Asian equity markets ended lower in August, chiefly due to concerns about currency weakness in India and Indonesia, while improved macroeconomic data from China contributed to this market’s outperformance. The MSCI AC Asia Pacific Free Index including Japan fell by 1.3% while the MSCI AC Asia Pacific ex Japan Free Index closed 0.71% lower during the month. (All performance figures are based on MSCI indices in U.S. dollar terms with dividends included unless otherwise stated.)
The Tokyo Stock Price Index (TOPIX) fell by 2.27% in August 2013. There have been few surprises in the recent macroeconomic data from developed regions including Japan, but the ongoing slowdown in the emerging economies and deteriorating geopolitical situation surrounding Syria had a negative impact on investor sentiment toward the end of the month.
Divergence between economic prospects in the developed and emerging regions appeared to widen this month. While the credit issues continue to cloud the prospects for some peripheral economies, the latest macro data suggested that economic conditions in wider Europe were leveling out. The U.S. economy also continued its steady recovery. As the signs of economic improvement become more apparent in the U.S., it is only a matter of time before the Federal Reserve begins tapering back its monthly bond purchases, the core of its massive quantitative easing policy. As a result, the abundant liquidity in the emerging markets, partly supported by the U.S. monetary policy is expected to shrink, and fund outflows could work against the economic growth prospects of these regions. On the other hand, the Chinese economy seems to have stabilized as the recent economic data indicates a recovery in production activity while the inflation rate is being maintained at a reasonable level.
Industrial Production rose 3.2% in July month-over-month (mom). The value of exports also increased by 12.2% in July year-over-year (yoy), with the recovery in exports to Europe being a supporting factor. Domestic demand is steadily recovering and the prolonged deflationary conditions have gradually diminished as National Consumer Price Index (CPI) in July reached positive territory (+0.7%, yoy) and Core CPI (CPI excluding fresh food) was also +0.7% for the same month. The unemployment rate also declined by 0.1% (mom) to 3.8% in July, returning to the same level as November 2011. Therefore, Japan seems to be on course towards a gradual economic recovery.
While most sectors posted negative returns during the month of August, the Commodities sector showed a resilient performance and outpaced other sectors amid gains in basic material prices, as possible military intervention by the U.S. in Syria increased market anxiety about political stability in the Middle East, which led to a rise in crude oil prices. The Capital Goods sector also outperformed amid expectations of a gradual recovery in production, while recent Chinese macroeconomic data suggested that demand from China was stabilizing.
The MSCI China Index (+2.4%) continued to outperform this month, driven by stronger Industrial Production growth for July of +9.7%, compared with +8.9% in June, and August’s flash HSBC Purchasing Managers Index (PMI) of 50.1, which together suggested a rebound in manufacturing activity. As such, the strongest performers were among the cyclical sectors, which included Materials (+8.1%), Consumer Discretionary (+5.9%) and Industrials (+3.8%). Auto stocks performed well due to improvements in accounts receivable days and better than expected overall results respectively. Sectors that ended lower were Utilities (-4.3%) and Healthcare (-3.7%) amid concerns over tariff cuts and an ongoing drug pricing investigation, which will both tend to hurt sales. In the MSCI Hong Kong Index (-1.27%), Consumer Discretionary (gaming stocks) was the strongest sector with an 8.5% gain during the month, while Utilities (-5.6%) suffered the biggest hit this month.
The MSCI India Index (-10.7%) underperformed during the period and its central bank continued to struggle to find solutions to the country’s macroeconomic issues and stabilize the Indian Rupee. Industrials (-20.9%), Telecommunication Services (-17.8%) and Financials (-16.3%) were the weakest sectors. On the other hand, Information Technology (-0.7%) outperformed as companies could benefit from a depreciating Indian Rupee. The MSCI Australia Index (+1.57%) outperformed, led by gains in Consumer Discretionary (+5.1%) and Energy (+4.4%) stocks. Underperformers during the period were Telecommunication Services (-2.5%) and Financials (-0.7%).
The MSCI Korea Index (+3.8%) outperformed the region with Information Technology (+7.7%) emerging as the leading sector for the month. Consumer Discretionary (+4.3%) stocks also outperformed on attractive valuations, while upcoming new launches in the fourth quarter of this year may lower its incentive burden. In the MSCI Taiwan Index (-0.24%), all sectors ended in negative territory except Healthcare (+2.3%). Consumer Discretionary (-4.1%) and Consumer Staples (-5.5%) declined the most during the period.
The ASEAN (Association of Southeast Asian Nations) region bore the brunt of outflows during the period, led by Indonesia’s 15.3% fall, while the Indonesian Rupiah also lost 5.9% against the U.S. dollar. Financials suffered the biggest decline, falling 21.2%. The Philippines fell 11.7% due to growing concerns that protests over discretionary government budgets will slow state spending and weigh on economic growth. Thailand’s stock market fell by 11.2% as second quarter gross domestic product (GDP) was weaker than expected. Singapore and Malaysia fell by 5.5% and 4.0%, respectively.
