The Forager International Shares Fund predominantly invests in developed markets. But we also search for value in emerging markets, including Asia.
You might be familiar with the broad sales pitch from those presenting Asia as an attractive investment destination. Asian economies are growing faster than developed economies and their contribution to world’s GDP has doubled from 20% in the nineties to about 40% today.
Urbanisation, rising consumption, economic liberalization and access to new technology mean that their contribution to global GDP is set to grow further. The accompanying chart displays expectations for various Asian economies compared to a broad bucket of ‘Advanced Economies’.
Plenty of people think that this likely positive economic growth implies that Asian equities should also do well. But that is what Howard Marks would describe as ‘first level thinking’.
So let’s consider the ‘second level’ aspects, starting with the negatives.
Firstly, it’s not certain that economic growth will translate into positive stock market returns. Studies have shown that workers and consumers often benefit the most from economic growth. Growing economies also attract a lot of capital, and often the returns on that capital end up being worse than investments in slower-growing economies. There is no evidence of a correlation between stockmarket returns and GDP growth (if anything, there is some evidence of a negative correlation).
Also, governments frequently intervene in many Asian markets. This covers everything from unfavourable regulation to the Chinese government’s direct ‘intervention’ in the sharemarket and even the risk of expropriation in some more fragile political environments.
Finally, corporate governance standards are still low. If the government is not running the show, then a controlling family most likely is. Minority shareholders’ interests can often take a back seat.
On the positive side, there are ways around some of these issues. And, of course, low prices can compensate for many sins. So what’s a value seeking investor to do when it comes to Asia?
Some fund managers prefer to gain their exposure indirectly. They buy stocks of multinational corporations with significant businesses in the region. Examples include KFC and Pizza Hut owner Yum! Brands (NYSE: YUM) and Apple (Nasdaq: AAPL).
Such stocks can appeal, particularly in terms of the corporate governance challenges. But this approach has attracted so much investor interest that the stock prices of these quality corporations don’t offer obvious value.
Other fund managers invest directly in the local stockmarkets but focus on highly liquid, large cap stocks that are well researched and have better corporate governance. Unfortunately, there aren’t many of these stocks and they don’t look like screaming bargains either.
So, how have we approached Asia at Forager?
In a word, cautiously. The margin of safety we demand in such markets is wider than in those that don’t pose the same concerns.
In its three-year life, the Forager International Shares Fund has purchased a handful of Asian stocks. In some coming posts, I’d like to share some of those stories, as well as our broader experiences and the lessons we’ve taken from it all so far.
4 thoughts on “Investing in Asia, the Forager Way”
Expropriation of businesses isn’t just for “fragile political environments” the British government’s history of nationalisations is worse than in many bona fide kleptocracies.
One good way to benefit from a growing local economy are the ones that effectively clip the ticket on a portion of that economy for minimal capital cost – Trade me and eBay are two great examples. Another is through the purchase of prime real estate (either directly or via a REIT). Yet another way is via stocks that specialise in the sale of high margin consumer staples that are quasi-discretionary in nature – think Danone, Nestle, Unilever, P&G, Brown Forman, Diageo, Pernod Ricard, BATS etc.
SG makes some nice points. The performance of EEM (NYSE) though has been very ordinary.
This article implies that the value of Apple’s shares have been bid up by investors seeking exposure to emerging markets. Apple’s valuation actually appears to be very cheap, especially considering their growth history.
Hi CK, thanks for your comment.
Apple was mentioned in the post just as an example of a multinational corporation that generates a significant portion of its revenue in emerging markets and particularly in Asia.
While Apple has grown its revenue in all geographies over the last decade it has definitely benefited from the development of Asia. For example, Chinese sales have grown from US$750m in 2009 (the first year I can find the country splits for) to more than US$55 billion in 2015. China now accounts for 25% of totals sales while in 2009 its contribution was only 2%.
SG in his comment above also provided some more examples of such companies.
What I wrote then – that the value of such companies doesn’t seem to offer much value was just a general comment on such companies as a group and not referring specifically to Apple (or Yum! Brands). I apologise for the ambiguity.
Have a great week end!