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Asia market views

19/jun/2017
By BlackRock

Key takeaways

  • Chinese reform fuels coal and steel sectors
  • Global political fears subsiding
  • Markets await MSCI’s A-share decision

Explore our views in more detail

 


Asian equities were flat in the past two weeks on slowing foreign inflows as risk appetite has reduced. We continue to see a divergence in performance within the market where tech and momentum continues to outperform while energy and value lagged.

Commodities enjoy strong earnings upgrades

A compelling earnings story continues to power Asian equities. Earnings are still being revised upwards in Asia driven by better supply discipline, with the most evident in China through its supply-side reform in the coal and steel industries.

Prices of both commodities have strengthened in recent quarters driven more by structural reform rather than a short-term dip in demand. Steel demand, for example, has remained relatively strong at 5% year-on-year growth, while we continue to see steady capacity shutdown with supply slowing to low single digit year-over-year growth.

Consequently, we have started to see earnings recover after seven years of stagnation with especially marked upgrades in sectors such as energy and materials.

USD strength may not pose EM risk after all

Aside from strong earnings momentum, Asia has proven resilient to a combination of worries built around the threats from a strong US dollar, rising US interest rates, rising trade protectionism and political instability, such as we are seeing in North Korea.

Gradually, many of these fears have dissipated or proven not to be as significant as initially perceived. For instance, investors tend to overlook the fact that US rates rising is actually a good indicator of growth picking up and that is positive for emerging markets.

Similarly, a stronger US dollar has traditionally been bad for emerging market equities. However, there have been times when markets and the US dollar have been positively correlated, which is what we are seeing currently. If the relationship holds, US dollar need not be the risk to emerging markets. This is in part due to stronger current account positions, greater flexibility on the exchange rate, reduced capex and lower net debt.

Concerns over trade protectionism have gradually ebbed as the US realises that a confrontational approach to trade issues is not in its best interests. Finally, political scandals in Korea have been maturely dealt with giving investors comfort that institutional strength is growing in Asia.

The first throes of long-term recovery

Lastly, despite over 20% year-to-date returns (to end May 2017), valuations on Asian equities remain attractive and below their 10 and 30-year price-to-book average. Moreover, our region still remains a consensus underweight among investors. Therefore, in our view, the asset class still has a lot of room to rise and is only at the start of a long-term recovery phase. While progress may be bumpy, there are many reasons to embrace Asia and emerging markets currently.

MSCI poised to list A-shares

Locally, MSCI will announce whether China A-shares will be included in their indices on June 20. The $6.8trn onshore market is the world’s second-largest and accounts for 9% of global stock value, but has been rejected for index inclusion three times by MSCI over issues including capital controls and long trading halts.

If included, this would represent a significant step in opening China’s equity markets to foreign investment and to aligning the weight of China in global indices with the country’s emerging status as an economic superpower. While the immediate market impact may be muted, the long-term investor implications are likely to be far-reaching.

We do not expect the inclusion announcement to trigger a change in A-share allocation in our funds across the emerging market and Asian equity platform. Most of our funds in these fund ranges have already obtained capability to invest into China A-shares via Stock Connect and P-notes.

However we are keeping our A-share exposure minimal across our funds on the belief offshore China equities offer better value right now. At the end of May our A-share exposure was only around 3% in the core regional strategy, with positions strategically allocated based on bottom-up stock selection, favouring different types of exposures unavailable in the China offshore equity market.

Country views by BlackRock Asian Fundamental Equity Team

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