Southeast Asia full of promise if investors do their homework

Making investments in Southeast Asia requires a lot more background work than looking at pricing and earnings potential, believes Kristy Fong, portfolio manager for Asian equities at the Singapore-based hub of Aberdeen Asset Management

“When we invest, we don’t just look at the business potential,” she says. “We pay more attention to families and major shareholders. Their integrity is particularly important for minority shareholders like us.”

A particularly large part of business in the Asean (Association of Southeast Asian nations) region is family-owned, she says, meaning that the research process must delve deep into the background of these clan-based organisations. “There are good families and bad families. You have to do a lot of homework before you invest. You need to ask what competitors and clients think of the families and whether you can trust them.”

A crisis presents a particularly good time to filter out the bad apples. “In a sense, the 1997 Asian crisis helped us with this process,” she says.

Many investors have used financials, including Singaporean banks, such as UOB and OCBC, as proxy exposures to the consumer industries of the region, encompassing Indonesia and Malaysia. “Both are major shareholders in mid-size Indonesian banks,” says Ms Fong. “Through bringing the experience from Singapore to the emerging markets, this can help differentiate them.”

Aberdeen is also overweight in Thailand, but warns investors there to stick with those firms with a strong strategic view. “A lot of companies get distracted,” she says. “They start investing in non-core businesses. Thailand is a market that needs to mature.”

Particular picks within Asean include Vietnamese dairy company Vinamilk, favoured for its strong balance sheet.

But even within the Southeast Asian region, it is the smaller companies space that is preferred by the likes of Aberdeen.

Aeon Berhad, subsidiary of Aeon in Japan, is a retailer selling “basic necessities with good footfall,” says Ms Fong. “It is still growing and presents a good domestic consumer story.”

She also likes chocolate manufacturer Petra Foods, listed in Singapore, but conducting the majority of its business in Indonesia.

“They are selling cheap chocolates readily available to the mass market,” says Ms Fong. “They have a Philippines confectionary business and are growing outside Indonesia in a measured way.”

Compared with 1997, Southeast Asia is a much stronger region today, she says. “Lessons have been learned, there is a lot less balance sheet mismanagement and companies are more prudent when it comes to investing. Debt is not at alarming levels.”

Smaller companies, particularly from Malaysia, are also favoured by Rory Dixon, Singapore-based portfolio manager at boutique house Coupland Cardiff.

“Malaysia is still off people’s radars and seen as a sleepy backwater,” he says. But he sees much pulling power for “dull, boring steady Eddies” such as Aeon Berhad, building shopping malls on the edge of cities right across Malaysia, achieving 30 per cent earnings growth and providing serious competition to the likes of Tesco.

He is also a fan of fast food outlets including QSR, the Malaysian franchise of KFC, recently purchased by regional mini-sovereign wealth fund Johor Corp. “Asians eat chicken,” says Mr Dixon. “Beefburgers don’t hit the spot here due to cultural reasons.”

Fast food is a great marker of populations getting wealthier, he says. “It is still very much a treat in some of the Asean countries, a middle class thing. Eating out in a clean, air-conditioned fast food place is a step up from the street stall experience.”

At Matthews Asia, which runs $25bn (Ä18.5bn) in predominantly equity-led strategies, the focus is on “buying businesses, not trading equities,” says chief investment officer Robert Horrocks, who is looking at stocks which will benefit over the long-term from the continent’s growing middle class.

Asian markets, says Mr Horrocks, are trading at cheap valuations, compare to the last 20 years and also in relation to the US and Europe. Corporate margins in the East are also tight compared to the “fat” around the edges of Western companies. The current bias among many institutions to Western developed markets is purely cyclical. “It is an issue which can last weeks or months, or it might already be over,” he says.

“Countries such as Indonesia and India might be showing structural weakness on tapering, but they are in a much sunnier position than 1996 or 1997. Asia was then in current account deficit with high inflation.  Today it is in current account surplus with moderate inflation. Levels of external debt are also lower, so I am relatively relaxed about Asia.”

The direction of future flows of Japanese money may also have a strong influence on Southeast Asian markets. “Currently $8tn is sitting in cash in household assets in Japan,” says Lim Say Boon, chief investment officer at DBS Wealth Management. “Even if 10 per cent of that moved out during the next few years as a result of the threat of inflation, that’s still $800bn on the move within the region.”   

The aftermath of Typhoon Haiyan

As the international aid effort is stepped up to reach remote areas of the Philippine archipelago hit by Typhoon Haiyan, strategists are counting the economic costs of human disaster. So far nearly 4,000 have been killed, with many missing, and contaminated water supplies putting people at risk of cholera and typhoid.

Residents of the 98m Southeast Asian nation, frequently battered by maritime storms, have become angry at the government’s lack of preparation for the disaster, after pre-typhoon claims that the country was well prepared for such eventualities. At the same time they have been cancelling birthday and Christmas celebrations and donating instead to the disaster fund. Coca Cola has put all advertising campaigns in the country on hold and donated the budgeted expenses.

Investment experts fear that consumption might be reduced as inflation spikes in the short-term, with rice and sugar cane production negatively impacted in the Visayas region, one of the worst hit, along with Bohol, together accounting for 12 per cent of GDP. But the central bank, the BSP, has said it is ready to act to curb inflation and limit money supply in this highly liquid economy. Despite potential reduced credit growth and consumption looking into the latter part of 2014, other growth drivers remain mainly intact.

Tourism might suffer in the short-term, suggests Patrick Chang, head of Asean equities at BNP Paribas Investment Partners, as foreigners holidaying in the Visayas account for 32 per cent of total tourist arrivals.

“However, all these factors, which may slowdown headline GDP in the coming year, might get a boost in 2014 from reconstruction works,” he believes, with the total impact on the Philippines’ economy relatively short-lived. The main Business Processing Outsourcing (BPO) centres are situated in the Luzon, outside the disaster area.

Banks agree that while there will be some downsizing of exports, the overall effect may be limited. Most in danger will be agricultural products, making up a small part of national income, with manufacturing bases largely untouched.

As could be expected after a tragic natural disaster of such magnitude, Philippines’ equities and the peso sold off in the typhoon’s wake and strategists believe further corrections may be due. But this could present a tactical opportunity, with banks such as Coutts remaining overweight on the basis of the country’s recently strengthened macro-economic credentials.

Some brokers even expect growth for 2013 to be within the upper range of earlier, pre-disaster, 6 to 7 per cent forecasts.

The other key driver of economic growth – overseas remittances from expatriate workers in other parts of Asia, the Middle East and Europe – is however expected to remain strong. “Resilient remittances provide for a strong current account and have also helped investment growth in sectors such as residential construction,” says Johnny Heng, head of active advisory for Asia at Coutts & Co.

“The government is also in a strong fiscal position to finance reconstruction efforts going forward, which should support a rebound in 2014,” confirms Soek Ching Kum, head of Southeast Asia research at Credit Suisse Private Banking and Wealth Management, although earnings of selected utilities with power plants in affected areas may be more adversely impacted.