Disclaimer
This is a non-independent marketing communication commissioned by Schroder Investment Management. The report has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is not subject to any prohibition on the dealing ahead of the dissemination of investment research.
The Chinese idiom ‘crouching tiger, hidden dragon’ is loosely translated as ‘one must look closely to find hidden talent’, which seems fitting given the lacklustre interest from overseas investors in Asian equities in recent years.
However, with Asia accounting for more than half of the global population and approaching a similar milestone in terms of GDP, a wider unveiling of its talents may be long overdue. Asian economies are largely unencumbered by the eye-watering public debt of their western counterparts and, amid a backdrop of negative investor sentiment, valuations look generally undemanding.
Despite a compelling investment case, global investors remain noticeably underweight Asia. Some of this may be explained by a lack of familiarity with Asian stock markets and geopolitical concerns but a ‘steady hand on the tiller’ from an active manager could help investors to access the upside potential of the region while navigating through any pitfalls along the way.
The engine of global growth
Investors looking for growth arguably need look no further than the Asian region. While western economies grapple with flat-lining growth, there are some who believe that the region is set to boom with the IMF forecasting annual GDP growth of more than 6% for South Asia over the next five years, three times larger than the US. Added to this, many Asian economies have been spared the inflation-driven macroeconomic issues of Europe and the US.
Digging down into the structural growth drivers, disposable income is predicted to more than double in Asia from 2021 to 2040, according to Euromonitor. If this happens, Asia will reach a watershed moment this year when over half of Asians will be ‘middle class’ or ‘rich’ and the region now accounts for the largest consumer class globally, according to World Data Lab.
Demographic factors are also stimulating economic growth: many Asian countries boast a large labour pool thanks to the high proportion of their population in the working-age bracket. The region also fosters a strong culture of entrepreneurship and innovation, with Singapore, South Korea and China ranked among the top 15 countries in the United Nation’s 2023 Global Innovation Index.
Some Asian countries are benefiting from 'friend-shoring' as geopolitical concerns prompt Europe and the US to safeguard supply chains by reducing their dependence on China and Taiwan. Beneficiaries include Indonesia, Malaysia and Vietnam, which offer low-cost manufacturing and supportive trade treaties.
The region has also reaped the rewards of comprehensive structural reforms, such as liberalisation, investment in infrastructure, restructuring of state-owned enterprises and promotion of foreign investment. In addition, corporate governance has become a hot topic to improve shareholder returns and attract overseas investors: the reforms in Japan are well-documented but Korea is exploring following suit with its “corporate value-up” program with the potential for similar initiatives in Indonesia, Malaysia and Thailand.
We’re all different
Treating Asia as a homogenous entity ignores one of its key selling points: the region provides a highly-diversified universe of sectors and countries. This includes a blend of mature economies (such as Singapore and Hong Kong) with their high-growth neighbours in India, Thailand, Indonesia and the Philippines.
The region is also more diverse sector-wise than the US stock market, which (being honest) increasingly hinges on the fortunes of the ‘magnificent seven’ – the group of big tech stocks which has replaced the FAANGS as the new darlings of the stock market. Rattling through some of the sector specialisms, Asia excels in artificial intelligence, robotics and renewable energy (China), semiconductors (Taiwan and Korea), financial services (Singapore), technology services (India) and tourism and manufacturing (Thailand, Indonesia and Malaysia) to name but a few.
Schroder AsiaPacific (SDP) aims to back some of the most exciting prospects in Asia (excluding Japan) and, as a result, the trust is currently overweight information technology and financials.
The banking sector in India has experienced stellar growth over the last decade, helped by financial inclusion initiatives such as the roll-out of digital public infrastructure platform IndiaStack. The percentage of Indians with a bank-account almost doubled to reach nearly 90% in the decade to 2021, according to PwC, which translates to more than 500 million new accounts. The trust has held Indian banks ICICI and HDFC Bank for many years, which have benefitted from this long-term trend.
Other long-term holdings include Samsung and TSMC, which the trust has owned for more than a decade. The semiconductor market enjoys structural growth drivers, with strong demand for electric vehicles, data storage and wider AI applications. Both Samsung and TSMC are global market leaders in their respective sectors, with TSMC posting a particularly impressive total return of 251% over the last five years (as at 03/05/2024).
When knowledge matters
Investing in Asia can be challenging, due to the diversity of the region, geopolitical risk and sensitivity to investor sentiment, in addition to a lack of equity research relative to mature markets.
The managers of SDP, Richard Sennitt and Abbas Barkhordar, have a combined experience of 48 years working in Asian and emerging markets teams at Schroders. They are supported by Schroders’ extensive research team of more than 40 analysts based in six offices across the region.
The trust aims to invest in around 60 ‘high quality but undervalued’ companies from across the region with the potential to generate sustainable returns above the cost of capital. Richard and Abbas are bottom-up stock pickers who seek to mitigate the risk of investing in the region by focusing on quality companies with sustainable earnings, appropriately-structured balance sheets, efficient capital allocation and good corporate governance.
The ability of managers to tilt the portfolio by sector and country can help to drive superior returns: SDP’s largest holdings by geography are currently Taiwan and India (as at 31/03/2024), which are the highest-returning MSCI indices across the Asia Pacific region, with cumulative five-year total returns of 122% and 84% respectively (as at 03/05/2024 in GBP). The trust is also underweight China, which has helped to protect against negative returns over this period.
SDP has achieved a net asset value total return of 26% over the last five years, significantly in excess of the 16% return of the MSCI AC Asia (ex-Japan) Index (as at 03/05/2024, in GBP). It is also trading on a current dividend yield of 2.3% and a discount of 11% which could provide a kicker to returns if the discount narrows.
Looking forward, Asian equities have historically performed well after a reversal in the upwards trajectory of US interest rates and the region should continue to benefit from the long-term secular tailwinds of economic growth and a burgeoning consumer class. If the various factors underpinning the investment case for Asia come to fruition, its days as a ‘crouching tiger, hidden dragon’ may well be numbered.
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