Liontrust Asia Income Fund

Q4 2018 review

Summary

 

  • Our increase in exposure to exporters in the third quarter boosted the Fund’s relative return this quarter, with much of the outperformance coming from Taiwan.

 

  •  We continue to believe the short-term impact of trade tariffs will be smaller than many investors fear, while the longer-term effects will be mostly indirect, e.g. higher corporate investment into South-East Asia

 

  • Weak economic growth may lead to further market volatility at the start of this year but cheap valuations, low oil prices and the likelihood of fewer US rate rises gives us cause for optimism on Asian equities.

 

Performance

Q4

2018

Since launch

Liontrust Asia Income Fund, institutional class

-4.0%

-8.3%

70.1%

MSCI AC Asia Pacific ex-Japan Index

-6.7%

-8.6%

62.3%

MSCI AC Asia ex-Japan Index

-6.5%

-9.1%

66.1%

 

Source: Financial Express, as at 31.12.18, total return (net of fees and income reinvested), bid-to-bid. Fund launched on 05.03.12.

 

The second half of last year was dominated by international politics and, more importantly, investors’ perceptions of their likely impact. In the third quarter this harmed our performance: all risk assets seemed to be hit as there was a general ‘risk off’ feel to market movements. The sell-off deepened in October with Asian markets registering their 2018 lows in US dollar terms on 30 October. They then recovered from that point through to the end of the year, despite a late December dip.

Although a G20 summit meeting between Trump and Xi Jinping gave the impression of positive developments in the trade saga, little changed in terms of overall rhetoric. They did agree a 90 day suspension of the tariff hike from 10% to 25% that the US had planned for 1 January, but while Trump announced a Chinese commitment to purchase more US cars, this didn’t seem to match China’s recollection of the meeting.

Much of the Fund’s fourth quarter outperformance came from Taiwan, where we had added to existing holdings over the previous quarter as, to our minds, their shares had discounted an overly pessimistic outcome to the US-China trade tensions. As outlined in our third quarter review, we modelled the share price impact of 25% tariffs on all China-to-US exports assuming the exporter absorbed all the costs. We found that equity market weakness had served to already factor in this bearish scenario for a number of stocks.

Our view is that the full 25% tariffs remain unlikely to be implemented and, even if they are, most companies would be able to avoid or pass on at least some of the costs. Part of production could be completed in other countries – our investments already tend to have manufacturing bases outside of China, and only a proportion of work has to be completed in a third country to claim a product is local not Chinese. A further part of the cost might be passed on to purchasers, as initially there will not be sufficient capacity elsewhere, particularly in complex supply chains such as technology, meaning that US importers are tied to their suppliers. In addition, the Chinese government is likely to implement measures to alleviate matters further, such as allowing the currency to weaken or giving further export tax rebates.

While the short-term impact should be limited by these factors, the longer-term effects will be primarily indirect. Most significantly, we think there will be shift in investment as companies ensure they have sufficient capacity outside of China. This will apply to both developed world and Asian manufacturers, and is already happening locally. Few company executives have any strong opinion whether trade wars will escalate further or subside, but they all understand they need to prepare themselves for a global trade order that may be different from recent history.

While we are not finding many companies who want to move their current facilities out of China, many are seeking to shift future investment to other countries. The biggest beneficiaries appear to be the South East Asian nations, where decent infrastructure and a well-trained workforce make any transition less painful. The imposition of tariffs seems to have been more of a catalyst to an event that many were already envisaging rather than forcing a sudden shift in tactics. We have spoken to one company that is looking to re-open Philippine facilities which were last operational 14 years ago, and from others it seems that Vietnam is likely to be one of the biggest beneficiaries of the process.

Such additional investment may negatively impact margins, but again it should be more manageable than the June to October equity market rout implied.

Bringing our focus back to the near term, we think that conditions are currently pointing towards a very uncertain start to 2019.

The world is seeing an economic slowdown: the Eurozone is struggling to maintain growth, last year’s American stimulus from tax cuts has worn off, and Asia is currently experiencing weak data. We believe further disappointing numbers are possible in the first half of 2019 as a result of some pre-emptive buying in 2018 ahead of tariffs being added. This means that last year’s sales will have been higher than needed, and this year demand may fall as the excess inventory is used up. Obviously this is hard to predict, but it is a risk. There is also likely to be disappointment in the technology sector as mobile phone sales and computers are currently weak.

While these uncertainties may cause some market volatility early in the year, there are some positives which serve to improve the 2019 investment outlook.

The first of these is valuation. 2018 was a horrible year for equities globally, with markets falling 9% in US dollar terms (MSCI World Index), and Asia falling hardest and fastest – the MSCI Asia ex-Japan had dropped by more than 18% at its 30 October low. At this point valuations were 11x forward price/earnings, or 1.5x historical price-to-book, approaching one standard deviation below the average.. Although Asian markets have recovered somewhat since that low, valuations still look attractive as we start 2019.

The second positive is a lower oil price. Asia will benefit as all the major economies bar Malaysia are oil importers.

The third and final point is that there is a diminishing likelihood of ongoing interest rate rises from the US. This will most directly impact the current account deficit countries of India and Indonesia, where international funding became a significant issue in 2018 as the dollar strengthened. This was most obvious through the collapse of Infrastructure Leasing & Financial Services (ILFS) in India, which we discussed in detail in the previous quarterly review.

As these positive factors play out, there should be – at least relatively – a more supportive environment for Asian equities.

Lastly, in addition to the AMP sale we communicated earlier in the quarter, we made a few further portfolio changes in December. We sold Feng Tay in Taiwan, which had proved very resilient to the slowdown as it benefitted from good shoe sales at Nike, a major partner. We believe the stock is currently too expensive. We also disposed of ANZ, the Australian bank, as Australia’s leveraged property market may cause loan issues, and the ongoing royal commission might further impact the country’s financials. We also added slightly to our existing Taiwanese and Korean positions.

Discrete years' performance (%), to previous quarter-end:

 

 

Dec-18

Dec-17

Dec-16

Dec-15

Dec-14

Liontrust Asia Income I Inc

-8.3

16.7

33.3

-3.3

7.3

IA Asia Pacific Ex Japan

-9.8

25.3

25.7

-3.3

9.5

IA Asia Pacific Excluding Japan

-9.8

25.3

25.7

-3.3

9.5

 

Source: Financial Express, as at 31.12.18, total return (net of fees and income reinvested), bid-to-bid, institutional class.

 

For a comprehensive list of common financial words and terms, see our glossary here.

 

 

Key Risks

 

Past performance is not a guide to future performance. Do remember that the value of an investment and the income generated from them can fall as well as rise and is not guaranteed, therefore, you may not get back the amount originally invested and potentially risk total loss of capital. Investment in Funds managed by the Asia team involves foreign currencies and may be subject to fluctuations in value due to movements in exchange rates. The Fund’s expenses are charged to capital. This has the effect of increasing dividends while constraining capital appreciation. 

 

Disclaimer

 

The information and opinions provided should not be construed as advice for investment in any product or security mentioned, an offer to buy or sell units/shares of Funds mentioned, or a solicitation to purchase securities in any company or investment product. Always research your own investments and (if you are not a professional or a financial adviser) consult suitability with a regulated financial adviser before investing.

Sunday, January 20, 2019, 8:00 PM