ECONOMIES Asia

On the ground in Asian frontiers

High economic growth rates and fantastic demographics are just two of the reasons why we like investing in Asian frontier markets.

Vietnam’s economy grew by 6.2% in 2016 and we believe it will remain above 6% in 2017. Pakistan’s economy is expected to grow by more than 5% this year, the country’s highest figure in a decade. Bangladesh has been growing by more than 6% per annum for many years now.
Moreover, Vietnam, Pakistan and Bangladesh are among the top 15 countries globally in terms of population. Combined, these three countries have almost 450 million inhabitants. With around 50% of the population below the age of 30, this makes for a remarkable mix. Companies have access to sizeable, yet in many cases still under-penetrated, domestic markets. Rapid economic growth, as well as large and young populations, form a good backdrop. In addition to this, we believe it is important to identify more drivers and catalysts for returns in each market, to justify investments.

Vietnam: FDIs create better jobs
In Vietnam, the massive inflow of Foreign Direct Investments (FDIs) in recent years has led to job creation, and moved the country’s exports to higher value-added products. Consumer electronics form a larger and larger portion of the country’s exports, having been almost non-existent just a decade ago. The FDIs come from the more developed countries in Asia, such as South Korea, Japan, and Singapore, with Samsung Electronics for example having constantly increased production capacities in Vietnam over the last few years, accounting for almost 23% of the country’s total export revenue in 2016. Job creation in production of higher value-added products leads to rising income levels, which is key for consumption.
In addition, on the reform side, the most important for us as investors has been the changes in legislation on the Foreign Ownership Limits (FOL) in companies, together with the listings of state-owned enterprises. Since the legislation on the FOL changes has been passed, we have seen a number of companies lifting their foreign ownership limits. Most notably among these is Vietnam Dairy Products (Vinamilk), one of our holdings in the country. On the listings of state-owned companies, we saw, by the end of 2016, a number of companies coming to the market, including Vietnam Airports Corporation, Saigon Breweries, and Hanoi Breweries. And more companies are expected to list this year.
We are also very positive on Vietnam. We noticed a huge interest with more than 500 participants in the largest investor conference for Vietnamese equities held in Ho Chi Minh and which we recently attended. The “newcomers” to the Vietnamese Stock Exchange lead to more investment opportunities for us, especially in the consumer sector, which we very much favour thanks to its structural growth.

Pakistan: Big projects drive growth
In the case of Pakistan, the massive spending on infrastructure, energy and utilities projects, which are underway with the support from China, will be a strong driver of the economy this year, as well as in the upcoming years. Investments in the China Pakistan Economic Corridor projects are set to exceed USD 50bn in total. The completion will further boost economic growth and improve the power supply in the country. Adding more power capacity is key for Pakistan, as the country is currently not generating enough power to support a higher economic growth rate.
Pakistan attracts the most interest from international investors, as it is the most liquid frontier market in Asia, has no foreign ownership restrictions in place, valuations are low, and the MSCI has decided to reclassify it from “frontier” to “emerging”. Ironically, foreigners were net sellers of Pakistani equities last year, according to figures from our brokers in the country. This is probably due to redemptions from frontier funds overall last year. In our view, this has nothing to do with the strong fundamentals of the market. In spite of foreigners being net sellers, the Pakistani equity market was the fifth-best-performing equity market globally in 2016, up 46.4% in USD. Pakistan remains one of our preferred frontier markets and we believe that the inclusion into the MSCI “emerging” benchmark in 2017 will lead to increased inflows into the market. Pakistan will have one of the highest dividend yields among emerging markets globally, at around 5%. Equities are still cheap, despite the strong 2016 performance, trading at 11.2x 2017 earnings.

The secret to picking stocks in Asian frontiers
With sizeable populations, strong demographics, rising income levels and under-penetrated markets, we favour consumer-related companies. Retailers are another way to gain exposure to the consumer, and modern retail is in the very early stages of development in these countries. Most products are still sold via the traditional family-owned small shops. We also like companies in the tourism sector, as we see a significant growth in passengers, fleet additions in the airline companies, as well as new routes being opened to these countries from abroad.
We like banks in Pakistan, where we see more upside on expectations of faster loan growth, a potential reversal of the monetary easing cycle, which bodes well for margins, as well as potential flows in connection with the inclusion in the MSCI emerging benchmark.


Adrian Pop - Head of Asia - East Capital

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