The case for Asia to outperform a slowing US
Sign up now: Get ST's newsletters delivered to your inbox
China’s embattled property market is stabilising, with nationwide sales in March rising 6.3 per cent year on year.
PHOTO: AFP
Tan Min Lan for The Straits Times
Follow topic:
SINGAPORE – As fears of a banking crisis abate,
Equities are trading near a 12-month high, volatility has subsided, and futures now anticipate a cut of 55 basis points in the federal funds rate by the year end.
In effect, the United States economy is priced for a near-perfect landing, even as Federal Reserve staff raised alarm about “a mild recession starting later this year”. Indeed, with tighter credit conditions and the cumulative impact of rate hikes yet to be fully felt, investors should be circumspect.
Still, this does not preclude pockets of economic strength elsewhere. While the US may be firmly at the tail end of its economic cycle, Asia – China in particular – is showing promise of an early-cycle rebound.
From our estimates, economic growth in the region is set to outpace that of developed markets by about 5 percentage points in the second half of 2023 due to several reasons.
China powers ahead
For starters, China’s post-reopening recovery growth at 4.5 per cent.
What’s encouraging is that China’s embattled property market is stabilising,
Admittedly, geopolitics remains problematic. China technology stocks saw renewed selling on a recent Politico report that the US is about to issue an executive order limiting direct investments into China, potentially encompassing artificial intelligence, semiconductors and quantum computing.
While the reported order appears to be a scaled-back version focusing on transparency and disclosure of new investments rather than an outright ban or a forced sale of existing ones, it is still a near-term overhang.
Still, China’s improving macroeconomic outlook is notable. First-quarter earnings due in May should post meaningful gains, and stock valuations at under 10 times earnings are cheap to boot.
So far, China proxies such as European luxury and Macau gaming stocks have rebounded. Within MSCI China, we expect the performance of the consumer, transportation, capital goods and materials sectors to also play catch-up as the recovery takes hold.
Furthermore, as the post-pandemic era unfolds, decoupling pressure and higher interest rates will likely drive a shift in the focus of tech investing.
To drive returns, we suggest rotating out of long-duration profitless tech and into companies which have embraced “self-help strategies”, such as restructuring, product optimisation, and shareholder-friendly policies. Case in point: Several Chinese Internet companies recently announced restructuring plans
For a good part of the past decade, emerging market assets have broadly underperformed developed markets’. The stars now appear to be aligned for this trend to reverse.
China’s recovery from the pandemic lows, a peaking federal funds rate and a weaker US dollar all point to a robust cocktail for performance ahead. The MSCI Emerging Markets Index is also trading at an unusually wide valuation discount of nearly 40 per cent to the S&P 500.
So, what areas should equity investors focus on? As the semiconductor cycle bottoms, those seeking growth can consider leading memory chipmakers, cutting-edge foundries and select fabless chip designers, South Korea being a key market.
We also favour tourism-related names in the region, as well as Thai equities, as outbound Chinese tourism gathers pace.
Elsewhere in South-east Asia, leading regional banks are growth proxies for the ongoing rejig of supply chains as global companies seek greater diversification and resilience.
Seek pockets of relative strength
In sum, the current buoyancy of US stocks belies a narrow market breadth, often the hallmark of an ending bull market. Investors are therefore advised to position away from the US.
Next, ahead of an imminent Fed policy pause – the last rate hike of this cycle could happen on Wednesday – investors should lock in attractive cash yields and invest in high-quality bonds globally, including Asia investment-grade and emerging-market credit.
Overall, Asia-Pacific currencies could rise by about 6 per cent against the greenback in 2023 as the US’ growth premium and interest yield advantage erode. In particular, the Australian dollar could benefit from China’s recovery, while the Japanese yen could strengthen once the Bank of Japan ends the yield curve control policy, potentially in the second half.
As for commodities, gold remains an appealing portfolio diversifier, which we believe could trade at US$2,200 an ounce by March 2024 on a weak US dollar and strong central bank demand.
Finally, consider seeking exposure to alternative investments, including hedge funds and private markets, and real assets such as commodities, infrastructure and select core real estate.
These are attractive sources of return diversification at a time when “beta” returns from developed equity markets are likely to be limited. That said, investors should be aware of the associated illiquidity risks, and be willing to lock up capital for longer.
The recent banking turmoil is an important reminder of late-cycle risks that accompany an unprecedented global rate hiking cycle. But with a desynchronised global cycle, safer pockets of relative strength can be had in Asia and emerging markets.
The writer is the Asia-Pacific head of UBS Global Wealth Management’s Chief Investment Office.
