Deutsche AM prefers developed Asia over emerging Asia
Investment Outlook Series: Andrew Tan, a portfolio manager at Deutsche Asset Management, expects Hong Kong and Singapore to face milder inflationary pressures as unemployment remains low.
This is part of an AsianInvestor series on the investment outlook of fund managers with Asian portfolios.
Andrew Tan is a Singapore-based director and a lead fund manager at Deutsche Asset Management. He joined the company in 2004 as a fund manager for Asian equities and a member of the global sector team for technology. He manages Asian mandates for European pensions and absolute return funds. Prior to joining Deutsche Asset Management, he spent four years investing in the Greater China markets for Tokio Marine and Target Asset Management.
What are the biggest opportunities that you see in the markets you are responsible for in the coming 12 months? How are you preparing to take advantage of those opportunities?
Tan: Mergers and acquisitions, inflation, and the US election.
The urge to merge and acquire will remain strong. As large companies struggle to find growth organically, M&A is a viable option since access to liquidity remains abundant and financial balance sheets are healthy. For instance, within the resources sector, we have seen the proposed takeover of Rio Tinto by BHP Billiton and the counter-bids from the Chinese mining companies. In the banking sector, we have several Asian banks expressing interests to acquire stakes in Hong Kong and Indonesia. For instance, the case of China Merchant Bank buying Wing Lung Bank as well as Maybank acquiring Bank International Indonesia.
As we enter into a phase of structurally higher inflation, demographic shifts in the emerging market blocs like China and India will remain key drivers of higher energy, agricultural and resource prices, which will in turn be exporting inflation to the rest of the world. Supply for scarce resources remains constraint. We see opportunities in the upstream energy, telecoms and resources sectors.
Historically, since 1928, most of the US election years have turned out to be years of positive returns. Any policy reforms or feel-good effects from a new leadership may swing US consumption and investment which in turn have a positive impact on the Asian exporters.
How different or similar is your 12-month investment outlook now compared to the start of this year?
Energy prices and the interest rate outlook did surprise on the upside. Notwithstanding the global slowdown and the credit crisis, the energy prices hit new highs, driven by the persistent appetite from emerging markets. To some extent, that helped Japan exit its long-standing deflation trap. The recent US Federal ReserveÆs hawkish view was a surprise too, especially in light of the series of rate-cuts that were made in early 2008 to deal with the credit crisis.
Have you made any significant changes to your asset allocation in terms of markets or sectors in the past few months?
We remain disciplined to focus on what we have been consistently doing well û our bottom-up stock selection. We have further reduced our exposure in the industrial sector as we are concerned that margin sustainability will be a challenge. Based on our supply-chain analysis, many of the shipbuilding companies and airline operators will face increasing difficulties to pass through the higher energy and raw material prices to their end-customers.
What are your favoured markets in Asia?
We prefer developed Asia to emerging Asia. On a relative basis, Hong Kong and Singapore are expected to face milder inflationary pressure as unemployment remains low. Capital management policies such as share buy-backs and improving dividend pay-outs should provide a buffer to weather significant downside. Within emerging Asia, we like Taiwan, more so after its recent correction and if capital link policies with China work out well.
What are the markets you are going to steer clear of in the coming year?
We are avoiding markets which are especially vulnerable to rising inflation as we hold the view that energy and food prices are likely to stay high and central banks in these markets may hike rates aggressively to tame inflationary expectation.
What are your market weightings within an Asia ex-Japan equities portfolio?
China: Neutral
Hong Kong: Overweight
India: Underweight
Indonesia: Underweight
Korea: Underweight
Malaysia: Underweight
Pakistan: N/A
Philippines: Underweight
Singapore: Overweight
Sri Lanka: N/A
Taiwan: Overweight
Thailand: Overweight
Vietnam: N/A
Which sectors do you expect to outperform in the coming year?
We prefer the telecoms sector for its growth at a reasonable price. First, we are still seeing visible pockets of strength in the sector. Growth remains robust in emerging markets like China and India, where rural penetration is relatively low. The adoption of value-added services like data and video provides secular growth potential. Second, the demand for telecommunication services and equipment is probably higher compared to five years ago as affordability improves and the need for connectivity has become more evident. Last but not the least, the favourable capital management policies of several leading Asian telecom companies. For instance, leading telecom operators in Taiwan and Thailand are generating a sustained cash dividend yield in excess of 6%.
Which sectors do you expect to underperform?
We are avoiding the industrial sector as we expect many companies within the sector to be more prone to demand and margin shocks. Rising cost pressures will translate to margin compression. For instance, airline and ship-building companies are struggling to deal with the challenge of passing on higher costs of jet-fuel and steel without hurting demand.
What are the main challenges that you expect to face in the coming 12 months?
A shift in the US Federal Reserve policy will have a significant impact on Asian equities. The appreciation of Asian currencies should not be taken for granted. Amid rising energy prices, current and capital account deficits are starting to occur in several Asian economies. With respect to energy pricing, the biggest uncertainty will be the geo-political stability in the Middle East.
What are the main risks of investing in Asia at the moment? How are you managing those risks?
At the moment, we expect a key risk to be inflation and its impact on the domestic policies in Asia. The balance between growth and inflation will be a challenge to most policymakers in this region. The situation gets compounded by policy changes brought on by rising energy and food prices. In some instances, we are seeing tightening measures and lifting of price controls in economies which are net importers of oil and have fuel subsidisation policies in place. We tend to avoid companies in such markets.
