2019 outlook: Ample room for value in China

Three key takeaways:

1. Short-term volatility from the US-China trade war and deleveraging might put pressure on near-term growth.  
2. Structural growth drivers remain in place and policymakers continue to be pro-growth. Corporate balance sheets are healthy and the emphasis is on efficient capital allocation and better dividend payouts.
3. A focus on intrinsic-value opportunities has the potential to generate long-term alpha. 

Three questions:

1. What is your investment outlook for Asian equities in 2019? 
In 2018, the spotlight on China focused on the Sino-US trade dispute, as well as the efforts to deleverage the Chinese economy. Investors were unnerved by headlines portraying a rather dismal outlook, while deleveraging put pressure on near-term growth. 

It was not unusual to see uncertainty dominate sentiment against this backdrop, which hurt Chinese stocks, even as the underlying long-term prospects of structural growth remained in place.
China has indeed entered a relatively low-growth phase of economic activity, compared to a decade ago. This has positive implications: the economy is likely to be less cyclical, and structurally driven by consumption, rather than fixed asset investment. 

Chinese corporate balance sheets have significantly improved and companies are more conscious about capital expenditure, while managements are adopting a more mature approach towards efficient capital allocation and reducing leverage. In a distinct shift towards increasing shareholder value, dividend payouts are also garnering attention, which markets have so far under-recognised.

2. What do you think could most surprise investors next year?
The external trade-related matters reflect the emergence of a new age in Sino-US relationships, where there is likely to be less emphasis on cooperation. Nonetheless, the momentum of innovation at Chinese corporates is quite positive, which provides thrust to its extensive integration in global manufacturing value chains.

China also has substantial human capital in its universities and vocational schools, which it can potentially monetise over the next decade in areas such as automation, health care, media and technology.

As China faces external uncertainty, it will likely respond with measures to stimulate internal growth. Chinese policymakers have a clear intention to support economic activity, which they have demonstrated on several occasions in 2018. The series of Reserve Requirement Ratio cuts seen during the year is one such manifestation of this intent. While the impact of additional liquidity will be felt with a lag in the economy, it indicates that policymakers will be proactive. 

3. How do you plan to capture the best opportunities? 
The real economy is not as dismal as markets seem to suggest recently, however it is more of a mixed bag. Against this backdrop, Chinese equities provide attractive opportunities for bottom-up stockpicking, as valuation premiums have retreated from peak levels seen at the start of 2018. 

There are opportunities in energy, industrials, high-quality real estate and select consumer-led areas of the market. The technology sector has also started to look interesting after the recent sharp correction in valuations.

I continue to adhere to my long-standing value contrarian investment style, with exposure to positions that provide earnings visibility over a 3-5 year horizon. There is no preference for old economy versus new economy. The focus is on well-managed businesses that look to have a long runway of growth and should benefit from the structural shifts in China.

 



There are opportunities in energy, industrials, high-quality real estate and select consumer-led areas of the market. The technology sector has also started to look interesting after the recent sharp correction in valuations.

 

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