Invesco says China valuations now reasonable
Investment Outlook Series: Paul Chan, InvescoÆs CIO for Asia ex-Japan, says ChinaÆs economic and corporate earnings growth make the market an ideal long-term bet despite current near-term issues.
This is the first part of an AsianInvestor series on the investment outlook of fund managers with Asian portfolios.
The first to share his views in this investment outlook series is Paul Chan, InvescoÆs CIO for Asia ex-Japan. He joined Invesco Hong Kong in November 2001 as an investment director and head of Hong Kong pensions and took on his current role in July 2007. Chan has 19 years of experience covering the Hong Kong and China markets.
In his role as CIO, Hong Kong-based Chan is responsible for the adherence to InvescoÆs investment process, the coordination of research efforts, the supervision of the investment team, and the setting of regional overview and strategy directions. He also looks after the coordination of portfolio construction and monitors the implementation of buy and sell decisions.
InvescoÆs Asian investment team manages around $13 billion in assets. Invesco manages around $470.3 billion worldwide.
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?
Chan: We believe the global credit crunch resulting from subprime concerns may lead to opportunities to gain exposure in fundamentally sound companies. We are beginning to see attractive opportunities in companies with above-average dividend yields that now look to be oversold from recent indiscriminate selloff.
How different or similar is your 12-month investment outlook now compared to the start of this year?
We began the year with an already a cautious view for 2008 after a volatile fourth quarter in 2007. In the years prior to 2008, we saw prudent earnings estimates at the beginning of the year followed by upgrades during the year, which created market momentum. Now, in contrast, we saw over optimistic forecasts at the beginning of 2008, resulting in gradual downgrades and deteriorating sentiment. We expected the macroeconomic headwinds resulting from last yearÆs subprime breakout to continue overshadowing the market. Concern on global slowdown, coupled with fears of domestic interest rate hikes, led to the year-to-date selloff.
Have you made any significant changes to your asset allocation in terms of markets or sectors in the past few months?
On an asset-class level, we have moved from overweight to a slight underweight in equities amid the uncertain market outlook. We are also slightly underweight bonds and overweight cash. While it appears that equities are now trading at fair valuations by historical standards, weÆre mindful of companiesÆ vulnerability to earnings downgrade and the fragile investor sentiment amid uncertain macroeconomic outlook.
In terms of regional allocation, we turned positive on select Asean countries, including Thailand and Indonesia where we have seen positive earnings revisions and upgrades in GDP year-to-date.
What are your favoured markets in Asia?
We believe the China A-share market has developed into an exciting investment opportunity after its year-to-date decline. ChinaÆs economy has enjoyed substantial growth in the last several years, which can be credited to its young demographic profile, solid expansion founded on industrialisation and urbanisation, and support from prudent economic policies. Corporate earnings have been boosted by surging sales volume, productivity gains and large-scale restructuring of the traditionally inefficient state sector.
While the equity market overshot during last two years on massive speculation, we believe market has now returned to reasonable valuations after a nearly 50% decline in the first half, considering that ChinaÆs economic and corporate earnings growth would be superior to developed countries in the years ahead.
What are the markets you are going to steer clear of in the coming year?
We would tend to avoid high price-to-earnings stocks with low earnings visibility, as stock prices are extremely sensitive to earnings downgrades or negative headlines amid rising risk aversion in todayÆs market environment.
What are your market weightings within an Asia ex-Japan equities portfolio?
China: Overweight
Hong Kong: Underweight
India: Underweight
Indonesia: Overweight
Korea: Underweight
Malaysia: Overweight
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 expect sectors which are inflation-hedged in nature, such as financials and commodities, to outperform in the coming year as theyÆre less vulnerable to escalating prices. In theory, we like companies or industries with relatively less variable cost inputs. We also prefer market leaders in respective industries with pricing power. On a bottom-up basis, we would aim to identify companies with ability to pass on higher costs to end users.
Which sectors do you expect to underperform?
We expect labour intensive, low-end industrials to underperform as their 2008 earnings are already under pressure amid the margin squeeze from rising wages and the inability to pass on cost increases to end users. WeÆre also mindful of commodity users which have suffered from surging raw materials prices.
What are the main challenges that you expect to face in the coming 12 months?
We expect the investment environment to remain challenging in the coming months. There are signs of an economic slowdown in the US, with consumer sentiment hampered by the decline in housing prices and rising gasoline prices. The European Central Bank (ECB) and central banks in Asia are hiking interest rates in response to rising inflation. Under this macroeconomic environment, our challenge would be to û using fundamental research û pick out winners that could ride through this turbulence, particularly in recent periods where we have seen sound companies being sold down indiscriminately as investors take profit due to risk aversion.
What are the main risks of investing in Asia at the moment? How are you managing those risks?
In the near-term, the rise in risk aversion and market volatility may see further downward pressure on equities. Rising inflation across the Asia ex-Japan region is an undesirable macro headwind. Asian companiesÆ earnings visibility will be subject to challenge from higher commodity prices, rising wages, higher borrowing costs and deteriorating market liquidity. Whether or not individual companies have the ability to manage down their costs or to pass on the increase in cost to end-users will be critical to 2009 earnings.
