Fund management giant Amundi has been heavily underweight Asian stocks in its London-based global equity fund since Nick Melhuish joined in mid-2013, and he sees no reason for that allocation to change yet.
Describing himself as a long-term China sceptic, the firm's London-based head of global equities said that, outside Japan, it only holds one Asian stock – in Indonesia – in a 30-name portfolio. This is despite the fact that valuations in Asia have come down a lot in the past three years.
“With the fallout we’ve had since 2013, valuations are attractive," he noted, "but the issue is that the [current] macro uncertainties all lead to Asia, and that makes me feel somewhat uncomfortable investing there.”
Asian equities' price-to-earnings ratio is about 13.5x, according to Bloomberg Best Estimates, which he said was low relative to other regions and to historical levels.
Melhuish pointed to the US’s mooted fiscal and trade policies under new president Donald Trump, and his main fear is the impact of a border adjustment tax. This means imports are taxed, but exports are not – the aim is to encourage US companies to based their manufacturing operations domestically.
“The problem for Asia, first of all, is that trade is a very sensitive issue,” he noted. “If you get tariffs raised for China, that will rebound around the region and will affect companies and valuations.
Border tax fears
“What concerns me more than that, though, is US fiscal policy, and particularly what they do with border adjustment," said Melhuish (pictured left). That’s a tariff in everything but name. And the problem with that would be that almost certainly the dollar would rise quite significantly.”
The Republican-led Ways and Means Committee is proposing a 20% import tax and zero export taxes. That would effectively give exporters a 7% to 14% subsidy, according to Chinese investment bank CICC.
Such a tax would likely cause the dollar to strengthen yet further, potentially by as much as 25%, he said. Given that the trade-weighted dollar ratio is currently around 1, and the strongest it has ever been is about 1.2 in the mid-1980s, a rise to 1.25 would mean it is in “a place we’ve never been before”, noted Melhuish.
This means many Asian countries – particularly in Southeast Asia – are at risk of a major balance-sheet shock, because they have a lot of dollar-denominated debt, he said.
“Because we have no certainty about how this is going to play out, it keeps me quite cautious on the region”, he added. “If all of this began to resolve itself, I would be interested in putting some money to work.
“We run a fairly comprehensive valuation screening process, and the region does screen OK and there are some good opportunities,” noted Melhuish. “So it really is just the macro uncertainty that is really holding us back.”
Amundi is probably more underweight Asian stocks than most other large investors, said Melhuish.
Indeed, some fund managers argue that certain sectors and companies in the region are a good bet.
Josh Crabb, head of Asian equities at Old Mutual Global Investors, has sought Asian companies that have been buying up cheap assets in the US. He is particularly keen on companies and sectors tied to US shale gas.
And Mansfield Mok, China equities portfolio manager at EFG Asset Management, has been buying mainland oil companies whose assets are denominated in dollars.
Scepticism on China
Melhuish, meanwhile, admits he is a China sceptic. He spent a number of years working in Singapore in the 1990s, covering mainland companies. While mainland state-owned enterprises (SOEs) have evolved since first being privatised in the mid-1990s, he noted, ultimately they are organs of the state that happen to be listed.
Beijing has tried a few times to implement SOE reforms but has ultimately not followed through with what is required, said Melhuish. “Because when the economy begins to weaken – which comes hand in hand with reform, because you have do to things that are painful in the short term – they have typically stepped back.
“I'm not a bear on China, as their achievements are remarkable," he concuded. "I'm just not enthusiastic at this point in time.” He is certainly not along in holding that view.