BlackRock foresees two possible scenarios for Asian equity markets in 2014, one of which could see a bottom for valuations as reforms take hold in the region.

Andrew Swan, the firm’s head of Asian equities, identified the most likely case as a continuation of the low-growth environment with low-beta returns.

At a media briefing to outline BlackRock’s market outlook for next year, he pointed to the potential for structural growth opportunities to outperform, with the caveat that volatility is likely to remain elevated.

He highlighted rising penetration of smart phones in the region as one such opportunity with 400 million handsets by the end of 2012, equivalent to the European and US markets combined. By 2015 this is forecast to almost quadruple to 1.5 billion.

“We have done quite well with some of these (smart phone) stocks this year whether they were in internet, tourism or leisure areas, and we see a continuation of [the trend] in those sectors, perhaps towards bubble-like territory,” he told gathered media.

At the same time, he highlighted the growing probability of an improved economic growth outlook combined with structural reforms in Asia, helping to drive asset prices up.

In mid-November, China’s Third Plenum announced it would look to make changes to allocation into resources, judiciary systems and country-wide implementation of free-trade zones.

“If China does succeed in pushing through reform, whilst there will be volatility in the near-term, I think the long-term outlook for asset prices – particularly equity prices – will start to improve significantly,” said Swan. “2014 could actually mark the bottom of [equity] markets for Asia.”

This was especially the case in China, where private firms can deliver almost double the returns of state-owned enterprises, in effect driving markets to trade at higher multiples, Swan suggested.

Structural market change could also underpin change in investor behaviour, encouraging them to ditch tactical trading of buying on dips and selling on bounces in favour of buying into the dip and holding the bounce.

Of interest among Chinese equities are financial sector stocks, said Swan. Non-bank sectors, including insurance stocks and brokerages, are likely to benefit from recent government reforms.

In February, the China Securities Regulatory Commission (CSRC) announced that insurers with asset management arms could launch collective investment funds, providing additional competition to mainstream houses.

Similarly, this weekend the CSRC announced it would be restarting its IPO process for companies looking to list after a year-long hiatus.

Aside from China, Swan was quick to note that while India's stock market has hit a new high this year, returns have been offset by a 12% fall of the rupee against the dollar this year.

India’s Sensex Index has risen 9.3% to 20,800 points year-to-date to November 29. It follows the appointment of Raghuram Rajan, governor of the Reserve Bank of India, who has promised reforms such as allowing foreign banks to set up subsidiaries on the subcontinent.

Swan credits the resurgence in India’s equity market to two factors. The first is the country’s exposure to the US, a market that has seen a 2.8% expansion in GDP in the third quarter.

Companies listed in India have earnings tilted up to 45% to sectors such as pharmaceuticals, IT, oil and gas. This means India is a market for investors to look for US dollar earners, adds Swan.

Another reason for optimism about India is the potential change of government. The opposition Bharatiya Janata Party has promised to usher in reforms that would mean further financial market liberlisations, which could also drive the stock market.

Separately, Swan says European investors are showing increasing interest in Asian equities. “Equity returns have been quite strong in other markets and Asia has been a laggard,” he says, suggesting the region is in line to benefit from a turn in the cycle.

“We are already starting to see some risk appetite emerge. A lot of questions are around China and reforms in particular,” he says. “I think it is partly fear because [European] investors don’t have much exposure to this region and the movement from current valuations could be quite extreme if reform and better growth comes through.”