It’s almost midnight on Dec. 21, 2015, but one after another the planes continue to land at Tan Son Nhat International Airport in Ho Chi Minh City, Vietnam, bringing tourists and business professionals from all corners of the globe.
Many of these people have never been to Vietnam before, but all, upon exiting the ultra-modern airport building onto the streets of Ho Chi Minh City, will be overwhelmed or energized by the frenzy of a high-octane metropolis — one that doesn’t ever sleep, and where modernity is rapidly replacing tradition.
Here, glassy skyscrapers tower over colonial villas. Brand-spanking-new BMW X5s and Mazda CX-9s compete for road space with rickshaws and motorbikes, and an ever-growing number of Starbucks-style cafes and fast-food restaurants mushroom alongside sidewalk banh mi (Vietnamese sandwich) stalls.
This is Vietnam in 2016. It is a far cry from the war-weary, Communist nation that many Americans, including advisors and their clients, still believe it to be.
Peter Kohli, founder of DMS Funds in Leesport, Pennsylvania, has never been to Vietnam, but he is one of a growing number of financial advisors who believes that the Southeast Asian nation offers one of the most compelling long-term investment potentials in the emerging markets world.
That belief is not only based on the fact that the Vietnamese government has, over the past few years, taken a number of important, market-oriented steps to attract both foreign direct investment and private funds from overseas. What’s most telling for Kohli is a 2014 survey conducted by the Pew Research Center, in which 95% of the Vietnamese population stated that they favor capitalism over any other economic system. Even in the United States, only 70% of the population favors the free market, according to the survey.
It is still difficult to invest in Vietnam — the only dedicated investment vehicle is Market Vectors’ Vietnam ETF (VNM) — and there are no Vietnamese ADRs. Sector diversification is still limited, but the demand for Vietnamese equities is nevertheless strong and sure to rise once stock market constraints ease, said Edward Kerschner, vice chairman and chief investment strategist at Emerging Global Advisors in New York.
Vietnam, in his view, embodies all the right growth metrics: It has a young population of almost 90 million, most of whom were born long after the war with America; a GDP per capita of close to $2,000, according to the World Bank; and most important, it has become Asia’s new manufacturing hub, taking over the production of low-level goods from China and Thailand, where wages are now much higher.
Consumption and Commodities
In many ways, Vietnam is quintessentially Asian, embodying those growth traits that, for a growing number of investors, make Asia the emerging markets region with the most investment potential.
Although the global downturn that has affected emerging markets over the past few years has had an impact on Asia as well, affecting Asian currencies and sending stock prices down, the region still benefits from many positive drivers and remains the world’s growth engine, said Andrew Gillan, head of Asia ex-Japan Equities and portfolio manager of the Asia Pacific sub-portfolio of the Henderson International Opportunities Fund in Singapore.
Despite slowing headline GDP growth from China, Asian growth remains strong relative to other emerging markets, Gillan said, creating strong investment themes and numerous investment opportunities.
Perhaps the strongest of these themes has to do with global commodity prices.
Of the four major emerging market regions — Asia, Central and Eastern Europe, Middle East and North Africa, and Latin America — Asia has the highest dependence on commodity and commodity-related imports, which makes it extremely susceptible to rising or falling commodity prices.
Since commodity prices have been so depressed (according to the S&P GSCI Total Return Index, the leading measure of global commodity price movements, prices fell by almost 58% from the middle of 2014 to the end of 2015), Asian countries — many of which are commodity importers — and their citizens have benefited enormously, said Rajeev De Mello, head of Asian fixed income at Schroders in Singapore.
“Commodity prices are widely expected to stay low for the coming year as Chinese demand is expected to remain muted and supply has only been adjusting slowly,” De Mello said.
Countries like India, the Philippines and Vietnam (net importers of energy and other commodities) have benefited from low commodity prices, especially lower oil. Other nations like Indonesia and Malaysia (net exporters of both hard commodities and oil) as well as Thailand, Taiwan and South Korea (which export goods and services to China) have felt the sting of depressed global prices, although most of their governments have remained fiscally prudent, De Mello said, with their central banks running a very cautious line to keep economies safe.
Those Asian countries that have suffered on account of depressed commodity prices have tried different measures aimed at boosting economic growth through domestic demand, Kerschner of EGA said, including reducing interest rates to encourage borrowing for consumption — which, in his view, is one of the most important emerging markets investing themes playing out in Asia.
“Asia is home to most of the world’s population, and these people are experiencing rapid increases in income and joining the global middle class at a faster pace than any other region globally,” Kerschner said. “The size of the global middle class is projected to increase from 1.8 billion people in 2009 to 3.2 billion by 2020 and to 4.9 billion by 2030, and 85% of this growth comes from Asia. Global spending by the middle class is projected to grow from $21 trillion in 2009 to $35 trillion by 2020 and $56 trillion by 2030, and again, over 80% of this growth in demand comes from Asia.”
