Independent Thinking®

Investing in Asia – Still a Good Bet

By Brian Pollak
July 15, 2015

In the two years since the Evercore Wealth Management investment policy committee narrowed its emerging markets focus to the growing middle class consumer base in Asia, notably in India and Indonesia, as well as in China, we have seen that strategy pay off handsomely for our clients.

Here, we make the case for continuing to hold this position.

Capital flows in China and market reforms in India will continue to drive Asian middle class consumption growth.

The biggest challenge facing China, and by association, the region, is China’s challenging transition from an investment and infrastructure-led economy to a consumer- and services-led economy. Clearly, this will be a difficult journey, as evidenced by the unfortunate government intervention to stem stock market losses in early July. Private and foreign capital now accounts for 68% of fixed investment, however, up from 42% just ten years ago. More private investment, both locally and internationally, is driving more competition, which in turn is creating wage inflation, currently running at about 8% year over year, and helping the Chinese consume more.
 
More private sector investment is also likely to enhance productivity, in China and in other Asian countries. The Organization for Economic Cooperation and Development, or OECD, expects Asia-Pacific’s portion of consumption to rise to about 60% of global consumption by 2050, from 35% today. India in particular has very favorable demographics and a reform-minded leader that should help drive the growth of the middle class there. GDP growth in India is running at about 7.3% year over year, faster than any other large country.
 

Asia’s culture is changing

Asia is at last becoming innovative. Shenzhen, China’s version of Silicon Valley, is home to new technology companies that have access to cheap components, a skilled workforce and robust local supply chains. The drone manufacturer DJI, for example, is just six years old but already has a dominant position in the global market. We expect to see more of these success stories as Asia shifts to a consumer-led economy.
 
Transparency is still an issue relative to more developed markets and investors have to remain very skeptical about GDP and other figures coming out of Asia, particularly China. But continued reform, including privatization and the introduction of more foreign capital, will drive greater transparency and accounting discipline, making bad data and potential fraud less of an issue for investors in the future.
 
Prime Minister Modi, elected last year, has provided new hope in India, the world’s largest and, arguably, messiest democracy. While China’s population is aging, India’s is young, with a workforce ready to take the reins of a burgeoning global manufacturing hub. This transition, from a more agrarian economy to a manufacturing-based one, is not unlike the transition China achieved in recent decades and bodes well for the country’s rapidly growing middle class.
 
Indonesia also has favorable demographic trends. At around 250 million, its largely urban population ranks fourth in the world and about half of the Indonesian people are under the age of 30.
 

Valuations remain relatively attractive

China’s Shanghai stock market has taken a dive recently, falling into bear market territory by the end of the second quarter and losing over 30% in just a few weeks. But share valuations for the region are not full relative to the rest of the world. As illustrated in the MSCI chart on the previous page, price to earnings ratios for Asia ex-Japan continue to lag those in the United States and Europe. This suggests to us that there is still some potential for expansion in the Asian markets.
 
We continue to believe the best investment opportunity in the emerging markets remains in Asia ex-Japan through an active manager who can parse the many risks and identify opportunities. With increasing productivity and wages, a rising culture of innovation, opening of capital flows, reform-minded politicians and reasonable valuations, the region’s dynamic and growing middle class should drive global growth for years to come.

Brian Pollak is a Partner and Portfolio Manager at Evercore Wealth Management. He can be contacted at [email protected].

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