Mid-point review: Are there still opportunities for growth in Asia?

After a strong first half, we assess earnings, quality and valuation characteristics for the region

Mid-point review: Are there still opportunities for growth in Asia?

The first half of the year saw strong performances across Asia. The MSCI Asia ex-Japan Index gained 18% (the fifth-highest first-half performance in the index’s 30-year lifespan), and Japan grew 14%, as measured by the MSCI All Country World Index ex-US Growth benchmark.1 What does such strong absolute performance mean for our team’s regional outlook? Below, the Invesco International and Global Growth team assesses the Asian landscape through our earnings, quality and valuation (EQV) lens, which we believe can reward investors over the long term.

Asia ex-Japan: Still room for opportunity

Earnings. In the first half, earnings-per-share revisions for Asia-ex Japan proved to be strongest within emerging markets, suggesting that the stock performance we saw was more related to corporate earnings revisions than simple multiple re-ratings.

Quality. We also saw free cash flow margins in Asia ex-Japan continue to rise (back to the all-time high set in 2005), with companies using cash to repay debt or increase dividends to shareholders — both of which ultimately benefit company shareholders. It’s important to note, however, that we continue to find that high-quality names generally do not look mispriced at this time.

Valuation. Although Asia ex-Japan is not as attractive as it was at the end of 2016, the region is still trading at a lower valuation than its historical average. As of June 30, 2017, the forward price-to-book ratio (P/B) ratio was at 1.6x.2 That’s still half a standard deviation below the post-1987 average, and well below the market peak of over 3x P/B.2

Japan: EQV characteristics look less compelling

Despite the strong absolute performance out of Japan, it underperformed the region as a whole in the first half.

Earnings. From a big-picture earnings perspective, we are sensitive to the corporate governance changes we have seen in Japan. On the other hand, while still low from a global perspective, the Tokyo Stock Exchange Tokyo Price Index dividend payout ratio is now 30%, up from 17% in 2004.3

Quality. The biggest hurdle we see in Japan continues to be the market’s lack of quality. As of June 30, 2017, return on equity for the previous 12 months was 9%, the highest it had been since before the global financial crisis.4 However, 9% compares very poorly with Invesco International Growth Fund’s five-year average return on equity of greater than 20%.5

Valuation. What’s more, Japan does not look compelling from a valuation perspective, with the MSCI Japan Index’s free cash flow yield below its 10-year average, hitting 4.1% as of July 12, 2017.6 Given the market’s lack of quality, we did not add any new names in Japan in the second quarter, and ended the quarter underweight in Japan versus the benchmark, in our flagship international equity fund, Invesco International Growth Fund.

Where do we see opportunities?

Of course, what’s most important for investors is seeing just how our EQV process could translate into key opportunities for growth. To that end, we identified several opportunities in the last quarter, adding three new names to Invesco Asia Pacific Growth Fund.

Trade Me Group, New Zealand’s largest online marketplace, earns high returns on capital due to its strong market positions in categories like used goods, online auto sales, online real estate and online jobs. Its business model affords negative working capital and no inventory risk. Additionally, the company currently pays out over 80% of earnings as dividends.7

As Australia’s largest outsourced fund administrative service provider, Link Administration Group Holdings is a quality company that enjoys strong-to-dominant market positions in fund administration. The company benefits from high levels of recurring income, as well as annual inflation and wage growth price increases for its main business. A recent UK acquisition provides significant cost out and synergy opportunities.8

Finally, Inner Mongolia Yili Industrial Group is the largest dairy products company in China. It is a beneficiary of the structural growth in per capita consumption and the premiumization of the Chinese dairy market. This is a highly return-generative business run by a strong and stable management team, in our view.9

1 Source: Goldman Sachs, July 3, 2017. Data as of June 30, 2017.

2 Source: Citi Research as of June 30, 2017. Asia ex Japan represented by MSCI Asia ex Japan Index.

3 Source: CLSA as of June 30, 2017

4 Source: Bloomberg, L.P. as of June 30, 2017. Proxy for Japan is MSCI Japan Index.

5 Sources: StyleADVISOR, Invesco, Compustat, Thomson Financial, MSCI

6 Source: FactSet Research Systems, MSCI as of July 12, 2017

7 Trade Me Group comprises 0.00% of Invesco International Growth Fund and 0.71% of Invesco Asia Pacific Growth Fund as of June 30, 2017.

8 Link Administration Group comprises 0.00% of Invesco International Growth Fund and 0.61% of Invesco Asia Pacific Growth Fund as of June 30, 2017.

9 Inner Mongolia Yili Industrial Group comprises 0.00% of Invesco International Growth Fund and 1.07% of Invesco Asia Pacific Growth Fund as of June 30, 2017.

Important information

Blog header image: Patrick Foto/Shutterstock.com

Price-to-book (P/B) ratio is calculated by dividing the market price of a stock by the book value per share.

Standard deviation measures a portfolio’s or index’s range of total returns in comparison to the mean.

Return on equity (ROE) is a measure of profitability, calculated as net income as a percentage of shareholders’ equity.

Free cash flow yield is a method of calculating a company’s value by dividing free cash flow by enterprise value.

The MSCI All Country Asia Pacific ex-Japan Index is an unmanaged index considered representative of Pacific region stocks, excluding Japan.

The MSCI All Country World Index is an unmanaged index considered representative of large- and mid-cap stocks across developed and emerging markets, excluding the US.

The MSCI Japan Index measures the performance of the large- and mid-cap segments of the Japanese market.

Invesco Asia Pacific Growth Fund and Invesco International Growth Fund risks

Derivatives may be more volatile and less liquid than traditional investments and are subject to market, interest rate, credit, leverage, counterparty and management risks. An investment in a derivative could lose more than the cash amount invested.

The risks of investing in securities of foreign issuers, including emerging market issuers, can include fluctuations in foreign currencies, political and economic instability, and foreign taxation issues.

Growth stocks tend to be more sensitive to changes in their earnings and can be more volatile.

Stocks of medium-sized companies tend to be more vulnerable to adverse developments, may be more volatile, and may be illiquid or restricted as to resale.

Stocks of small and mid-sized companies tend to be more vulnerable to adverse developments, may be more volatile, and may be illiquid or restricted as to resale.

The performance of an investment concentrated in issuers of a certain region or country is expected to be closely tied to conditions within that region and to be more volatile than more geographically diversified investments.

The funds are subject to certain other risks. Please see the current prospectus for more information regarding the risks associated with an investment in the funds.

Mark Jason, CFA
Senior Portfolio Manager

Mark Jason is a Senior Portfolio Manager with the Invesco International and Global Growth team, focusing on large- and mid-cap equities in Asia Pacific and Latin America. Mr. Jason is a co-manager of the Invesco International Growth, Invesco Asia Pacific Growth, Invesco Developing Markets and Invesco Global Growth strategies.

Mr. Jason joined Invesco in 2001 as a senior equities analyst on the International and Global Growth team and was promoted to portfolio manager in 2007. He assumed his current role in 2015. He began his investment management career in 1998 as a sell-side research analyst specializing in Latin American securities with Merrill Lynch in Santiago, Chile.

A native of Los Angeles, California, Mr. Jason earned a BS degree in finance/real estate from California State University at Northridge. He is a CFA charterholder.

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