at a slower pace.
The disruption to global trade growth has also sent Asian equities tumbling, with China firmly locked in the US' sights amid an escalation of both trade tensions and tariffs between the world's two largest economies. In today's global supply chain, China imports many components from corporates around the region. The potential trade disruption has dragged Asian markets down, given the worries over the damage to Asian countries' exports to China.
Where do we stand now?
Investors may well be spooked by reports that several Asian markets have entered bear market territory, or that markets that have fallen by over 20 per cent. The low volatility environment similar to 2017 has conditioned investors to forget markets' inherent volatility, displayed in the sharp declines and shallow rallies of Asian equities thus far in 2018.
Economic fundamentals, however, have remained positive across most of Asia. Most major Asian economies are still poised to see relatively strong economic growth, and PMIs continue to suggest an expansion of business activity while policymakers in China look to enact targeted easing to help the domestic economy buffet some of the headwinds stemming from trade tensions and tariffs.
Alongside positive economic fundamentals, Asian corporate earnings have also proven resilient in 1H2018, posting growth of 15 per cent on a year-on-year basis in that time, while forward consensus earnings estimates still expect growth of over 11 per cent each for both 2019 and 2020.
The drop in share prices alongside growing profits and a stable economic backdrop means that Asian equities as a whole are trading at a discount and make an interesting proposition for investors. With a forward price-to-earnings ratio (PE) of 11.1 times based on 2019 estimated earnings, compared to the estimated fair value PE of 14 times, the region is forecast to deliver an attractive annualised total return (inclusive of dividends) of 23 per cent by end-2019.
There are several ways to access the region's attractive potential returns. For those who are risk adverse and seek exposure to the larger Asia-Pacific ex Japan region, Asian balanced funds such as First State Bridge, Schroder Asian Income and JPM Asia Pacific Income offer a more conservative avenue to invest in the region, with the added ballast of fixed income to provide extra stability. While First State Bridge's fixed income arm sleeve invests in investment grade names, the Schroder Asian Income and JPM Asia Pacific Income fund have a portion of their fixed income in non-investment grade names which offer higher yield at the expense of additional credit risk.
First State Dividend Advantage and Fidelity Asia Pacific Dividend Fund offer investors an income-oriented approach to investing in Asia-Pacific ex Japan equities. On top of sporting a discount to our estimated fair value, investors should also note that historically, dividends comprise close to 60 per cent of total returns of Asia ex-Japan equity. Thus, the adoption of an income-oriented approach would benefit even investors who are growth-oriented and not currently seeking a stream of income.
For investors who seek a more growth-oriented focus, funds such as Schroder Asian Growth and Blackrock Asian Growth Leaders may be more suitable. The two funds emphasise active management. The Schroder Asian Growth Fund is benchmark agnostic (annual management fee: 1.125 per cent, while the Blackrock Asian Growth Leaders Fund has a mid-cap biased portfolio and a strategy focused on mid- to long-term structural trends reshaping Asia.
- The writer is the assistant director of the research and content team at fundsupermart.com (FSM). FSM is the business-to-consumer division of iFAST Financial, the Singapore subsidiary of iFAST Corporation