Charity Investment

Quickview: Fed ‘tapering’ fears overblown as Asia story remains on track

Robin Parbrook, Head of Asia ex Japan Equities shares his views on the outlook for Asia

02/12/2013

The recent sell-off in Asian markets following Federal Reserve comments on eventual drawing down, or ‘tapering, of quantitative easing (QE) has seen valuations on Asian stocks come down to attractive levels.

The actual impact of QE on Asian equities has itself been debatable as the asset class has underperformed bonds and developed equities ever since Mr Bernanke embarked on the first of his bond-buying trilogy. Asian markets are becoming cheap and, we believe, are oversold.

So, what indicators are telling us this? Firstly, valuations are low and price-to-book (PB) levels are within 10% of normal ‘stressed’ levels – generally perceived to be 1.3 x PB. Secondly, our own valuation indicator tells us we should be buying when 75% of analysts’ stocks have upside to future value. This watershed will be reached with another 10% fall in markets and we believe the current weakness may provide a buying opportunity.

There has also been much debate recently about ‘hot money’ flows out of Asia and what this means for equities. We see this fear as hyperbole – foreign ownership of Asian stocks has actually been flat over the last four years. As stated before, we believe the positive impact of QE has been negligible. The region is also much less vulnerable than it was in 1997/1998 and, as a whole, is in a much stronger position to weather a liquidity storm.

And what about China? We see the recent People’s Bank of China moves to limit market liquidity as positive, with the country’s regulators starting to come to terms with its runaway expansion of credit growth. We foresee prolonged slower economic growth for the country, but are still sticking to our view that China will avoid a systemic financial crisis.

Finally, as we always like to remind investors, Asia is not China and in this respect, much of the region’s debt levels remain relatively low. Furthermore, the rebalancing that is currently taking place in the world’s second largest economy is essential for that market’s sustainable growth.

Any further falls in the region on the back of these China worries could present the long-term investor with a once-in-a-generation buying opportunity. We foresee prolonged slower economic growth for the country, but are still sticking to our view that China will avoid a systemic financial crisis.

Finally, as we always like to remind investors, Asia is not China and in this respect, much of the region’s debt levels remain relatively low. Furthermore, the rebalancing that is currently taking place in the world’s second largest economy is essential for that market’s sustainable growth. Any further falls in the region on the back of these China worries could present the long-term investor with a once-in-a-generation buying opportunity.

Growth, but slow…

Global economic growth continues to struggle along. We expect a modest recovery in the US to be offset by continued weakness in Europe, which is likely to spend 2013 in recession. Unlike the US, where there was an early banking recapitalisation, European banks still need to strengthen their balance sheets, particularly those in the periphery.

Elsewhere, we expect the emerging market economies to contribute less to global output than in previous cycles. However, both Japan and the UK have been upgraded in our forecasts due to a better than expected start to the year. In particular, there is evidence that “Abenomics” is starting to have an impact on the Japanese economy.

Looking forward…

Fiscal policy will still be in tightening mode in the advanced economies, but the headwind in the US and Eurozone should have eased off. In contrast, Japan will be heading in the opposite direction: after a small easing of policy this year, an increase in the consumption tax will result in significant fiscal tightening. Against this backdrop, inflation is expected to remain relatively subdued as global growth is not strong enough to push up commodity prices or wages.

Global monetary policy is set to remain accommodative with the developed world expected to keep interest rates low. In the US, however, Chairman Bernanke has indicated the intention to begin reducing asset purchases before the end of the year, which we now expect to occur in December. The picture in Emerging Markets is more mixed with interest rate cuts expected in India and Russia, but hikes in Brazil by 2014. In China there is a risk of tighter policy in attempt to cool property speculation.

Implications for markets Despite recent volatility, equities, where we are overweight, should remain well-supported in the medium-term given that they still offer an attractive premium relative to safe-haven assets. Our underweight to bonds reflects our concern that they remain overvalued and carry inherent capital risk. We retain exposures to liquid, transparent ‘absolute return’ funds, where appropriate, to help reduce portfolio volatility and to provide some downside protection. We continue to favour an allocation to property given the attractive level of yield available from our preferred funds and as the market starts to show signs of stabilisation.

 

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