According to Kerschner, the size of the Asian middle classes and the spending power of the Asian consumer — who is keen on everything from goods and services to housing, health care and insurance — has moved from “immaterial to meaningful in the first decade of the 21st century.”
Both the Organization for Economic Cooperation and Development (OECD) and the World Bank have projected that the Asian consumer will dominate global consumption by the end of the first quarter of this century, driven by rapidly growing middle classes in India, China, the Philippines and Vietnam, among others.
For Edmund Harriss, lead manager for London-based Guinness Atkinson’s Asia Focus Fund, rising real wage growth in Asia is the single most important driver for increased consumption by the middle classes. Service industries and higher value-added manufacturing (not only for export but also to serve an increasingly affluent domestic consumer base) underpin the increase in wages, he said, which has resulted in wider economic participation by larger segments of the population.
“The more narrowly based economies of Brazil, of Saudi Arabia, of Turkey and of Russia all have narrower economic participation because the many potential players are not seeing their wealth increase,” Harriss said. “In Asia, this widening participation and growing wealth increases the rate of consumption as well as the velocity of money, and it also fuels cash flow growth.”
As such, Harriss believes that Asia is unique among emerging markets because it has multiple economic drivers from natural resources, “from export manufacturing and from domestic consumption funded by rising real wages over the past 25 years. This makes for a varied investment opportunity including businesses serving these different sectors. The fact that Asian market valuations imply the region is as economically unstable as a single- or possibly dual-driven emerging market makes that opportunity all the more real.”
As Asian companies have become stronger and able to generate greater amounts of cash, an increased number are focusing now on paying dividends (Korea’s Samsung Electronics is a case in point), and Asia today is one of the best dividend-paying regions in the world.
That makes for yet another reason why Asia, particularly when stocks are as cheap as they are, should be an important component of a global investment portfolio, Brian Jacobsen, chief portfolio strategist at Wells Fargo Asset Management, argued.
“From here, it boils down to looking at the fundamentals from a valuation perspective,” Jacobsen said, “and if you think of Asia in terms of long-term growth, then these valuations are attractive because the fundamentals will drive the market over the course of the coming years.”
Sectors such as technology, consumer durables, health care and industrials top the list for Guinness Atkinson’s Harriss. The argument for those sectors’ long-term growth, he said, lies in the burgeoning middle classes and their expanding disposable incomes — incomes that are “the result of rising real wages, the theme that underpins the Asian story from cars and insurance to education, health care and wealth management.”
After all, “if you can identify businesses that do well in these sectors then they are likely to be ‘good’ businesses. A lot of money has flowed into these areas and the stocks have done well. However, to make money in them the stocks must be cheap. We are looking for businesses where the market undervalues the cash flow-generating capacity of a given business.”
Internet, e-commerce and gaming companies also make for good investments, Henderson’s Gillan said, the obvious candidates being China’s Baidu, Tencent and Netease, all of which have experienced significant growth in recent years.
“We believe that IT and its sub-sectors continue to offer structural growth in spite of headline” declines in global growth, he said.
As much as investors should focus on individual company prospects, though, there’s little doubt that strong economics, stable political systems and sound policy also play an important role in supporting the corporate sector. That’s why for Kerschner, the countries with the most investment potential are those with relatively low GDP per capita, large populations, well-developed financial systems, low household debt and stable political regimes. That would include India, Indonesia and the Philippines, which, as a result of the policies of President Benigno Aquino III, has achieved investment-grade status.
These countries are all implementing the right kinds of structural reforms to help their private sectors grow. Estimates for 2016 corporate earnings growth are favorable throughout the emerging markets, Kerschner said, but no country looks as promising as India, which is expected to double the 11.8% returns of the MSCI Emerging Market Index.
“Growth in profit margins is being fueled by the same factors helping the Indian consumer: lower commodity prices, inflation and interest rates,” he said.
Diversity Calls for Caution
Global fund flows and investor sentiment have a significant impact on emerging markets, and despite all the positive changes that have happened in Asia, the region has still suffered from the general lack of interest in emerging markets (see “In a New Asia, No 1997 Replay,” above).
Whether that will change this year remains to be seen, not least because much of Asia is in many ways inextricably linked with China, where growth is still depressed.
Asian countries also vary in terms of economic development, policy stability and growth rates. In addition to mainstream emerging markets like India and China, the region includes frontier markets like Pakistan and Mynamar, Kerschner said, and some countries have foreign ownership limits that can prevent investors from taking up desired positions.
At the same time, though, many Asian countries are also making great strides in policy, transparency and financial sector regulation.
In Kohli’s view, Vietnam is one of these. Those fundamental changes, in tandem with the great opportunities for rapid development in Vietnam, will bring about significant changes in the years to come, and the economy could develop to such an extent that one day, there may be enough sector diversification to create another dedicated Vietnam ETF.
When that day comes, Kohli — whose firm has created indexed funds for India and the Baltic nations — will be ready.
— Read Investors Spooked by China but Not Yet ‘Max Bearish’: Merrill Poll on ThinkAdvisor.