211. Why the structural growth story in Asia is alive and well

15 September 2022 (pre-recorded 8 September 2022)

Below is a transcript of the episode, modified for your reading pleasure. Please check the corresponding audio before quoting in print, as it may contain small errors. Please remember we’ve been discussing individual companies to bring investing to life for you. It’s not a recommendation to buy or sell. The fund may or may not still hold these companies at your time of listening. For more information on the people and ideas in the episode, see the links at the bottom of the post.

[INTRODUCTION] 

Chris Salih (CS): Hello and welcome to the Investing on the go podcast. I’m Chris Salih and today we are joined by Yu Zhang manager of the Elite Rated Matthews Asia ex Japan Dividend fund. Thank for joining us today.

Yu Zhang (YZ): Hi Chris. Thanks for having me.

[INTERVIEW]

CS: It’s no problem at all. You are based in Hong Kong normally, how often does that give you the chance to visit the broader Asia region? And can you tell us something you sort of learned about your recent visit?

YZ: Yes. I actually just recently relocated from San Francisco to Hong Kong since April this year. So, before I was based in the US and normally do a quarterly visit to different marketing in Asia spending anywhere between 8 to 10 weeks throughout the year, seeing different companies. Since April I’m in the region, so hopefully, I will be able to do more extensive visits, assuming quarantine measures in China or in Hong Kong starts to ease a little bit. 

My last trip to the region actually happened in late May, early June. I visited Japan, Thailand, and Vietnam. A couple for major takeaways for me first the reopening in Asia. It is getting quite a bit of a momentum. I think different economies outside of mainland China are starting to learn “how to live with COVID”. So you are seeing companies and the people are starting to come back to their in office and economic activities are starting to recover in a fairly meaningful way. And secondly, despite all the macro uncertainty, whether it’s inflation, US Fed rate hike, actually when you see company on the ground, actually you can see that what we called the structural growth story of Asia still is very much alive. So there are a number of companies I met, you know, in Japan, in Vietnam that can give you that kind of a pretty robust, long term sustainable growth despite the uncertain macro backdrop. So those would be the major takeaways for me from my last trip.

CS: Okay. Let’s quickly turn to the dividend of the fund, could you maybe just explain the sort of levels that we’re talking about and obviously the fund sort of investing in mid and small cap companies that are growing their dividends and is the fund suitable for income investors, or is it more for growth investors that would sort benefit from the reinvesting of dividends? Maybe just talk through the profile of the fund in that sense?

YZ: Yes. I actually like to position this particular ex Japan dividend strategy as one of the core holdings for investors who wants to get the exposure to the structural secular growth story of Asia, but at the same time can still benefit from owning a dividend paying company in terms of the quality and the better corporate governance standards. So when we manage this dividend paying portfolio, we don’t take a pure high dividend yielding approach. Rather we take what we call a total return approach, essentially investing both higher dividend yielding stocks, balanced with faster growing companies, but these growth companies in our portfolio tend to pay a growing dividends as well. So that’s a nice combination we think can give you both the income component as well as the growth optionality by investing in emerging market like Asia.

CS: Obviously when we’re talking about a fund that focusing on Asia, we’d be remiss to sort of not focus on China to some degree, clearly you’ve got some considerable weighting to China and some of the big tech companies in your top 10. Can you talk to us about Chinese growth and do you have any sort of worries about government intervention? Maybe just give us a view on that?

YZ: Yeah, I think concerns on Chinese economic growth has been such a big topic this year, us included. So that’s one of the most debated topics within our own team, looking at our exposure to China. Having said that we also recognise that China is operating well below its potential growth capacity mostly due to its very restrictive zero COVID policy. And it just you know, for your information I’m right now speaking to you from a quarantine hotel in Shenzhen, I just came across broader from Hong Kong to Shenzhen yesterday. And I can tell firsthand that a bustling city of Shenzhen right now is also look very much quiet due to the COVID measures. And from an investment perspective, I think a lot of this uncertainty or the growth headwind China is facing this year actually have already been pretty fully reflected in terms of a very poor investor sentiment, as well as very discounted cheap Chinese equity evaluations.

So that’s why I think from our bottom up start picking standpoint when you have those conditions in place and you actually honing in on companies individual business fundamentals. China today is a very much deep, diversified economy, and while the overall macro environment in China is not the best at the moment, but from a bottom up standpoint, you can still focus on several industries or sectors where we think we’ll continue to enjoy a very strong secular growth tailing, for example, industrial automation, biotechnology, semiconductor manufacturing all these are the areas. I think China is very much focusing sort of supporting its domestic champion, so to speak. So those will be the areas I think, for our exposure in China, trying to find these secular growth stories, given the breadth and the broadness of the Chinese market despite a very uncertain micro backdrop regarding your comment on government intervention.

Obviously what we saw last year, specifically for these internet platform businesses. A lot of the you know, negative for impact already was sort of playing out in a dramatic fashion in the market. At this moment it’s only my personal view. I think actually the peak level of the government intervention targeting these internet platform companies probably have already passed. And at this moment, the key focus for the government is trying to stabilise the economy and for the audience these internet platform companies in China, they are some of the largest employers in the country directly and indirectly, so that we’re employing tens of thousands of workers and including some of these individual small merchants. So the impact on the overall economy is going be really quite significant. And that’s why I think the government at this moment is actually prioritising supporting the growth, not necessarily down on the intervention to these businesses.

