Asia ex-Japan equities declined sharply in the first quarter in sterling terms, as Covid-19 became a global pandemic and the prospect of a worldwide recession loomed. US dollar strength was a drag on returns. The MSCI AC Pacific ex Japan index decreased in value but marginally outperformed the MSCI World index.
Association of Southeast Asian Nations (ASEAN) markets were notably weak and all underperformed the MSCI AC Pacific ex Japan index. South Korea was also relatively weak. Although the country’s response to the crisis appeared to be progressing, the weaker outlook for global trade and growth weighed on the market. Australia was also amongst the weakest countries in the benchmark.
The Chinese market was a notable outperformer of the index. China, seen as ‘ahead of the curve’ as it was the first country to record cases of Covid-19, took measures to lock down the city of Wuhan. Its measures to contain the spread were deemed a success as the number of active cases of the virus in mainland China appeared to peak in February and subsequently fell sharply. A mixture of interest rate cuts and fiscal (tax and spending) measures were announced during the quarter by the Chinese authorities. Meanwhile, the spread of the virus appeared to be relatively contained in Hong Kong.
In light of the worsening Covid-19 pandemic, there has been increasing news flow regarding dividend cuts and suspensions by corporates – be it mandated by governments or otherwise. In terms of income in our view, ultimately dividends are going to be driven by earnings so the key is how long this slump lasts. In the GFC, Asian companies did a pretty good job of protecting dividends albeit there were cuts and this was obviously helped by a relatively low starting point from a payout perspective.
Currently we are going through earnings season for Asia and it is perhaps surprising how few companies thus far are using the current crisis to cut dividends, perhaps driven by a motivation to move cash upwards in the case of SOE’s and family controlled entities. Here the region as a whole is helped by its relatively low starting payout ratio and listed corporates relatively low gearing ratio.
This contrasts markedly with some other regions where payout ratios and gearing are already high. Unsurprisingly, in economies where governments have aggressively stepped into support companies dividends have been cut or cancelled. One could argue that the crisis is allowing corporates more broadly there to reset payouts down to more ‘sustainable’ levels. This is not to say that Asia Pac is immune to cuts and if one looks at Australia and New Zealand their payout ratios are high by regional standards and some areas of the market’s valuations suggest dividend cuts are to be expected. So with earnings being revised down across the region this year dividends will likely be under pressure with more cyclical areas of the market clearly at risk from cuts as well as banks (particularly those with high payouts) given the likely rise in credit costs and fall in margins. The crunch point for dividends in Asia will likely come post interims in the summer by which time there hopefully will be a bit more clarity as to the impact on growth and earnings from the virus.
Our philosophy has always been about assessing the longer-term fundamentals underpinning future dividend streams, the appropriateness of the current dividend policy against the market environment, and the regular shareholder return policy. Therefore, unless we expect the pandemic to have a permanent impact on corporate dividend policies, we do not see any obstacles to the continued implementation of our investment process and philosophy.
In terms of portfolio activity, our approach remains fairly cautious in the near term, and we are looking to add to select positions gradually over time, rather than materially increasing portfolio beta in anticipation of a sharp recovery. The changed outlook has seen us review our holdings and where necessary adjust our positioning with the broad based nature of the sell-off giving us the opportunity to add to or buy positions in stocks where valuations were previously full. Our preference when adding to names in the current environment would still be to focus on those better quality names, rather than trying to trade the bounce in over-sold cyclicals.
Going forward, the key focus remains that we own companies with sound fundamentals and good management at the helm that are strong enough to navigate such challenging environments and ride out the downturn.
We continue to look for good companies where we can see a strong income case and potential for capital growth.
The fund’s net asset value fell 19.8% over the first quarter, underperforming the MSCI AC Pacific ex Japan Net TR GBP index, which declined 14.3%.
On a country basis, the main reason for the underperformance was both stock picking in and, particularly, underweight exposure to China. This was reflected at an individual stock level where the two largest detractors were not owning Alibaba and Tencent which pay a very low dividend or no dividend and where we believe they are unlikely to grow future dividends materially. Stock selection in Hong Kong also detracted from relative returns. This negative effect was partially offset by better selection in Taiwan.
At the sector level, stock selection was weak notably in communication services, consumer discretionary and financials. In terms of sector allocation, the overweight exposure to real estate and materials and the zero exposure to healthcare also detracted from relative returns. The fund’s cash position benefited relative returns during a period of marked equity market weakness.
|Q1/2015 - Q1/2016||Q1/2016 - Q1/2017||Q1/2017 - Q1/2018||Q1/2018 - Q1/2019||Q1/2019 - Q1/2020|
|Net Asset Value||-1.5||32.8||4.4||5.5||-17.2|
|MSCI AC Pacific ex-Japan Net TR GBP||-8.6||35.8||8.5||3.0||-9.3|
Past Performance is not a guide to future performance and may not be repeated.
The value of investments and the income from them may go down as well as up and investors may not get back the amounts originally invested. Exchange rate changes may cause the value of any overseas investments to rise or fall. Some performance differences between the fund and the index may arise because the fund performance is calculated at a different valuation point from the index.
Source: Morningstar, net income reinvested, net of ongoing charges and portfolio costs and where applicable, performance fees, in GBP.
Past performance is not a guide to future performance and may not be repeated. The value of investments and the income from them may go down as well as up and investors may not get back the amount originally invested.
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