Threadneedle supports commodity super-cycle view

Investment Outlook Series: Vanessa Donegan, head of Far East equities at Threadneedle Asset Management, says opportunities exist in four investment themes: superior growth, infrastructure, raw materials, and the growing middle class.
This is part of an AsianInvestor series on the investment outlook of fund managers with Asian portfolios.

Vanessa Donegan, is the London-based head of Far East equities at Threadneedle Asset Management. The Far East team, which manages around $5.4 billion, is responsible for all Asian equity markets including Australia but excluding Japan. Threadneedle manages around $121 billion worldwide.

What are the biggest opportunities that you see in the markets you are responsible for in the coming 12 months? How are you preparing to take advantage of those opportunities?

Donegan: There are a number of exciting themes in the markets. The main opportunities exist in four areas.

Superior growth. In particular, the demographic picture in India and China is creating strong growth and abundant investment opportunities.

Infrastructure. A number of countries are undertaking significant infrastructure improvement programmes and this creates opportunities in attendant sectors.

Raw materials. The rapid urbanisation taking place in several of the region's countries creates strong demand for raw materials, much of which is met from within the region.

Growing middle class. The changes that we have seen in China in recent years have created a fast-growing middle class with high levels of disposable income. This presents opportunities in consumer-related areas and also creates demand for housing and related products such as financial services

How different or similar is your 12-month investment outlook now compared to the start of this year?

Our view of the key themes has not changed significantly this year. However, the global economic backdrop has changed significantly and this has an impact on earnings expectations and risk factors. For example, there has been a trend towards lowering aggregate earnings growth forecasts for 2008 in recent months. It is important to note, however, that we can still find plenty of companies offering good earnings growth thanks to our themes.

Have you made any significant changes to your asset allocation in terms of markets or sectors in the past few months?

There have been no major changes to either the sector or geographical focus of the fund over the past three months. We have slightly increased the energy weighting, and stock specific changes have seen the weighting in Korea increase a little, but neither of these is a significant move.

What are your favoured markets in Asia?

Our country weightings are largely a result of bottom-up stock selection and sector strategy. However, we do have a preference for those countries that are best positioned to deal with the pressures of high food and energy prices, and this tends to be with energy producers or countries with strong fiscal positions allowing them to absorb some of the price increases in the form of subsidies.

What are the markets you are going to steer clear of in the coming year?

We tend to underweight countries that have a need to import food and energy and who have weak fiscal positions. Hence, India is a key underweight.

What are your market weightings within an Asia Pacific ex-Japan equities portfolio?

As of June 30, our weightings were:

Australia: 17.53%
China: 19.07%
Hong Kong: 11.47%
India: 5.48%
Indonesia: 3.61%
Malaysia: 4.22%
New Zealand: 0
Pakistan: 0.40%
Singapore: 6.95%
South Korea: 12.36%
Sri Lanka: 0
Taiwan: 12.42%
Thailand: 2.27%

Which sectors do you expect to outperform in the coming year?

We continue to believe in the commodity super-cycle and in the strength of the Asian consumer. Hence, oil services, mining, consumer discretionary (especially retail and consumer durables) and real estate are all overweights.

Which sectors do you expect to underperform?

We are underweight in banks, although we do have some key holdings in the area û a highly selective approach is necessary in this sector. We have virtually nothing in utilities as we believe that better opportunities are available elsewhere. The transport sector is likely to suffer in an environment of high fuel costs so we are underweight here. We are underweight in the hardware and semiconductor areas in technology as these are relatively commoditised industries that are suffering from global overcapacity and pricing pressure.

What are the main challenges that you expect to face in the coming 12 months?

Inflation is a cause for concern. Central banks across the region face a difficult dilemma of balancing the need to contain inflation while avoiding putting upward pressure on their exchange rates, thereby undermining export competitiveness.

What are the main risks of investing in Asia at the moment? How are you managing those risks?

The fundamentals supporting the region remain solid but the asset class is vulnerable to retrenchments in risk appetite, as we have seen in recent months. We are managing the risks by focusing on high quality companies with sustainable earnings, which should outperform in this environment, and by maintaining a diversified portfolio.
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