Gaining exposure to the Asian consumption boom via ASX

Asia is a region of contrasts, not just culturally but in its economies, businesses and legal regimes. But one thing Asian companies have in common is that they are situated in the world’s engine-room with the highest growth rate.

Once seen only as a manufacturing hub, the listed companies in Asia (ex-Japan) are now showing they can compete with the best in any industry. Think names like Tencent, Baidu and Samsung.

It’s an exciting time to be investing in the region, and its companies can be accessed with professional active management through several ASX-listed investment companies (LICs), including the PM Capital Asian Opportunities Fund (PAF).

Investors have long been waiting for Asia to mature in its range of investment possibilities.

For some time, the region was seen as Factory Asia. Turn over any mass-produced good and odds-on you would find the ubiquitous “Made in China” label.

Now the quality of the opportunity subset has improved considerably, for several reasons:

  • Demographics are shifting the region’s way. While other regions are feeling the pinch of lower growth rates, Asia is expected to add more than 2.5 billion middle-income earners by 2030. This is likely to dwarf the rest of the world. Asian consumers now play a far more important part in the global market.
  • Local consumers are producing local champions. As you would expect, a combination of lower labour and transport costs gives the local players the edge over rivals, but it is their intimate knowledge of the end customer that is by far their biggest advantage. An excellent example of this is the largely unknown Kweichow Moutai, which has risen to be the most valuable liquor company in the world.
  • Asian-born innovation leaders are on the rise, competing head-to-head with Western incumbents. China’s Tencent and Alibaba, Korea’s Samsung and Taiwan’s TSMC, a world-leading semiconductor foundry, are notable examples. Asia’s shift from fast follower to global innovator is being driven as much out of necessity as it is by the rise of a highly educated workforce.
  • No longer is Asia’s listed universe dominated by a collection of state-controlled banks and commodity companies where underlying business fortunes are dominated by the macro-economic environment and investment decisions are made for the good of the nation and not shareholders. The growing role of private enterprise as Asia transitions from a fixed-asset investment driven economy towards the services and technology sectors, has vastly enhanced the investable universe. Six of the 10 largest weightings in the MSCI Asia (ex-Japan) are private companies run by independent and entrepreneurial management teams.

Asia now contributes more than 40 per cent of global GDP, double that of the United States and four times that of Europe. In 1990, the three regions contributed close to an equal amount to global production.

Divergent markets across Asia

Although some investors can see Asia as an amorphous mass, it is a collection of unique and disparate economic jurisdictions with varying growth dynamics.

The region is not just a China play, but a moving sum of parts that can create opportunities across countries.

Take for example China’s One Belt, One Road initiative. Launched in 2013, it encompasses more than 60 countries and $330 billion in funding pledged from the Chinese Government, as well as regional and global infrastructure and development banks.

One Belt, One Road marks China’s evolution from a country focused predominately on development at home to one expanding its sights to the international stage. The effects are not just on China; the engineering firms set to win construction contracts abroad or the domestic equipment manufacturers set to benefit from exporting products globally.

Among PM Capital Asian Opportunities Fund’s (PAF) Chinese holdings, logistics and infrastructure provider Sinopec Kantons has been and will be one of the biggest beneficiaries. As part of the Sinopec Group, it has invested along the Maritime Silk Road through the acquisition of Vesta Terminals in Europe and a greenfield oil storage development in Fujairah, United Arab Emirates.

However, given Asia’s low weighting in global indices, we believe the investment implications of One Belt, One Road and the region’s overall growth dynamics are currently getting less attention from investors than is warranted. This is despite regional valuations being in line with long-term averages and positive earnings revisions likely to come through over the medium term.

This lack of relative attention is unwarranted, and we expect this to change over time.

Global equity benchmarks are overweight the US, so those that invest passively will not gain adequate exposure to the dynamic Asian region. For example, a commonly used investment benchmark, the MSCI All Country World Index, has a 52.2 per cent exposure to the US and only a 3.5 per cent exposure to China.

Those who used to think that Australia, with its bountiful natural resources, is an adequate proxy to the region may also want to think again. Asian economies are shifting to consumption that is not so reliant on our coal and iron ore.

In addition, regional benchmarks are overweight a handful of companies that are typically leveraged to the wrong sectors. Global brand names will also not give you coverage because Asia will create its own champions.

Benefits of Asia-focused LICs

The Listed Investment Company structure may be an effective vehicle for Asian equities-focused funds.

Offered on ASX, LICs provide stability of capital, which can mean the portfolio manager does not need to worry about managing cash flows associated with funds being redeemed or invested.

(On the other hand, in a trust structure, units can be redeemed at the net tangible asset price, minus a buy/sell spread. The best approach depends on an investor’s individual circumstances).

The LIC structure can also mean that the company does not have to keep cash on hand, allowing it to be fully invested as desired.

The growing provision of dividends is another factor that can be attractive when considering an investment in Asia.

The PM Capital Asian Opportunities Fund offers a grossed-up dividend yield of 5.35 per cent (at the time of writing). Because of its corporate structure it can offer this fully franked dividend, giving investors a tax benefit, particularly for superannuants or SMSFs.

LICs can also retain earnings from one year to the next, which can allow for a more consistent dividend profile for investors.

We continue to focus on the underlying earnings potential of Asian businesses rather than fixating on the macro trends, which are very hard to predict. We are cognisant that there may be an uneven ride as Asian growth transitions from fixed asset investment to consumer driven.

We believe that a targeted approach focusing on specific Asian businesses and industries benefiting from structural growth, or recovering from extreme cyclical corrections, will yield strong results for investors over the long term.

This article was originally published in the ASX Investment and Finance newsletter.