The economic outlook for the coming year in Asia remains bright, and there are many strong trends for growth and profitability which encourage us in our search for good companies at reasonable valuations. Even India, where the market appears to be on a high P/E valuation, is probably on the verge of a construction boom, particularly in the ‘affordable housing’ sector.
In China, too, the fears of a debt crisis or a property collapse have receded and there is every expectation that, even if growth slows to 5%-6%, the private sector and the internet, education, healthcare, travel, and e-commerce industries will continue to grow at an average of 15%. We are actively looking at healthcare and technology opportunities in the A Share markets, especially in Shenzhen. We see 2018 as being a banner year for China, as domestic markets begin to be included in the international benchmarks and the huge store of savings in China flows increasingly into the share markets, rather than property speculation (as Xi Jinping said in October, “A house is for living in, not for speculation”) or overseas destinations.
However, one key aspect of our analysis is the impact of disruptive technologies, as the internet has impacted so many sectors: book shops (Amazon), taxis (Uber), hotels (Airbnb), stamps (e-mail), automobiles (electric vehicles), possibly medicine, law, and even politics (tweets). We are increasingly cautious of the risks that disruption can bring to our investment strategy. The area we are now focused on is banks, since the rise of the bitcoin to almost US$20,000 is a symbolic, but strong, signal that blockchain technology has arrived and it will have a deep impact over the next 5 or 10 years on retail banks, investment banks, and even central banks. Perhaps the era of unlimited money printing is going to arrive at a moment of truth by 2020.
As one seasoned investor observes, “Bitcoin is a gold disruptor,” and it is surprising to see that gold, which also has a limited supply and is acceptable in all nations through history, has not moved at all, while the new digital currency (is it really secure?) has soared 20 times in a year. But it is surely a banking industry disruptor and although we have a short-term bullish stance on private sector banks in India, in Thailand, in Indonesia, and selectively in Hong Kong and China, we can see, over the next decade, a severe shrinking of the European banking industry. The consolidation in the US has already happened to some extent, and the winners, such as JP Morgan and Wells Fargo, are clear.
In addition, in China we have the phenomenon of Alipay and the money market fund, launched by Alibaba, which has already garnered US$230 billion over 4 years, which surely poses a severe challenge to the dominance of the Chinese banks. In a state (and party) dominated economy, however, the outcome is likely to be different. Though Google, Facebook, and Amazon may face monopoly challenges in Europe and North America, it is more likely that Baidu, Alibaba, and Tencent will be “co-opted” by the party to serve the interests of China, Inc. We do not yet anticipate severe costs to shareholders in these companies.
Clearly 2018 will differ from 2017 in that the focus on technology will shift to the next phase of consolidation. Also, we are looking (on the “Dogs of the Dow” principle) at neglected and undervalued sectors, such as energy and mining.
In India, the scene will be dominated by the approaching election in May, 2019. Two major government policies – “Electricity for All by 2019” and “Housing for All by 2022” – will lead to a boom in construction and infrastructure. Our investment strategy has recently focused on cement, mortgage lending, and property development companies.
We expect that GDP growth in India will reaccelerate from 6.3% in the 3rd quarter to nearer 7% next year. The government has indicated that they will simplify corporate taxation by reducing rate and streamlining allowable deductions. Although we believe that the interest rate cycle is near the bottom, the Indian stock market could have another good year in 2018 with favourable base post demonetization, GST and possible recovery in investment cycle.
China is experiencing a slowdown, and tightening of monetary conditions, following the anti-corruption crackdown. Paradoxically, this lays the foundation for strong performance in the Shanghai and Shenzhen markets. Chinese exports are benefitting from a recovery in global demand. A consolidation in overcapacity industries (steel, coal, cement, shipbuilding, construction) may lead to better results and clear winners.
In the auto industry, for instance, where annual sales reached 25 million units last year, we have identified one winner – Geely – whose sales grew nearly 70% and is aiming to sell 1.8 million electric vehicles per year by 2020 which is more than 30% of the national target.
The investment opportunity, as we see it, is very much one of a careful stock selection, both in Hong Kong and China, for the most undervalued growth opportunities. We shall also be scouring the Southeast Asian markets for similar opportunities: our favourites remain Vietnam and Thailand, while Malaysia continues to disappoint.
Our Indian Ocean Fund has had a good debut in its first 12 months, rising 17% (despite the cost of having 10% in Pakistan, which we have now exited). The total return on our Indian investments within the portfolio is just under 30% in its first 12 months. Bangladesh, Sri Lanka, Vietnam, and South Africa (only in the Tencent holding Company, Naspers) have all performed well.
In our regional Bamboo strategy, we have slimmed down the portfolio to 25 core positions, and, after a year of strong performance, have taken some profits to bring cash levels to 15%. Our core philosophy is first not to lose money, second to re-examine every position regularly to see if anything has changed, “Would we still buy the shares at this level?”, and third, to focus always on our core convictions.
Fundamentally, we see that Asia (the 70% core of the Emerging Market asset class) has lagged for several years behind the US market, and in 2017, has begun to catch up, a movement that we confidently expect to continue through the end of 2018.
Robert Lloyd George
15 December 2017