India is one of the most popular markets for investors seeking exposure to Asia, but Matthews Asia’s Yu Zhang believes that one of its neighbours shares many of its strengths with attractive long-term growth potential.
Asia has increasingly been mentioned as a dividend haven for UK investors, and the investment case is furthered by a rapidly expanding middle class and GDP growth in many economies outstripping Western nations.
Zhang manages the Matthews Asia Dividend and Matthews Asia ex Japan Dividend funds and co-manages the Matthews China Dividend fund. He explains that before the coronavirus outbreak, the portfolios were positioned for growth, investing in dividend-paying growth stocks and pursuing a total return approach.
However, the approach of the funds has altered in line with the trajectory of the virus as it hit different parts of Asia.
“Essentially, if you follow how the coronavirus hit different parts of the Asian market, the equity markets responded with much heightened volatility,” he said.
Whilst the virus was indiscriminate in its path, there was a predictable pattern emerging in countries across Asia. When the virus hit China, structural growth stocks were sold off aggressively.
“Similarly, in mid-February, Korea and Taiwan followed the China pattern of a market sell-off,” the manager added.
Zhang cites Taiwan’s management of the virus as indicative of the structural growth in the country. The high regard of Taiwanese companies is reflected in the Matthews Asia ex Japan Dividend fund’s top holdings.
Taiwan effectively managed the virus by deploying innovative methods, which was implemented through a combined effort of public and private sector. AI and big data technologies were coordinated with the national databases to trace and monitor Covid-19.
Matthews Asia ex Japan Dividend fund has returned 9.95 per cent year-to-date, in comparison with a loss of 3.75 per cent for the MSCI AC Asia ex Japan index. This also makes it the best performing IA Asia Pacific Ex Japan fund over 2020.
Performance of funds vs sector and index YTD
Source: FE Analytics
Matthews Asia ex Japan Dividend is underweight India, one of the major markets in the region – its GDP figures for June were better than forecasters expected, at 2.1 per cent. However, it’s still a substantial drop from the previous quarter’s results of 4.7 per cent.
A banking crisis before the coronavirus had meant the country was already experiencing downward-trending growth.
“Before the virus the Indian economy was already slowing down. The events around the financial market and considerable loan defaults trickled down to the entire system,” said Zhang.
India’s lower reliance on services and net importer position on oil are other positive signs it could successfully emerge from a downturn.
But while there is significant domestic investment, the level of foreign direct investment may suffer through a lack of infrastructure and government handling of the crisis.
“Purely from an investor angle, the India market is relatively quite weak as of late,” said Zhang.
The portfolio manager also outlined that India’s valuation is still expensive when compared with other emerging markets, especially as its premium has fallen drastically.
Moody’s decision to downgrade India’s sovereign rating for the first time in 22 years may also dampen enthusiasm for foreign direct investment.
As south-east Asia returns to relative normality, India has still not seen the peak of cases, putting more pressure on an overstretched healthcare system and densely populated cities.
Investment hinges on how the government proceeds with labour reforms after the crisis and stimulus packages to support the estimated job losses of 140 million people.
Investors switch from China to south-east Asia
Source: FT
Zhang sees parallels between India and Vietnam – where the fund is overweight – in terms of population and urban metropolis’ ripe for growth.
“They are similar in terms of how investors are envisaging the long-term growth potential,” he said. “Where you can find low cost manufacturing and also a young, well educated workforce.”
A recent article in Trustnet, outlined the growing anticipation that Vietnam can benefit from those looking to economically de-couple from China and move supply chains.
“Vietnam reminds me of how China looked in the late 90s and early 2000s,” Zhang said. “Foreign direct investment in Vietnam will be successful as long as it stays on the economic reform path.”
This path is tasked with removing some of the barriers that would dissuade an investor from deploying capital into the country.
“From an equity market standpoint, there are two things: the market itself is underdeveloped and access to Vietnam markets is challenging,” the manager explained.
Underdeveloped in terms of size, when considering that Chinese technology giant Alibaba has a market capitalisation around the $500bn mark, the Vietnamese market is less than $200bn.
The equity market in Vietnam has long been thought of as insular. MSCI has highlighted that it is significantly impacted by issues concerning ease of access to foreign investors, as some company related information is not always available in English.
Additionally, foreign investors may be subjected to several taxes, namely enterprise income tax, special consumption tax, value-added tax and import and export duties that also discourage greater investment.
However, with those constraints, equity investors should be encouraged by the structural growth and tangible reform measures of the government to stimulate foreign investment.
“The privatisation of state-owned enterprises is a welcome trend,” Matthews Asia’s Zhang said. “Those things will play a positive role in opening the equity market.”
Covid-19 has presented an opportunity for countries in Asia to attract high-quality investment during this relocation. The old reliable policies of a safe investment climate and tax incentives are now not enough and attracting multinational companies with advanced technologies will be imperative to future profit and growth.
Zhang concluded that it’s not inconceivable to see Vietnamese stocks in the large global indices in the future: “Considering it’s good track record, Vietnam is close to meeting the requirements of an MSCI upgrade to emerging market status.”