Market Outlook and Strategy
Our most recent Pacific Basin strategy meeting was held against the backdrop of a sharp deterioration in investor sentiment towards India and the South East Asian emerging markets; which raised comparisons with the Asian crises of 1997-1998. The most recent events have their genesis in the extremely accommodative monetary policies adopted by the developed countries since the Global Financial Crisis. Effectively zero official interest rates have encouraged investors to seek alternatives, especially among the higher yielding Emerging Markets. This in turn has driven down local interest rates and created a consumer boom. With talk of tapering, and consequently higher long bond yields, capital is flowing out of the region and causing both stocks and currencies to fall.
Our view is that these conditions do not represent a general crisis. However, some countries have managed these capital flows better than others have.
The country in the worst shape is India. We have reduced exposures aggressively during the last couple of months, but we will look to cut the weighting further. There has been a distinct lack of appropriate policy responses from the Indian Government and as a result the Indian Rupee and, soon the economy too, could take the strain. We may see significant profit downgrades and valuations could also retreat. Indonesia also faces significant difficulties in the near term. The current account has moved into deficit, a result of excessive growth in domestic demand fuelled by cheap finance and sharp increases in wages. The only real solution is currency depreciation, further rises in interest rates and slower domestic demand. We have also reduced exposures to this market aggressively.
We will keep a slight underweight position in Malaysia. There are no secular concerns here but the economy will need to slow, which could have a negative impact on profits.
We have also reduced the overweight exposure to Thailand. Again, we believe there are few structural issues here, rather a cyclical slowdown in both the economy and profit growth. However, Thailand stocks in general appear to offer good value after their recent fall. Finally, in the ASEAN market, we have maintained our overweight exposure to the Philippines. The macroeconomic picture here looks fine, although stocks are relatively expensive and we plan to ride out the short-term weakness.
We will look to add to Korea. This has been an out of favor market for us with several negative indicators. However, everything is relative and with both the Chinese and Developed World economies rebounding, the export-orientated sectors in Korea could benefit.
We have raised our China position recently. The Chinese economy seems poised to rebound whilst sentiment has been overly negative. Stock valuations look cheap and most corporate results have either met or beaten expectations. In addition, the China A-share market is demonstrating its relative strength, which could support Hong Kong listed
Chinese shares.
Australia will remain underweight despite the likelihood of a more business friendly government being elected at the September 7th general election. We are still concerned that the currency is overvalued whilst the economy is still slowing.
International investing involves certain risks and increased volatility not associated with investing solely in the U.S. These risks include currency fluctuations, economic or financial instability, lack of timely or reliable financial information or unfavorable political or legal developments. These risks are magnified in emerging markets. Securities focusing on limited geographic areas and/or sectors may result in greater market volatility. Investing in securities issued by smaller companies typically involves greater risk than investing in larger, more established companies.
Investors should carefully consider the investment objectives, risks, charges and expenses of each Fund before investing. This and other important information is contained in the Nomura Partners Funds, Inc. prospectus, which may be obtained by contacting your financial advisor, by calling Nomura Partners Funds at 1-800-535-2726, or visiting our website at nomurapartnersfunds.com. Please read the prospectus carefully before investing.
This material contains the current opinions of the author, which are subject to change without notice. This material has been distributed for informational purposes only. Forecasts, estimates, and certain information contained herein are based upon proprietary research and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information used to compile this report has been obtained by sources deemed to be reliable, but its accuracy and completeness are not guaranteed. No part of this material may be reproduced in any form, or referred to in any other publication, without express written permission. Past performance is no guarantee of future results. There is a risk of loss.
MSCI AC Asia Pacific ex Japan Index is an unmanaged free float-adjusted market capitalization index that is designed to measure the equity market performance in the Asia Pacific region excluding Japan. The Tokyo Stock Exchange Price Index (TOPIX) is an unmanaged capitalization weighted measure (adjusted in U.S. dollars) of all shares listed on the first section of the Tokyo Stock Exchange. One cannot invest directly in an index.
The MSCI information contained in this material may only be used for your internal use, may not be reproduced or redisseminated in any form and may not be used as a basis for or a component of any financial instruments or products or indices. None of the MSCI information is intended to constitute investment advice or a recommendation to make (or refrain from making) any kind of investment decision and may not be relied on as such. Historical data and analysis should not be taken as an indication or guarantee of any future performance analysis, forecast or prediction. The MSCI information is provided on an “as is” basis and the user of this information assumes the entire risk of any use made of this information. MSCI, each of its affiliates and each other person involved in or related to compiling, computing or creating any MSCI information (collectively, the MSCI Parties”) expressly disclaims all warranties (including, without limitation, any warranties of originality, accuracy, completeness, timeliness, non-infringement, merchantability and fitness for a particular purpose) with respect to this information. Without limiting any of the foregoing, in no event shall any MSCI Party have any liability for any direct, indirect, special, incidental, punitive, consequential (including, without limitation, lost profits) or any other damages.
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