Asian Equities — Usual Summer Doldrums Ahead?

With SARS having been contained, Asian economies are starting to pick up again. This article looks at the current investment markets in various Asian countries.

We believe that the 2Q 2003 rally is about to end, not just because the quarter is running out but more so because stock trading volumes are easing (Hang Seng volumes recently fell to around 200m shares from 300m), institutional pre-semester end equity position build-up is ending, the traditional summer holiday slowdown is setting in, the strong liquidity push from fast falling US interest rates is likely to moderate, and last but not least, some profit taking is expected.

However, the medium-term outlook remains bright! With SARS contained, Asian life has largely returned to normal. Yes, Asian international tourism has remained depressed, but anecdotal evidence suggests that Asians are crowding domestic beaches and retail outlets again. The negative impact on domestic spending seems to have been short-lived. Overseas tourists, on the other hand, are slow in rediscovering Asia as a holiday destination, while many Airlines have been offering superb value packages. Overall, SARS did indeed temporarily hit domestic activity in Hong Kong, China, Taiwan and Singapore hard.

More importantly, Asian economies are being boosted by aggressive reflationary US policies: The weakening USD increases Asian competitiveness, having their currencies either pegged to or guided by the USD. It also brightens the global economic growth outlook and raises global liquidity and money flows into financial markets. Reflationary US policies may also ease some deflationary concerns in Asia (Hong Kong, Taiwan and Singapore), and have already further heated China’s industrial investment growth, which is now virtually exploding, rising 50% YoY. China thus remains the main beneficiary of global outsourcing.

Asian interest rates continue to fall (Korea, Malaysia, Thailand, Indonesia and Philippines), we have seen further fiscal easing (Hong Kong and Malaysia), India is realistically looking for a normalised monsoon after last year’s drought, and Thailand continues to boom amidst rising agricultural prices, fiscal stimulus and new job creation. Overall, exports, contributing over one-third to Asian GDP, have remained robust, in particular when adjusting for the temporary SARS impact. Domestic private consumption growth has remained mixed but positive. Thai and Chinese consumption goes from strength to strength, while, at the other end of the spectrum, Hong Kong, Singapore and Taiwan struggle on falling prices and/or structural deficits.

Asian stock valuation has remained cheap. The price-to-book value ratio (‘P/BV’) has remained close to historic lows (see graph) despite recently increased depreciation and lower net debt gearing. Furthermore, profitability is at its highest level since the Asian crisis in 1997/1998. As such, Asian stocks offer superb value!

On a country basis, we remain most optimistic on Thailand, China and Malaysia. While the former two benefit from ongoing strength in exports and domestic private consumption, Malaysia is benefiting from the May economic stimulus package, political transition and early signs of a next round of financial sector consolidation. Our key sector overweight is information technology with Asia not only benefiting from a global sector improvement but also from the ongoing global outsourcing trend, followed by energy on the back of well holding up energy prices.

China (Overweight): Investors have been concerned about bubble risk as investments now account for close to 40% of China’s GDP, or at similar levels to ASEAN countries before the financial crisis. However, taking a closer look, the situation for China should prove to be more stable, given its ample savings, current account surplus and FX reserve. A slowdown in growth is inevitable, but we do not foresee a crash of the economy and indeed, such slowdown is healthy in cooling down an overheated economy. Its currency might be facing pressure for upward revaluation, but a 1–2% widening of the FX band would not do much damage to exports growth but just help ensure a more sound long-term currency policy. In China, we favour Huaneng Power (Outperform), Denway Motor (Outperform), Sinopec (Outperform) and CNOOC (Outperform).

