Strong growth cycle to benefit Asian stocks

UOB Asset Management says macro indicators look good, valuations are still reasonable, and cyclical stocks are favoured

All over Asia, ports are buzzing and factories are ramping up their operations.

The latest data shows how Asian exports, particularly in semiconductors, continue to recover on higher global demand.

With many still on the sidelines, the year 2018 can continue to reward investors in Asian stocks, said Mr Colin Ng, UOB Asset Management (UOBAM)’s Executive Director and Head of Asia-Pacific Equities.

“We believe the momentum from last year will continue into 2018. So we will continue to position our portfolio with a growth bias. Investors may take advantage of any market weakness to increase equity exposure further,” said Mr Ng, who is the fund manager of the United Asia Fund.

Colin Ng, Portfolio Manager, Executive Director and Head of Asia-Pacific Equities, UOB Asset Management. PHOTO: UOB ASSET MANAGEMENT

He gave a number of reasons why Asian markets can continue to thrive.

First, the macroeconomic outlook is bright. Leading indicators like Purchasing Manager Indices and recession probability models show a positive picture.

“Growth from China as well as in the West continues to spill over to the region. I don’t see any reasons why that should stop now, with no signs of overheating and with benign inflation,” he said.

Second, valuations are still reasonable.

Relative to US equities, Asian stocks are still trading at about a 20 per cent discount on a price to earnings and price to book basis, he said.

“Asia used to trade at a premium to US equities in 2007,” Mr Ng said citing MSCI data.

Third, reasonable valuations are supported by positive upward earnings revision and improving corporate profitability.

Based on MSCI data in January, earnings at Asian companies grew by a robust 23 per cent last year. Analyst forecasts continue to be revised upwards.

Last year was the first time in six years that returns on equity (ROE), a measure of profitability, improved across many Asian markets. China and Hong Kong, South Korea, Taiwan, Singapore, Indonesia and India all recorded improvement, Mr Ng said.

The improvement comes about because corporate management has become more disciplined in managing their balance sheets and spending on capital expenditures. Corporate debt levels have come down while operating margins have improved.

Strong growth, reasonable valuations and improving profitability mean it is too early to talk about the business cycle peaking, Mr Ng said.

“The historical understanding is that every eight to 10 years, we may face a global economic recession. But because of the modest pace of expansion we’ve seen, we believe that this cycle might last a bit longer. We do not see any indicators to suggest otherwise.”

Cyclical bias

In 2018, UOBAM favours cyclical sectors. Stocks in areas like banks and insurers, consumer discretionary and technology may benefit significantly when global economic momentum continues.

For example, the large banks are enjoying higher net interest margins and improvement in non-performing loans. The insurers are seeing strong premium growth and benefit from higher bond yields.

In Thailand, a country favoured by UOBAM, expectations are for the economy to grow at 4 per cent, up from 3 plus per cent in previous quarters, according to Bloomberg data in January.

Stocks the house picked range across banks, department stores and landlords, and an airport operator.

“Tourism has been a bright spot, and we are seeing more tourist arrivals from China. Coupled with improving spending and export growth this year, Thailand’s economy can continue to prosper,” Mr Ng said.

At UOBAM, teams of analysts on the ground help sieve through potential gems which are not as well researched by the market, he said.

In Malaysia, a lesser-known pick is a technology supplier in smartphone giant Apple’s supply chain. In South Korea, UOBAM is invested in a mobile gaming company. “We anticipate improved profitability that could be underestimated by the market,” Mr Ng said.

“Technology in mobile phones has advanced to a stage where everyone is carrying a small personal computer in their phones. Data accessibility has also improved with 4G networks, which allows some IT companies to develop interesting apps (applications) on the phone. Consumer behavior has changed with advancement in technology development.”

On the other hand, UOBAM prefers an underweight exposure to defensive sectors such as telcos and utilities.

The firm is also taking some money off the table in some technology stocks after a remarkable rally in the technology sector last year. Some names have rallied above their fair values.

Nonetheless, it remains positive on the medium to longer term prospects of technology.

 “We are redeploying into the old economy stocks in the financial, materials and energy sectors, which are now more attractively valued,” he said.

ESG a part of investing process

In the pursuit of superior returns, UOBAM closely tracks the corporate governance of a firm and management’s track record.

Another distinguishing factor is how the fund house is incorporating other sustainability-related metrics assessing a company for its commitment to environment and social concerns. These are collectively known as ESG (environment, social and governance) metrics.

Mr Victor Wong, UOBAM Senior Director and Head of Asean Equities, said examples of the ESG assessment include checking board diversity and composition, or how a shipyard deals with hazardous materials, labour practices, and charitable activities.

Victor Wong, Portfolio Manager, Senior Director and Head of Asean Equities, UOB Asset Management. PHOTO: UOB ASSET MANAGEMENT

“We make sure every company we invest in meets a minimum standard of corporate governance. We also rate the company on environmental and social metrics,” he said.

“This is not just a form-filling process. It reflects well on management to have ESG policies in place. We believe a company that does well in ESG is also a better-quality firm that should deliver sustainable performance over the long term.”

Ultimately, Asian equities are poised to benefit from the synchronised global growth cycle contributing to a revival in corporate profitability.

 Mr Ng said that all signs point to Asia staying buoyant for a few more quarters to come.

“Economic growth since the global financial crisis has been modest. If economies are recording very strong growth, then its sustainability can be questioned. Markets are trending up, marked by bouts of volatility, and not in a sprinting pace. If you jog slowly, you can jog on for longer.”