Schroders Quickview: Growth and deflation realisation behind Asian sell-off
Structural worries on a number of fronts have sparked sharp falls in Asian stocks.
25 August 2015
- Policy failures throw spotlight on investment in Asia
- Corporate earnings will need to be reappraised
- Valuations reflect the "new norm"
- Strong companies with good cash flow and sustainable yield high on investors wanted lists
Following the global rout in share prices, we believe the most recent sell-off in Asia has been caused by structural changes which are leading to slower GDP growth and deflation in the region.
Pressure on earnings
This is resulting in a sharp (downward) reappraisal of the earnings outlook. This has come at a time of institutional and policy failures in many countries which have also caused a reappraisal of the “risks” of investing in Asia.
We don’t think this is rocket science. It results from three areas of disappointment and worry:
- Deflation, sluggish growth and its impact on earnings
- Serial policy and institutional failures across Asia
- Emerging market debt woes
We believe Asian stockmarkets, and global stockmarkets in general, are only really now taking on board the full implications of what looks like a structurally deflationary environment.
This deflation comes from the excess debt levels in the global economy resulting from the madness of QE (quantitative easing) policies continued into perpetuity in many countries. This has prevented any debt reduction and ‘cleansing’ in the global economy.
We think the penny is finally dropping that with real GDP growth structurally lower in Asia, and inflation negligible, earnings growth is going to be much harder to achieve, and thus stocks should trade on lower earnings multiples.
Valuations down but not out
On a slightly more positive note we are less worried about an Asian debt crisis. We had the misfortune to manage Asian funds during the 1997/98 crisis and the numbers this time round, whilst undoubtedly worrying, don’t look anything as bad as in 1996.
It is also the case that the recklessness and hedonism we saw in ASEAN in 1993-97 in the run up to crisis has been broadly absent this time round.
The risks in China of a worse outcome than our muddle-through scenario are clearly rising.
However, Asian stockmarkets are now unequivocally cheap versus history. We don’t think the structural issues of deflation and slower growth are going away but we do think valuations broadly now reflect this ‘new normal’.
We continue to believe the situation in China is manageable if the government accepts the pain and moves swiftly to deal with the bad debts that will spiral rapidly in China as liquidity tightens due to capital outflows and the slowing economy.
We do, though, admit the risks in China of a worse outcome than our muddle-through scenario are clearly rising and the current policy flip-flops do not inspire confidence.
So what do we buy? This is easier to answer. In a world of deflation and disruption, we want cash flow, sustainable yields, innovative/adaptable companies and strong balance sheets.
- Asia ex Japan
- Asia ex Japan Equities Team Schroders
- Global Economy
- Monetary Policy
Important Information: The views and opinions contained herein are those of Schroders’ Investment team, and may not necessarily represent views expressed or reflected in other Schroders communications, strategies or funds. This material is intended to be for information purposes only and is not intended as promotional material in any respect. The material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. It is not intended to provide and should not be relied on for accounting, legal or tax advice, or investment recommendations. Reliance should not be placed on the views and information in this document when taking individual investment and/or strategic decisions. Past performance is not a reliable indicator of future results. The value of an investment can go down as well as up and is not guaranteed. All investments involve risks including the risk of possible loss of principal. Information herein is believed to be reliable but Schroders does not warrant its completeness or accuracy. Some information quoted was obtained from external sources we consider to be reliable. No responsibility can be accepted for errors of fact obtained from third parties, and this data may change with market conditions. This does not exclude any duty or liability that Schroders has to its customers under any regulatory system. Regions/ sectors shown for illustrative purposes only and should not be viewed as a recommendation to buy/sell. The opinions in this material include some forecasted views. We believe we are basing our expectations and beliefs on reasonable assumptions within the bounds of what we currently know. However, there is no guarantee than any forecasts or opinions will be realised. These views and opinions may change. UK: Schroder Investment Management Limited, 31 Gresham Street, London, EC2V 7QA, is authorised and regulated by the Financial Conduct Authority. For your security, communications may be taped or monitored. Further information about Schroders can be found at www.schroders.com US: Schroder Investment Management North America Inc. is an indirect wholly owned subsidiary of Schroders plc, a SEC registered investment adviser and is registered in Canada in the capacity of Portfolio Manager with the Securities Commission in Alberta, British Columbia, Manitoba, Nova Scotia, Ontario, Quebec and Saskatchewan providing asset management products and services to clients in Canada. 875 Third Avenue, New York, NY, 10022, (212) 641-3800. www.schroders.com/us