Port­fo­lio man­agers of Asia-Pa­cific funds are en­cour­aged by solid eco­nomic growth in the re­gion.

China, In­dia and other Asian coun­tries are ben­e­fit­ing from ex­pand­ing mid­dle classes and in­creased do­mes­tic con­sump­tion

Investment Executive - - FRONT PAGE - BY JADE HEMEON

eco­nomic grow th is ro­bust in the Asia-Pa­cific re­gion, spurring ris­ing stock prices and boost­ing the per­for­mance of mu­tual funds that fo­cus on this mar­ket. Mu­tual funds with Asian ex­po­sure, whether they fo­cus on sin­gle coun­tries or sev­eral emerg­ing mar­kets, were strong per­form­ers last year and into the first quar­ter of 2018.

De­spite re­cent rum­blings of trade wars and po­lit­i­cal ner­vous­ness sur­round­ing North Korea, the Asia-Pa­cific eq­uity fund cat­e­gory rose by 2.7% for the volatile three months ended March 31. This rise beat the 1.1% in­crease for U.S. eq­uity funds and the 0.9% in­crease for the global eq­uity cat­e­gory dur­ing that same pe­riod, ac­cord­ing to data from Toron­to­based Morn­ingstar Canada.

China, In­dia and other Asian coun­tries are ex­pe­ri­enc­ing su­pe­rior growth rates rel­a­tive to West­ern economies as the for­mer group of economies con­tinue to ma­ture. Their ris­ing mid­dle classes are spurring do­mes­tic con­sump­tion and re­duc­ing de­pen­dence on ex­ports, giv­ing rise to so­phis­ti­cated, high-qual­ity com­pa­nies with busi­ness mod­els far be­yond the pro­duc­tion of l ow-end prod­ucts and ba­sic com­modi­ties that led Asia’s ini­tial trans­for­ma­tion from agrar­ian economies.

Gov­ern­ments are ben­e­fit­ing from im­prov­ing tax revenue and in­vest­ing in badly needed in­fra­struc­ture, such as roads, bridges, power grids and ports that lu­bri­cate busi­ness. In­dia’s gov­ern­ment, for ex­am­ple, is in the midst of a multi-year project to spend US$1 tril­lion on in­fra­struc­ture, par­tic­u­larly on rail­way net­works and air­ports.

In­dia has been one of the world’s fastest-grow­ing economies in re­cent years, with an­nual gross do­mes­tic prod­uct (GDP) fore­cast to be more than US$2.9 tril­lion in 2018, far sur­pass­ing Canada’s GDP fore­cast of US$1.8 tril­lion, ac­cord­ing to Spain-based Fo­cus Eco­nom­ics. Fu­ture growth po­ten­tial is huge, with In­dia’s pop­u­la­tion of 1.3 bil­lion peo­ple al­most 40 times greater than that of Canada, and with In­dia’s de­mo­graph­ics skew­ing sig­nif­i­cantly younger.

Fo­cus Eco­nom­ics es­ti­mates China’s 2018 GDP will be US$13.1 tril­lion, com­pared with the U.S.’s es­ti­mated US$20.2 tril­lion. China is the world’s sec­ond-largest econ­omy, but is gain­ing fast on the U.S. The fo­cus in China is turn­ing to­ward the de­vel­op­ment of the high-tech­nol­ogy sec­tor, which is viewed by the coun­try’s lead­er­ship as a driv­ing force be­hind eco­nomic de­vel­op­ment and so­cial trans­for­ma­tion.

Pres­i­dent Xi Jin­ping has pub­licly ar­tic­u­lated China’s goal of en­cour­ag­ing more sig­nif­i­cant ap­pli­ca­tions for the In­ter­net, big data and ar­ti­fi­cial in­tel­li­gence (AI) within the econ­omy to spur con­sump­tion and en­cour­age ef­fi­cien­cies. If China man­ages to sus­tain bal­anced eco­nomic growth in the range of 6%, the coun­try is on tar­get to be­come the world’s largest econ­omy by 2030.

With China as the king­pin, in­ter­re­gional trade bar­ri­ers in Asia are fall­ing, cre­at­ing freer flows of goods, ser­vices and labour. Global ini­tia­tives, such as the Trans-Pa­cific Part­ner­ship trade agree­ment, en­cour­age the man­u­fac­ture of goods, such as tex­tiles and elec­tron­ics, to move to lower-cost coun­tries such as Viet­nam and Malaysia, thereby en­cour­ag­ing the rise of more mid­dle-class con­sumers across Asia.

