Asia Can and Will Adapt
05/28/2009 9:06 am EST
Plans to boost Asian domestic consumption will drive the next stage of the recovery, says Edmund Harriss, manager of the Asia Focus, the China & Hong Kong, and the Asia Pacific Dividend funds at Guinness Atkinson.
Q. We've recently seen big rallies in the markets on the Chinese periphery: Taiwan, Singapore, Hong Kong. We've also seen a big increase in foreign investment flows of late. Are new investors running the risk of a hefty correction?
A. Asian markets fell much harder than developed ones-a knee-jerk reaction as investors felt that Asia was fundamentally weak and that falling exports would hit especially hard. Now Asia's comparative economic strength-solid banks, low national and corporate leverage, fiscal surplus to fund stimulus packages, especially in China-triggered a reassessment. Over one year, Asia and the Standard & Poor's 500 index are near enough level. The question now is whether Asia has hit a ceiling-this depends on its ability to generate domestic-led growth, and I don't think we're there yet.
Q. Taiwan in particular seems to be celebrating the new deal with China on cross-Strait investment flows as a watershed. How much of a game-changer is it?
A. Not a game-changer yet. Taiwan is likely to block the China Mobile (CHL) deal to buy 12% of FarEastone and is leery about Chinese access to its financial sector. China is on a major charm offensive, and Taiwan doesn't know how to respond to this: An implacable domineering neighbor is now transmogrifying into an eager suitor. The tactics have changed, but China's goal remains the same. Overall, though, it should be seen as positive and benefits will certainly accrue from closer ties- but it won't all happen by next Thursday.
Q. Some China watchers are skeptical of the Chinese domestic consumption push. And the Chinese consumer market is still tiny relative to the US or Europe. Won't China continue to rely heavily on exports to debt-burdened markets for years to come?
A. I think some in China believe that exports will rebound sooner than outsiders believe likely. There is a need to boost consumption and to rebalance, and it is widely recognized at the center, which is setting policies designed to support this: health care safety net, subsidies, and tax changes to help people buy cars and homes.
China does have a chance to build a consumer market with a growing middle class and high savings. To achieve it will require significant political and administrative changes such as we are seeing with the $125-billion health plan to extend basic coverage to 90% of the population in three years-but it needs to go further.
Q. Asia is a big commodity importer, and its big run-up this spring has coincided with low commodity prices. Is its stock-market leadership role in danger now as crude and metals rise?
A. There has been some hefty re-stocking in Asia, and this has led to higher commodity prices. But I am doubtful this level of imports will be sustained. Iron ore inventories in China are huge. I'm also not sure that oil is going much higher in the near term, but at $60-$65 per barrel, Asia can cope.
Q. What's your favorite and least favorite [Asian] market?
A. I am most positive on China because of the depth of the economy, and the options open to it. I am most concerned about Korea and Taiwan, whose export reliance hurts them and whose domestic economies are overstretched.
There is a consumption story to be played in Asia. The stimulus packages across the world were announced [only] six months ago, and with the best will in the world we cannot expect them to have an instant impact on the real economy. That will be the story in the second half of the year, I believe.
Q. It's true that Chinese banks haven't needed any aid. But won't there be some fallout from their recent government-directed lending spree?
A. Non-performing loans (NPLs) are going to be a problem for banks worldwide. China's NPL levels are low now. But, bear in mind, China spent a fortune restructuring banks and carving out NPLs from previous credit splurges to list these banks only three years ago. They don't want to do it again.
The People's Bank of China has been very good about managing credit. The reason Chinese banks have not needed help is not due to shrewd managers at the commercial banks but because the Central Bank saw GDP growth of 10%+ from 2005 until mid-2008 and tightened the supply of credit-something that the Federal Reserve and the Bank of England could usefully reflect on.
Q. Where are you finding value right now over what a broad regional ETF might provide?
A. Energy, industrials, materials, and commodity transportation are driving returns now. Domestic consumer-related sectors will be the next phase, I believe. This could be played through consumer stocks but also through banks and real estate. Technology will also move when there are signs of global recovery, which will come eventually. The timing of those changes is going to be key to outperforming.
Q. Thank you.