Lessons from the Asian financial crisis

July marked the 20th anniversary of the Asian financial crisis, a traumatic event in financial markets imprinted on the minds of any investor who was around at the time. Unsurprisingly, many commentators, including veteran emerging market investor, Mark Mobius have taken the opportunity to reflect on what this event meant for the region - 20 years on, there are some valuable lessons and takeaways for investors interested in upping their exposure to Asia.

But first, a brief piece of stock market history. The first signal of the Asian financial crisis was a sharp fall in Thailand’s currency, the baht, in the summer of 1997, when the currency’s peg to the dollar was dropped. However, it’s fair to say that the origins of the crisis stemmed from companies and investors borrowing money in global markets where rates were low and then reinvesting it in the Asian region, to take advantage of higher rates and returns. Many countries became too reliant on foreign debt borrowed mostly in US dollars over short timeframes, which escalated when it subsequently dried up.

The troubles in Thailand quickly sparked a series of currency devaluations spreading through many Asian countries, causing stock market declines, reducing import revenues and eroding confidence in emerging markets generally. As Matthew Dobbs, a veteran Asia Fund manager at Schroders, puts it, “the fallout was shocking”. The Indonesian economy, for instance, shrunk by 85% in US dollar terms during the aftermath - a contraction unthinkable today.

The Asian financial crisis was stemmed somewhat by financial intervention from the World Bank and the International Monetary Fund (IMF), although it did have a spillover effect on markets beyond Asia with Russia and Latin America facing crises of their own soon after.

Wind the clock forward 20 years and today Asia is the fastest-growing region in the world, and the largest contributor to global growth.

Here are five key takeaways for investors interested in Asia:

1. A region in much better shape

In response to the 1997 crisis, Asian countries undertook strong reforms and addressed the root causes of the crisis. Many adopted more flexible exchange rates, overhauled their financial sector regulation and dealt with the debt overhang. These reforms made Asia more resilient putting the region in a good place to withstand the shocks from the 2008 financial crisis. Today many countries have built up foreign reserves and reduced foreign debt loads. As Dobbs points out, Thailand, for example, ran a current account deficit equivalent to 8% of GDP (the total value of goods and services produced by a country)  ahead of the crisis. Today it runs an 11% surplus.

2. But China remains a concern

While it’s fair to say that Asia has come a long way from the dark days of the 1997 currency crisis, with the region far better prepared to address another major economic shock, vulnerabilities remain and China is a key concern. Investors are worried about the country’s debt levels relative to the size of the economy which looks similar to that of pre-crisis countries. The longer China’s debt problems are not addressed, the more the risks of a Chinese financial crisis grow.

3. Unloved and under-owned

Despite Asia being one of the best stock market performers this year, this is yet to be reflected in investor fund flows. As Catherine Yeung, Fidelity’s Investment Director for Asian Equities points out in the below video, Asia is still chronically under-owned by global investors. As a consequence the region is relatively cheap, with the exception of India which remains the destination of choice for investors.

4. An income story

Think income – and most investors will naturally think UK blue chips. However, Asia boasts a much more diversified pool of dividend payers with around 95% of the companies that make up the MSCI Asia Pacific ex-Japan index, now paying a dividend.

Many of these companies’ cash piles have increased significantly since the global financial crisis and a low inclination to increase capital spending means it is highly likely this cash will be returned to shareholders.

China is becoming a contributor in this income story with many of the country’s state-owned enterprises paying special dividends alongside a number of private companies demonstrating greater financial understanding and a willingness to return cash to shareholders.

5. A diversified approach

Twenty years on from the crisis which has left investors instinctively cautious when it comes to Asia and emerging markets more generally, it’s fair to say that Asia is not without its concerns. Topping the list of worries is China, even if fund managers tend to be relatively sanguine on China’s slowing growth and rising debt.

However, it’s worth noting that the Asia Pacific region includes Australia, New Zealand, Hong Kong, Taiwan, South Korea, Singapore, Thailand, Malaysia, Indonesia, the Philippines, India and China. Although clearly connected by geography, there are significant political, economic and corporate differences between these countries. This variety gives experienced active investors opportunities to improve returns.