“Ini­tially, Asia was a story of cap­i­tal mar­kets open­ing up, cheap labour and op­por­tu­ni­ties in real es­tate, bank­ing and low­cost man­u­fac­tur­ing,” says Ben Zhan, port­fo­lio man­ager with 1832 As­set Man­age­ment LP in Toronto, who over­sees Dy­namic Asia Pa­cific Eq­uity Fund to­gether with Dana Love, vice pres­i­dent and port­fo­lio man­ager. “Now, it’s to­tally dif­fer­ent,” Zhan adds. “We’re see­ing ex­plo­sive growth in con­sump­tion, along with global lead­er­ship in tech­nol­ogy. China is step­ping onto the world stage. In com­ing years, the new safe haven for in­vestors will be China as a re­gion of po­lit­i­cal and eco­nomic sta­bil­ity.”

China is by far the dom­i­nant coun­try weight­ing in the Dy­namic fund, ac­count­ing for 43% of ge­o­graph­i­cal ex­po­sure, fol­lowed by Japan (13%), Hong Kong (10%) and South Korea (8%). Zhan says China-based tech com­pa­nies are play­ing a vi­tal and ex­pand­ing role in con­nect­ing young, dig­i­tally savvy con­sumers to prod­ucts.

The pref­er­ence among the Chi­nese for mak­ing elec­tronic pay­ments through mo­bile smart­phone apps rather than us­ing credit cards has re­sulted in a tor­rent of easy trans­ac­tions that fa­cil­i­tate com­merce.

The big­gest hold­ings i n the Dy­namic fund are China’s two e-com­merce plat­form de­vel­op­ers: Ali Baba Group Hold­ing Ltd., which spe­cial­izes i n shop­ping search en­gines, elec­tronic pay­ment and cloud com­put­ing, and is con­sid­ered the Ama­zon.com Inc. of China; and Baidu Inc., which op­er­ates a pop­u­lar search en­gine that’s con­sid­ered an equiv­a­lent to Google. Baidu also is ded­i­cat­ing sig­nif­i­cant re­sources to AI.

Zhan says China-based tech com­pa­nies are at the fore­front of de­vel­op­ing fa­cial recog­ni­tion ap­pli­ca­tions, and re­tail trans­ac­tions us­ing in­stant fa­cial recog­ni­tion via cam­era al­ready are hap­pen­ing at some out­lets, in­clud­ing restau­rants. Cul­tur­ally, China’s pop­u­la­tion is more ac­cus­tomed than North Amer­ica’s to im­po­si­tions on so­cial free­doms and a high level of sur­veil­lance in pub­lic places.

“So­ci­ety’s tol­er­ance for some in­va­sion of in­di­vid­ual pri­vacy gives China an ad­van­tage in tech­nol­ogy,” Zhan says. “The next gen­er­a­tion of de­vel­op­ment is slowly and de­cid­edly shift­ing to China from Sil­i­con Val­ley.”

With China’s grow­ing do­mes­tic de­mand and ex­pan­sion of trade with a va­ri­ety of part­ners, Zhan isn’t overly con­cerned about threats of a China/U.S. trade war. U.S. tar­iffs threat­ened on steel and alu­minum and pos­si­bly other goods pro­duced in China would af­fect a tiny per­cent­age of the lat­ter coun­try’s gi­ant and in­creas­ingly di­ver­si­fied econ­omy, he says. And if U.S. Pres­i­dent Don­ald Trump moves to im­pede U.S. trade with other coun­tries, his pro­tec­tion­ist stance may push these coun­tries to do more busi­ness with China, Zhan adds.

“China is open­ing up to trade while the U.S. is shut­ting down,” Zhan says. “Any trade war with the U.S. would be in­signif­i­cant for China i n terms of mag­ni­tude or im­pli­ca­tion. China is on the rise, and the U.S. is help­ing. Ev­ery stock mar­ket sell-off cre­ates op­por­tu­ni­ties to buy [shares in]

With China’s ex­pan­sion of trade, Zhan isn’t overly con­cerned about a China/ U.S. trade war

com­pa­nies that will ben­e­fit.”

