Asian equities still haven’t reached their pre-crisis levels despite the fact that they’ve rallied for the last 18 months, according to Invesco Perpetual’s William Lam, who pointed out that many other market areas are trading much higher than their 2007 peaks.
The manager, who heads up the five FE Crown-rated Invesco Perpetual Asian fund, believes the market is therefore nowhere near the levels of bullishness seen before the crash and that, as a result, it is not a bad sector to be invested in.
That said, he does have some concerns about the concentration of the Asian equity market, given its performance is chiefly being driven by technology stocks.
“The main reason the market has gone nowhere in 10 years – when you exclude dividends – is of course that the 2007 market was very overvalued,” Lam explained.
“The price-to-book of the market was 3x and the free cash flow yield was under 2 per cent.
“Those metrics for the market today are a lot healthier – 1.8x book with a FCF yield [free cash flow yield] of nearly 7 per cent.”
Performance of index over 10yrs in US dollars
Source: FE Analytics
The manager also highlighted UBS findings showing that Asia ex-Japan earnings have increased by 43 per cent in local currency since 2007, a 92 per cent increase in revenues accompanied by a decline in profit margins to more sustainable levels, while price/earnings multiples have contracted by 22 per cent.
“While the valuation of the market is clearly different, there are some similarities between the market today and the market back in 2007,” he pointed out. “This is particularly in terms of the fact that we are experiencing a strong bull market, and this bull market is quite “narrow”.
“In other words, the strong performance of the broad index is being driven by a relatively small number of shares.”
Lam said the key driver of Asian equity returns has been the likes of Chinese internet stocks and Korean semiconductor stocks.
Given the index’s dependence on the technology sector, the manager warned that it pays to be selective.
“Looking at Korea specifically, if you were to take out Samsung Electronics and SK Hynix from the Kospi index, then that index would actually be down in the last couple of years,” Lam explained.
“Back in 2007, much of the performance of the market was being driven by China infrastructure plays. Technology shares back then were out of favour. But the sheer scale of the differential in performance was altogether different.”
Using Korea as an example, the manager said ship builders were the main driver of market returns in 2007, as investors saw them as Korean “China plays” which would benefit from the country’s ongoing infrastructure spending.
In the three years leading up to 2007, Lam said Hyundai Heavy – the world’s biggest shipbuilder at the time – multiplied in value by more than 16 times.
“[This] makes the recent performance of technology shares look rather pedestrian,” he added.
Source: Bloomberg
Lam isn’t the only investment professional to view Asian equities as an attractive area of the market on a relative basis.
In an FE Trustnet article published last week, IBOSS’S Chris Metcalfe said he is least bearish on Asian equities, an area of the market he has held an overweight position in since the end of 2015.
“Politically, the US is more unstable than it has been in my lifetime and I think I would also say the same about the UK,” Metcalfe said. “For us the situation has gone more in favour emerging markets and Asia than when we went originally overweight a couple of years ago.”
Generally speaking, Lam concluded that Asian equities haven’t reached the dizzying heights that they may have appeared to, given they haven’t yet reached their 2007 bull market peak.
“That is not a bad place to be – it suggests that the market is nowhere near to extreme levels of bullishness,” he reasoned. “Most other markets around the world are now trading much higher than their 2007 peaks.”
Not only this, he reiterated that the narrowness of Asian markets today is a far cry from what was experienced during the last bull run. While he urged investors to tread carefully regarding the technology sector, he doesn’t believe it is sitting on top of an “unsustainable bubble”.
“My main message is that we always base investment decisions on how a share price compares to our estimate of fair value,” Lam said.
“Today we think some of our technology holdings have reached fair value and so we have been selling them; but we still find many stocks in the sector trading below what we consider to be fair value (including Samsung Electronics), and therefore they remain as holdings in the fund.”
Since Lam took to the helm of the £1.5bn Invesco Perpetual Asian fund in May 2015, it has outperformed its average peer and the MSCI AC Asia ex Japan index (which it is not benchmarked against) by 23.89 and 23.99 percentage points respectively with a total return of 58.98 per cent.
Performance of fund vs sector and index under Lam
Source: FE Analytics
It has a clean ongoing charges figure (OCF) of 0.95 per cent.