The first to share his views in this investment outlook series is Paul Chan, InvescoÆs CIO for Asia ex-Japan. He joined Invesco Hong Kong in November 2001 as an investment director and head of Hong Kong pensions and took on his current role in July 2007. Chan has 19 years of experience covering the Hong Kong and China markets.
In his role as CIO, Hong Kong-based Chan is responsible for the adherence to InvescoÆs investment process, the coordination of research efforts, the supervision of the investment team, and the setting of regional overview and strategy directions. He also looks after the coordination of portfolio construction and monitors the implementation of buy and sell decisions.
InvescoÆs Asian investment team manages around $13 billion in assets. Invesco manages around $470.3 billion worldwide.
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?
Chan: We believe the global credit crunch resulting from subprime concerns may lead to opportunities to gain exposure in fundamentally sound companies. We are beginning to see attractive opportunities in companies with above-average dividend yields that now look to be oversold from recent indiscriminate selloff.
How different or similar is your 12-month investment outlook now compared to the start of this year?
We began the year with an already a cautious view for 2008 after a volatile fourth quarter in 2007. In the years prior to 2008, we saw prudent earnings estimates at the beginning of the year followed by upgrades during the year, which created market momentum. Now, in contrast, we saw over optimistic forecasts at the beginning of 2008, resulting in gradual downgrades and deteriorating sentiment. We expected the macroeconomic headwinds resulting from last yearÆs subprime breakout to continue overshadowing the market. Concern on global slowdown, coupled with fears of domestic interest rate hikes, led to the year-to-date selloff.
Have you made any significant changes to your asset allocation in terms of markets or sectors in the past few months?
On an asset-class level, we have moved from overweight to a slight underweight in equities amid the uncertain market outlook. We are also slightly underweight bonds and overweight cash. While it appears that equities are now trading at fair valuations by historical standards, weÆre mindful of companiesÆ vulnerability to earnings downgrade and the fragile investor sentiment amid uncertain macroeconomic outlook.
In terms of regional allocation, we turned positive on select Asean countries, including Thailand and Indonesia where we have seen positive earnings revisions and upgrades in GDP year-to-date.
What are your favoured markets in Asia?
We believe the China A-share market has developed into an exciting investment opportunity after its year-to-date decline. ChinaÆs economy has enjoyed substantial growth in the last several years, which can be credited to its young demographic profile, solid expansion founded on industrialisation and urbanisation, and support from prudent economic policies. Corporate earnings have been boosted by surging sales volume, productivity gains and large-scale restructuring of the traditionally inefficient state sector.
While the equity market overshot during last two years on massive speculation, we believe market has now returned to reasonable valuations after a nearly 50% decline in the first half, considering that ChinaÆs economic and corporate earnings growth would be superior to developed countries in the years ahead.
What are the markets you are going to steer clear of in the coming year?
We would tend to avoid high price-to-earnings stocks with low earnings visibility, as stock prices are extremely sensitive to earnings downgrades or negative headlines amid rising risk aversion in todayÆs market environment.
What are your market weightings within an Asia ex-Japan equities portfolio?
China: Overweight
Hong Kong: Underweight
India: Underweight
Indonesia: Overweight
Korea: Underweight
Malaysia: Overweight
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 expect sectors which are inflation-hedged in nature, such as financials and commodities, to outperform in the coming year as theyÆre less vulnerable to escalating prices. In theory, we like companies or industries with relatively less variable cost inputs. We also prefer market leaders in respective industries with pricing power. On a bottom-up basis, we would aim to identify companies with ability to pass on higher costs to end users.
Which sectors do you expect to underperform?
We expect labour intensive, low-end industrials to underperform as their 2008 earnings are already under pressure amid the margin squeeze from rising wages and the inability to pass on cost increases to end users. WeÆre also mindful of commodity users which have suffered from surging raw materials prices.
What are the main challenges that you expect to face in the coming 12 months?
We expect the investment environment to remain challenging in the coming months. There are signs of an economic slowdown in the US, with consumer sentiment hampered by the decline in housing prices and rising gasoline prices. The European Central Bank (ECB) and central banks in Asia are hiking interest rates in response to rising inflation. Under this macroeconomic environment, our challenge would be to û using fundamental research û pick out winners that could ride through this turbulence, particularly in recent periods where we have seen sound companies being sold down indiscriminately as investors take profit due to risk aversion.
What are the main risks of investing in Asia at the moment? How are you managing those risks?
In the near-term, the rise in risk aversion and market volatility may see further downward pressure on equities. Rising inflation across the Asia ex-Japan region is an undesirable macro headwind. Asian companiesÆ earnings visibility will be subject to challenge from higher commodity prices, rising wages, higher borrowing costs and deteriorating market liquidity. Whether or not individual companies have the ability to manage down their costs or to pass on the increase in cost to end-users will be critical to 2009 earnings.
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