Citi goes against the tide in Taiwan

Taiwan has the highest dividend yield in the region, is the third cheapest in terms of price-to-earnings ratios and fourth cheapest in terms of price-to-book values. These are among the reasons why Citi continues to remain overweight in Taiwan despite the market being among the least favoured in Asia by many international fund managers. CitiÆs focus in Taiwan is its domestic sector and not the export or technology sectors that many investors are avoiding.

ôInvestors in Taiwan seem demoralised,ö Markus Rosgen, chief Asia strategist at Citi, writes in a recent report. ôThis is good, in our view. Low expectations mean low risk. Taiwan is cyclical. The beauty is that it is priced as such. There should be no pretense of being anything else.ö

Until mid-2007, Citi didnÆt like Taiwan and also took the consensus bearish view.

However, Citi swapped a Singapore overweight with a Taiwan underweight halfway through last year and has remained overweight the Taiwanese market since.

Citi notes that the single biggest change in TaiwanÆs market now compared with the 1990s, when the market was among the most overvalued in the region, is its average dividend yield. In the 1990s, Taiwan's dividend yield was a mere 1%, a figure that has risen to 2.5% now.

ôTaiwan has gone from the pay-out scrooge to the generous uncle and now has the highest dividend yield in the region,ö Rosgen notes.

Looking ahead, Citi expects the strong cash flow of Taiwan companies and better capital management to cause investors to take a closer look at what they have been missing in that market.

Taiwan is now into the longest period of positive free cash flow generation since 1990, according to Citi. On the back of lower capital expenditure and higher free cash flow, shareholders have benefited with an increase in the dividend payout ratio. The payout ratio stood at 28% in 1995, 24% in 2000 and 73% in 2005. Taiwan now has the highest dividend yield amongst the Asia ex-Japan market, having previously had the lowest

ôWe believe higher dividend yield is one driver. Linked to this is the fact that the market is cheap, and expectations are low and should be easy to meet,ö Rosgen says.

The second driver of a possible re-rating of investorsÆ sentiment on Taiwan is better capital management. Net debt-to-equity is a mere 12.6%, exceedingly low by global standards and even Asian standards, according to Citi.

A third driver is the potential for better cross-straits relations.

ôGiven current polls, a KMT victory is the most likely outcome,ö Rosgen says. ôThose looking for China plays should find no cheaper ones than in the Taiwan market. The expectation is that shareholders will be able to find true underlying value in Taiwanese companies.ö

Citi believes now is the time to bulk up on shares of Taiwanese companies.

ôWe are not making the case that investors will become bullish overnight,ö Rosgen says, ôbut when the majority of investors are bearish, we believe the downside risk is also contained as it is hard to disappoint depressed investors.ö