While valuations are no longer cheap, it is not difficult to find stable growth companies with good cash flows and yields, says TAN LYNN DAH
THIS has been a bountiful year for Asian equity markets, with Asian bourses scaling new peaks and regional economies enjoying prodigious growth.
As one of the fastest growing regions in the world, Asia’s growth is underpinned by a confluence of supportive factors such as favourable demographics, structural reforms and moderate inflation. The region is stronger fundamentally and is more resilient, with most Asian countries having less foreign debt and vast current account surpluses to cushion against market turmoil.
The impact of the sub-prime mortgage woes has been limited in Asia because of ample cash in the regions’ banking systems.
As we enter the last lap of the year, the million dollar question on investors’ minds will be: Are there any more investment opportunities for investors in Asia, especially the Greater China region, where China and Hong Kong indices have rocketed?
With long-term fundamentals firmly in place, we believe that the Asia miracle will continue into 2008, offering more investment opportunities. Several drivers such as strengthening Asian currencies, earnings upgrades, increasing flow of private equity into the region and infrastructure investments are impetus for another year of robust growth and are expected to buoy the sustainable performance of Asian markets in 2008. Exceptional performance in the twin engines of China and India is also propelling growth in the region.
Though Asian valuations are no longer cheap, we feel that it is not too difficult to find stable growth companies with good cash flows and yields. In view of current market volatility, we are more focused than ever on companies with strong operating cash flows that are well positioned for less-thanfavourable economic conditions. We like defensive growth stocks with very predictable cash flows.
Within the Greater China region, we have been adding to Chunghwa Telecom (Taiwan), whose yield including specials is nearly 10 per cent, and 13 per cent of its balance sheet is in net cash. Another stock which we have been adding to is Singapore Telecommunications, which has 50 per cent of earnings from emerging markets and 50 per cent from Singapore and Australia, generating 10 per cent sustainable growth in earnings-per-share. The free cash flow yield is 5-6 per cent . These stocks provide both sustainable growth as well as steady dividend streams.
For the past few months, we have seen the negative effects of the sub-prime mortgage woes on established financial institutions like Northern Rock, Merrill Lynch, UBS and Citigroup. We feel that banks with global exposures are most vulnerable in a downturn and we have trimmed our holdings in financial stocks such as Standard Chartered and HSBC.
We think that asset plays will perform better than banks in Asia. Though property prices have run up quite a lot, we remain sanguine on asset reflation in Asia. We think that Asian asset prices will remain on an uptrend in the medium to long term and this is stimulative for Asian property prices.
In the Greater China region, property transactions have picked up considerably in Hong Kong, where real interest are on the decline (in tandem with US interest rates due to the HK dollar currency peg) as inflation increases. This is very positive for Hong Kong property prices. In view of this, we have added to stocks like Cheung Kong Holdings.
Another stock that we like is Jardine Matheson. The company has controlling stakes in a number of businesses, the largest of which is Hong Kong Land, which owns commercial real estate. The company trades at an attractive discount to its assets and has recently embarked on share buybacks.
We have also added to Singapore property plays like Fraser & Neave and CapitaCommercial Trust. The outlook for Asian demand looks promising, and we believe that domestic consumption should remain resilient. China is likely to be a main driver of growth in Asia, with its voracious consumption appetite. Increasingly, we are seeing intra-country travels by the Chinese to Hong Kong and Taiwan, and bourgeois Chinese have been very generous with their spending during such trips.
This synergy between the Greater China region spells investment opportunities. In view of this, we are positive on consumer stocks like Li & Fung (HK), Shinsegae (South Korea) and President Chain Store (Taiwan) for their track record and defensive growth nature.
Being industry leaders with strong management, these Asian consumer companies have the potential for further growth in 2008. For example, Shinsegae, a South Korean department store, has created a successful private label that is allowing it to enjoy attractive profit margins as one of the earliest operators of the discount store concept in Korea. The company has also ventured into the Chinese market successfully, tapping on Chinese consumption demand.
Taiwan has been a laggard this year compared to its thriving neighbours of China and Hong Kong.
Going into 2008, we believe that Taiwan’s economy will pick up after the presidential election in March. Both candidates, Frank Hsieh from the Democratic Progressive Party and Ma Ying-jeou from the Kuomintang, emphasise reconciliation and peaceful co-existence with China, which bodes well for Taiwan.
With the election as a backdrop, we believe that Taiwanese stocks will perform well in 2008. Attractive valuations have led us to buy some technology stocks like TSMC, given its stable growth and very strong cash generation ability. It also has a yield of 5 per cent . As the largest silicon foundry in the world, we believe that TSMC holds significant price potential and is undervalued vis-à-vis its Western peers. Also, TSMC stands to gain from burgeoning IT demand from emerging economies like China and India.
Infrastructure investment is likely to be a key driver of growth in Asia. With infrastructure development in the blueprint of most Asian governments, key beneficiaries are likely to be the engineering, construction and utilities sectors.
The Chinese make up 21 per cent of the world’s population, consume 46 per cent of the world’s iron ore and 25 per cent of the world’s aluminium. These figures are expected to grow exponentially with rapid expansion of China’s economy in the next decade, making China the main driver of the resources and energy sector.
With this in mind, we are invested in Hopewell Highway Infrastructure, where yield is 5 per cent and growth will remain in the low teens while the currency is appreciating. Listed in Hong Kong with strategic operations in China, Hopewell builds and operates strategic expressway infrastructure in the Guangdong Province. The company is also developing a new expressway, tunnel and bridge infrastructure projects, particularly in the thriving economy of the Pearl River Delta region.
Another company that is benefiting from increased infrastructure spending is China Resources Power, also incorporated in Hong Kong. Capacity growth is very strong as the company engages in the investment, development, operation, and management of power plants in China.
Though the Asia of today is more resilient and the region’s economy somewhat decoupled from the US, a faltering US economy could still adversely impact Asia’s growth. With such euphoric sentiment and bullish market run-up in 2007, it is inevitable that Asian markets get jittery on negative news. We view such short term pull-backs as healthy.
With strong liquidity conditions and positive market sentiment in Asia, we believe the region still has potential upside and is better placed to cope with adverse external developments.
Tan Lynn Dah is First State Investments’s marketing research manager