Asia big opportunity, but risks persist

Published January 18, 2012


Asia isn't out of the woods yet but its attractive medium-term growth outlook remains unchanged, says ASHISH GOYAL


LOOKING into 2012, I get a distinct sense of déjà vu. At this time last year, for example, I was advising investors to brace themselves for volatility. Today, my views are largely the same. With hand on heart, I admit that Asia isn't out of the woods yet. I foresee more volatility in 2012. But equally, I see such value that my main focus now is on how best to 'play' this. So I repeat my advice to look beyond the turmoil and focus on Asia's three to five-year outlook; the opportunities are too good to miss.

Asia's attractive medium-term growth outlook, for example, remains unchanged. Asian growth is forecast to be some 3 per cent higher than developed markets, despite the headwinds blowing from Europe and elsewhere. Asia's twin domestic growth engines of investment (think urbanisation and infrastructure) and consumption (think autos, household electronics, travel and financial services) should continue to do well.

I am encouraged to stick with this view, because on the whole 2011 unfolded within the range of outcomes I had expected.

Growth was considerably superior (and pretty commendable in absolute terms) when compared with global growth, despite the difficult environment and spate of natural and man-made disasters.

Asian banks demonstrated, again, that they do not share the problems of either US or European banks. They do not have complex and toxic credit exposures. They are well-capitalised. They are (mostly) conservatively run and function as healthy, profit-making entities.

Asian consumers remained strong. There was some slowdown, given 2009's and 2010's strong surge, but growth continues, underpinned by strong savings rates.

Corporate Asian competitiveness continues to strengthen. Capital management continues to improve. Scale and sophistication continue to improve. And leverage continues to decline.

I remember, for example, when Hyundai Motor group had a low share of the US car market and was discounting heavily against the Toyotas and the Hondas. How times have changed. Hyundai today has a much bigger share of the US market; its cars are well-accepted (as evident in the residual value of vehicles post three years of use). Hyundai also offers smaller discounts on its cars than do Toyota and Honda. Similarly, Samsung now outsells Apple in smartphones. The story goes on and on as you look around Asia.

Nevertheless, there have been changes.

Asian central banks, for example, judiciously tightened monetary policy throughout 2011 in the face of rising inflation and cyclical pressures. As growth has slowed and inflationary pressures have waned, some have started reversing monetary policy, a trend that will likely continue into 2012. (Unlike their Western counterparts, central banks in India, China, Australia and elsewhere in Asia possess considerable monetary firepower should economic growth slow).

Asian currencies weakened to varying degrees in 2011. To some extent, this surprised markets. This strengthening is likely to continue for those economies that are managing their fiscal affairs well and will be more volatile for those that have fiscal and trade surplus challenges. Take India, for instance.

Probably the most significant change is that Asian equity valuations are attractive once again following 2011's pull-back. Last year, I was concerned that the profit forecasts were too aggressive and anticipated a fall; this indeed occurred with forecasts now being at levels I consider more realistic. We are in the final leg of this correction, which I think should end in the next six months. As a result, the conditions for strong equity returns - a positive earnings outlook and a good starting valuation - are falling into place.

No discussion on Asia should end without talking about the risks. Policy error is always a risk in Asia. China remains a market with many policy controls; missteps could be costly. India has already made a few mistakes and is paying the price in terms of elevated wage inflation and continued infrastructure shortages. Korea and Taiwan tend to be more export-oriented; their dependence on Europe and the United States remains high even as their export destinations are moving from developed to developing markets.

Pulling my thoughts together, how am I approaching the markets this year? I strongly believe that there are very good returns to be made for the patient medium-term investor in Asia.

With this in mind, my advice to investors with an appetite for volatility (and aware of the risks) is that they could add to their Asian equity positions during periods of panic when the valuation case becomes even stronger. That is what I have been doing with my funds.

But, apart from looking for value, I am also focusing on income. In today's volatile markets where value is apparent, an equity income strategy looks attractive. For investors who have a lower risk tolerance, a strategy of focusing on dividend-paying stocks may be appropriate. This is a proven investment strategy with an attractive risk-return profile and modestly lower levels of risk.

In conclusion, I reiterate the same point that I made at this time last year: Asia presents a large opportunity, but not without its risks. Plan for the future. Pick up value when it is there. Do not chase it when it is not.

The writer is chief investment officer, Asian equities, Prudential Asset Management (Singapore)