Andrew Tan is a Singapore-based director and a lead fund manager at Deutsche Asset Management. He joined the company in 2004 as a fund manager for Asian equities and a member of the global sector team for technology. He manages Asian mandates for European pensions and absolute return funds. Prior to joining Deutsche Asset Management, he spent four years investing in the Greater China markets for Tokio Marine and Target Asset Management.
What are the biggest opportunities that you see in the markets you are responsible for in the coming 12 months? How are you preparing to take advantage of those opportunities?
Tan: Mergers and acquisitions, inflation, and the US election.
The urge to merge and acquire will remain strong. As large companies struggle to find growth organically, M&A is a viable option since access to liquidity remains abundant and financial balance sheets are healthy. For instance, within the resources sector, we have seen the proposed takeover of Rio Tinto by BHP Billiton and the counter-bids from the Chinese mining companies. In the banking sector, we have several Asian banks expressing interests to acquire stakes in Hong Kong and Indonesia. For instance, the case of China Merchant Bank buying Wing Lung Bank as well as Maybank acquiring Bank International Indonesia.
As we enter into a phase of structurally higher inflation, demographic shifts in the emerging market blocs like China and India will remain key drivers of higher energy, agricultural and resource prices, which will in turn be exporting inflation to the rest of the world. Supply for scarce resources remains constraint. We see opportunities in the upstream energy, telecoms and resources sectors.
Historically, since 1928, most of the US election years have turned out to be years of positive returns. Any policy reforms or feel-good effects from a new leadership may swing US consumption and investment which in turn have a positive impact on the Asian exporters.
How different or similar is your 12-month investment outlook now compared to the start of this year?
Energy prices and the interest rate outlook did surprise on the upside. Notwithstanding the global slowdown and the credit crisis, the energy prices hit new highs, driven by the persistent appetite from emerging markets. To some extent, that helped Japan exit its long-standing deflation trap. The recent US Federal ReserveÆs hawkish view was a surprise too, especially in light of the series of rate-cuts that were made in early 2008 to deal with the credit crisis.
Have you made any significant changes to your asset allocation in terms of markets or sectors in the past few months?
We remain disciplined to focus on what we have been consistently doing well û our bottom-up stock selection. We have further reduced our exposure in the industrial sector as we are concerned that margin sustainability will be a challenge. Based on our supply-chain analysis, many of the shipbuilding companies and airline operators will face increasing difficulties to pass through the higher energy and raw material prices to their end-customers.
What are your favoured markets in Asia?
We prefer developed Asia to emerging Asia. On a relative basis, Hong Kong and Singapore are expected to face milder inflationary pressure as unemployment remains low. Capital management policies such as share buy-backs and improving dividend pay-outs should provide a buffer to weather significant downside. Within emerging Asia, we like Taiwan, more so after its recent correction and if capital link policies with China work out well.
What are the markets you are going to steer clear of in the coming year?
We are avoiding markets which are especially vulnerable to rising inflation as we hold the view that energy and food prices are likely to stay high and central banks in these markets may hike rates aggressively to tame inflationary expectation.
What are your market weightings within an Asia ex-Japan equities portfolio?
China: Neutral
Hong Kong: Overweight
India: Underweight
Indonesia: Underweight
Korea: Underweight
Malaysia: Underweight
Pakistan: N/A
Philippines: Underweight
Singapore: Overweight
Sri Lanka: N/A
Taiwan: Overweight
Thailand: Overweight
Vietnam: N/A
Which sectors do you expect to outperform in the coming year?
We prefer the telecoms sector for its growth at a reasonable price. First, we are still seeing visible pockets of strength in the sector. Growth remains robust in emerging markets like China and India, where rural penetration is relatively low. The adoption of value-added services like data and video provides secular growth potential. Second, the demand for telecommunication services and equipment is probably higher compared to five years ago as affordability improves and the need for connectivity has become more evident. Last but not the least, the favourable capital management policies of several leading Asian telecom companies. For instance, leading telecom operators in Taiwan and Thailand are generating a sustained cash dividend yield in excess of 6%.
Which sectors do you expect to underperform?
We are avoiding the industrial sector as we expect many companies within the sector to be more prone to demand and margin shocks. Rising cost pressures will translate to margin compression. For instance, airline and ship-building companies are struggling to deal with the challenge of passing on higher costs of jet-fuel and steel without hurting demand.
What are the main challenges that you expect to face in the coming 12 months?
A shift in the US Federal Reserve policy will have a significant impact on Asian equities. The appreciation of Asian currencies should not be taken for granted. Amid rising energy prices, current and capital account deficits are starting to occur in several Asian economies. With respect to energy pricing, the biggest uncertainty will be the geo-political stability in the Middle East.
What are the main risks of investing in Asia at the moment? How are you managing those risks?
At the moment, we expect a key risk to be inflation and its impact on the domestic policies in Asia. The balance between growth and inflation will be a challenge to most policymakers in this region. The situation gets compounded by policy changes brought on by rising energy and food prices. In some instances, we are seeing tightening measures and lifting of price controls in economies which are net importers of oil and have fuel subsidisation policies in place. We tend to avoid companies in such markets.
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