Up­wardly mo­bile Chi­nese mid­dle-class con­sumers are a pow­er­ful group within their coun­try’s pop­u­la­tion of 1.4 bil­lion, and they in­creas­ingly sup­port do­mes­tic brands, Zhan says. Key hold­ings in the Dy­namic fund in­clude Li-Ning Co. Ltd. and Anta Sports Prod­ucts Ltd., both of which pro­duce ath­letic shoes and sport­ing goods and com­pete with global brands such as U.S.-based Nike Inc. and Ger­many-based Adi­das AG.

An­other top hold­ing is Ts­ing­tao Brew­ery Co. Ltd., a ben­e­fi­ciary of ex­pand­ing life­styles and grow­ing sup­port for Chi­nese brands, which has about 15% of do­mes­tic mar­ket share.

Out­side China, an­other fa­vorite of Zhan’s is South Korea-based Amorepa­cific Corp., a beauty in­dus­try be­he­moth that man­u­fac­tures cos­metic and per­son­al­care prod­ucts. The com­pany’s pop­u­lar prod­ucts fo­cus on nat­u­ral in­gre­di­ents and are sold in stores around the world.

“South Korea is the l and of plas­tic surgery and skin care,” Zhan says, “and the com­pany holds a prom­i­nent space in the Asian con­sumer story.”

Al­though Japan lacks the rapid growth po­ten­tial of In­dia and China, Zhan says, eco­nomic stim­u­la­tion mea­sures im­ple­mented by the gov­ern­ment have en­er­gized the coun­try. Among the Dy­namic fund’s Japan-based hold­ings are con­sumer elec­tron­ics and en­ter­tain­ment gi­ant Sony Corp. and Square Enix Hold­ings Co., pro­ducer of video games sold glob­ally, with a big mar­ket in China. eileen dibb, port­fo­lio man­ager with Smith­field, R.I.based Fidelity In­sti­tu­tional As­set Man­age­ment, a unit of Bos­ton­based FMR LLC (a.k.a. Fidelity In­vest­ments), over­sees Fidelity Asi­aS­tar Fund. She also is keen on Asia-based tech­nol­ogy firms.

Tech­nol­ogy is the largest in­dus­try weight­ing in the Fidelity fund, at 22%, fol­lowed by fi­nan­cial ser­vices (20%) and con­sumer dis­cre­tionary firms (19%). The top hold­ing in the fund is China-based Ten­cent Hold­ings Ltd., which spe­cial­izes in In­ter­net-re­lated ser­vices and prod­ucts, en­ter­tain­ment and AI; and Tai­wan Semi­con­duc­tor Man­u­fac­tur­ing Co. Ltd., a gi­ant mi­cro­elec­tron­ics maker.

“Ten­cent can mon­e­tize its soft­ware ser­vices across hun­dreds of mil­lions of users in an ex­pand­ing base — mostly in China — but there are op­por­tu­ni­ties for dig­i­tal up­take in other parts of Asia,” Dibb says.

Fi­nan­cial ser­vices are a log­i­cal ben­e­fi­ciary of a grow­ing mid­dle class in Asia, Dibb adds. An­other key hold­ing in the Fidelity fund is HDFC Bank Ltd., which is the largest pri­vate bank in In­dia and is tak­ing share away from sta­te­owned banks. “[HDFC] has the low­est-cost, high­est-qual­ity as­sets in the mar­ket and is ex­pe­ri­enc­ing strong loan growth,” she says. “It’s on a good growth run­way in a good in­dus­try.”

Dibb also likes REA Group Ltd., an on­line real es­tate ad­ver­tis­ing com­pany in Aus­tralia; and Chal­lenger Ltd., an in­sur­ance and in­vest­ment com­pany in Aus­tralia that ben­e­fits from a trend among clients to­ward di­ver­si­fy­ing their port­fo­lios into in­come prod­ucts such as an­nu­ities.

On a ge­o­graph­i­cal ba­sis, Dibb favours more ma­ture mar­kets. The Fidelity fund has a 37% weight­ing in Japan, 16% in Hong Kong, 12% in China and 11% in Aus­tralia.

Hold­ings in Japan in­clude Orix Corp., a di­ver­si­fied fi­nan­cial ser­vices con­glom­er­ate, as well as other com­pa­nies that Dibb con­sid­ers “sta­ble grow­ers.” Top hold­ings in that cat­e­gory in­clude Itochu Corp., a global trad­ing con­glom­er­ate; SoftBank Group Corp., a di­ver­si­fied telecom­mu­ni­ca­tions gi­ant; and Marui Co. Ltd., a de­part­ment-store chain with strong mer­chan­dis­ing skills in women’s fash­ion and a grow­ing credit card busi­ness.

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