The current correction in Asian equity markets will lead to an extended period of consolidation that gives investors the opportunity to take advantage of price weaknesses in strong companies, says Mr Evan Erlanson, chief investment officer at Asian equities manager Seres Asset Management.
“Despite the general market correction, we remain optimistic on the broad trend in Asian equities and expect to see the market establish a bottom in the next month or so, followed by an upturn in the second half of 2011.
“In our view the current downturn in commodity prices and related currency trend reversals will be short-lived.
“The key drivers of commodity prices are emerging market demand and US monetary policy and, as we see no fundamental shift in either of these variables, we would expect major hard and soft commodities to remain well supported for the next 12 months.
“Taking a shorter term view, we are most positive on Japan and Indonesia, but have become significantly more conservative on all other Asian markets – in particular China, Korea and Thailand.
“Ongoing issues in Japan – such as a potential debt haircut by Tokyo Electric Power Company; supply chain disruptions; and general earnings uncertainty – have led to a high degree of intraday volatility and depressed market turnover, but we are not too worried about this state of affairs as it provides opportunities to seek out attractive entry prices.
“An interesting sign of business confidence in Japan came from the recent March quarter earnings season. Japanese companies were given the option to forgo issuing formal earnings guidance as an earthquake relief measure; however, the majority chose to provide guidance for the coming year, suggesting a higher-than-expected level of confidence among corporates.
“While post-quake recovery stories are becoming commonplace, we see limited value in exploiting “early recovery” plays such as Toyota, which to its credit has twice pulled forward its estimated timing of a full production recovery.
“Instead, we favour the many compelling high growth stories that have been little affected by the natural disaster’s aftermath. Some of our favourite ideas are in the areas of internet/e-commerce; auto/machinery components; semiconductors; and factory automation.
“We are also quite positive on Indonesia, where we have been focusing our energies on under-researched domestic demand plays.
“Indonesia is a huge early stage growth market with many entrepreneurial companies that stand to benefit from rising incomes, surging infrastructure investment, and increasing financial penetration. The cost of capital remains extremely high, but this too constitutes an opportunity and a potential source of growth.
“While Indonesia is generally regarded as a commodity/resource proxy, we see the most upside in small- to mid-capitalisation corporates engaged in the retail, media/broadcasting, property, and consumer finance sectors.”
Mr Erlanson also said that events in China are cause for some concern.
“Despite the underperformance of China equities year-to-date, we do not think the equity market has sufficiently priced in downside risks for corporate earnings downgrades – therefore we remain cautious on Hong Kong/China for the near term.
“We have seen a rather prolonged period – since the second half of 2010 – of persistent quantitative tightening in the form of banks’ required reserve ratio (RRR) hikes, but inflation has remained elevated as abundant imported liquidity continues to flood the system.
“As a result we are observing increasing price dislocations, from industrial products to consumer staples, and increasing use of administrative price control measures that only serve to worsen economic imbalances. In the meantime, high inflation, particularly in relation to the cost of living, is noticeably dampening consumer confidence.
“The most recent data from the Guangzhou Spring Trade Affair also do not augur well for export performance in the second half of 2011. This slowdown, now still in ‘soft landing’ territory, will inevitably have an impact on corporate earnings growth and we think the non-state owned enterprise (SOE) sectors may be particularly vulnerable as they are the most exposed to domestic credit deprivation.
“Regarding overall market outlook for the rest of the year, we expect an extended period of consolidation – while valuations are becoming more compelling, regional inflation (particularly China’s structural inflation) remains a major overhang. Thus we are cautious over a one to two month time horizon, but will seek to take advantage of market weakness to prospect for long term secular growth stories that will be more resilient to broad market direction,” Mr Erlanson said.
Seres Asset Management is a boutique fund manager specialising in Asian equities for Australian investors. It was formed in 2009 through a joint venture with Australian Unity Investments (AUI), and is based and registered in Hong Kong. Seres adopts an active, benchmark-unaware approach in Asian equities in order to achieve investment returns and performance regardless of the market cycle.
For more information please contact:
Evan Erlanson – +852 3656 3366