Hong Kong (Underweight): The Hong Kong market is a beneficiary of liquidity inflow, weaker USD, and brighter export outlook. There is also wide expectation of an introduction of ‘Closer Economic Partnership Arrangement’ (‘CEPA’) between Hong Kong and China, which will definitely help improve the long-term strategic position of the territory. However, at this index level, which assumes that everything is now back to ‘normality’, the room for disappointment is increasing and any sign of weakness on macro or corporate earnings could easily spark a summer setback. In particular, we are cautious on properties and banks, given the persistent weakness of housing prices due to oversupply and stagnant loan growth. We maintain our preference on global plays, namely Li & Fung (Outperform), Johnson Electric (Outperform), Esprit (Outperform) and Hutchison Whampoa (Outperform).

India (Neutral): It is all down to the monsoon. With the last monsoon disappointing, the consumer-driven credit cycle could largely come to a stop if agriculture income would fall short of expectation on poor crop. Nevertheless, we foresee that the market could see a further stimulation from the central bank since further easing of interest rates on rising reserves is likely. Since we feel uncomfortable to forecast weather, we take a wait-and-see position for the time being.

Korea (Underweight): With an economic turnaround in sight, the SARS epidemic largely contained and market fundamentals, whilst fragile, showing signs of improving, we believe Korea is well poised for a gradual recovery over the 2H03. Macro indicators suggest the slump in domestic consumption arising from the credit card liquidity problems over the last year are abating, and that consumer confidence is slowly, but surely, returning. Near-term, labour unrest and SK Global developments may keep investors on edge, but with consensus forecasts predicting a strong recovery for Korea into 2004, we believe companies offering exposure to improving global economic conditions, as well as the domestic turnaround story, to outperform. Our preferred exposure, Hyundai Motors (Outperform) fits the bill.

Malaysia (Overweight): Malaysia is benefiting from the 26 May 2003 economic stimulus package worth MYR7.3bn, of which MYR3.6bn are government loans to small and mid-sized enterprises, which contribute 25% to Malaysia’s GDP and employ 39% of its workforce. Prime Minister Dr Mahathir’s retirement in October is also taken as a positive as the process appears to be very smooth. There are also early signs of a next round of financial sector consolidation. In addition, the Kuala Lumpur Stock Exchange recently lowered trading board lots from 1,000 to 100 to improve trading liquidity.

Singapore (Underweight): The city-state’s market saw a strong liquidity driven rally on SARS-relief and improved economic outlook. Nevertheless, Singapore will continue to be challenged by structural issues following the loss of competitiveness in the manufacturing space. In addition, we see that inflation remains in the negative territory and with growth prospect still cloudy, we do not expect this situation to improve. Recent successes in property launches spurred by attractive loan packages has certainly improved sentiment but we assume such has already been discounted. We prefer SembCorp Industries (Outperform) as a restructuring story, Singapore Press Holdings (Outperform) on improved consumer sentiment and DBS Group (Outperform) on valuation grounds.

Taiwan (Neutral): Taiwan is a double-edged sword. Technology, we believe, is finally turning the corner and given the restructuring (shift to mainland) that we have seen in the manufacturing sector. We believe that Taiwan should remain a key beneficiary in the ongoing outsourcing of electronic manufacturing services. On the other hand, we see the domestic market remaining soft in the wake of weak consumer confidence. We prefer technology names like ASE (Outperform), Winbond (Outperform) and Asustek (Outperform).

Thailand (Overweight): Thailand’s domestic economy continues to power along, driven largely by strong exports, the acceleration in private investment, and robust domestic consumption. Against the backdrop of a healthy domestic economy, higher commodity prices, and lower debt levels and funding costs, conditions for the overall corporate sector have never been better. Not surprisingly, Thai companies in general reported record 1Q03 earnings results. Despite recent liquidity driven out performance, Thailand’s equity market continues to look attractively valued. Interestingly, the majority of Thai companies with quoted bonds have dividend yields higher than their bond yields. Furthermore, with no major capital or bond issues on the horizon, excess liquidity will continue to filter through to equity markets. We recommend exposures in Advanced Info Service (Outperform) and Bangkok Bank (Outperform).

Stefan Meyer, Desmond Tjiang, Ivo Buschor & Kim Ta
UBS Wealth Management
For inquiries: econtactasia@ubs.com