CS: Just to follow up on that, do you think the market is fully sort of appreciated that, or do you think some of the valuations still look quite attractive?

YZ: Valuation continue to look very attractive from our standpoint, even from an income or shareholder return policy for the first time you are seeing some of these internet traditionally high gross companies actually starting to pay dividends for the first time or starting to do very significant share buyback programs, mostly due to a very distressed equity valuation they are seeing in the marketplace. I think you know, things are still persisting in slowing down of Chinese economy or uncertainty related to these, you know us listed ADRs. So geopolitical tension, those will continue to drive near term you know volatility on these gross businesses in China. But I think the long term true value embedded in the business are starting to emerge in a meaningful fashion.

CS: OK. I want to turn to Vietnam, which is another area you have some exposure. Could you maybe talk us through why you’re finding so many opportunities in that specific part of the market?

YZ: Yeah, I think actually, if you think China is taking a lot of the building related to COVID related to you know, tense, geopolitical relations Vietnam actually is a sitting squarely on the other side. Not only you know, the country or the economy is reopening in a meaningful fashion, but also it has been one of the major beneficiaries as global companies starting to diversifying their supply chain away from China. 

And if you look at Vietnam today it is operating with a very young population and the labor costs continue to be very competitive at the same time. The government in Vietnam is pursuing a market friendly reform policy. So all this is music to ears for multinational companies. So we are seeing a pretty strong top down you know, positive case for foreign direct investment continues to pull into Vietnam, creating a lot of well paid jobs for Vietnamese workers. And that really creates a very positive backdrop to support the domestic consumption. 

So back to your question we’ve been investing across different sectors in Vietnam including some of the financial businesses, traditional commercial banks, real estate developers modern retailers, as well as a consumer branded companies. All these are very much domestic focused and actually are benefiting at this moment from a rising wage growth and rising household income in Vietnam.

CS: Okay. One of your top 10 holdings recently, IPO’d on the Hong Kong stock exchange. And in fact, I believe it was one the biggest Hong Kong listing of the year. Could you maybe talk us through that a little bit and what Hong Kong listing means for existing investors in these Chinese listed shares?

YZ: Yes, so the company we own actually it is mostly listed in domestic Chinese A Shares market. And this year they decided to do a do listing in Hong Kong stock exchange, I think from an existing Asia shareholder standpoint listing in the Hong Kong market provides two things mostly in my view, one is it is a pretty transparent and open sort of for platform for companies to raise fresh capital to support their business growth. So you will have this constant access to a potential fresh capital to you know sort of provide funding needs to grow the business. So that’s a positive for the corporates. 

And secondly from a shareholder standpoint Hong Kong market is much more dominated by institutional investors then in the domestic Chinese A-Shares market, still retail investors take up majority of the trading activities. So if the company has the opportunity to introduce a new set of a slightly longer term mind, institutional investors into a social holding base, I think actually it will produce a positive sort of outcome over the long period of time. You have a more stable shareholding base versus a more short term sort of day trading mindset type of retail investors. So I think that’s an added the benefit on top of the access to additional capital.

CS: And, and just one other question, in terms of the characteristics of some of the companies you look at, I mean, do you find there are any sort of inherent differences between investing in Asian shares versus say Western markets?

YZ: Yeah, I think actually from a dividend investing point of view the source of dividends coming from Asia is quite more diversified compared to a typical dividend paying businesses in the mature markets. I think probably due to you know, one reason in the case of Asia, you see that many of the growth companies actually they tend to continue to have a very concentrated shareholding structure. In other words, the original founders or the founding families of these fast growing Asian companies and continue to own a meaningful stake when they listed the company and compared to the Western world the equity market tends to be more institutionalised. So the shareholding structure is quite fragmented. You don’t have a single outsized controlling shareholder as much as you what you would have in the Asian context.

And that actually is quite important from a you know, incentive for sort of an argument when it comes to paying dividends because the founders, they own such a large stake in these even fast growing Asian companies. These founders are the founding family. They will have their own incentive in terms of extracting cash from the listed entity to me, their own financial needs and putting in place a development policy. Despite the business itself still is growing pretty nicely, but founders always have their own financial needs. So dividend actually served that purpose pretty well, and also it is one of the measures that you stay clear from you know, potential corporate governance you know sort of red flags because when it comes to receiving dividends depending how much you own in the business, whether you are a majority, whether you’re a minority, you always get your fair share.

So we, as a public investor, we definitely prefer a dividend payment versus other create creative, connected party transactions in terms of extracting cash from the companies. So that, to a certain extent you will see that in Asia, many of the fast growing sectors, for example, healthcare, technology, consumer brand businesses because of the dynamic we just discussed on the shareholding structure a lot of the growth companies within these growth gross industries, growth sectors are also paying dividends along the way. And that makes the whole portfolio for the Asia dividend portfolio is a much more diversified and actually quite more interesting versus a typical, more mature business that you tend to find in the Western market.

CS: Okay. And you also invest in a company that makes synthetic diamonds. That sounds quite interesting, but I mean, one are engagement rings going to be cheaper in the future and are there just going to be completely synthetic [in the future]?

YZ: Yeah, it’s a very good example your catch. Actually at this moment for this particular company the end demand is mostly coming from a more developed part of the market. As you may see in both Europe, as well as in United States especially within the younger consumer generation they are starting to prefer synthetic or lab grown diamonds over natural diamonds for no other reasons than a better ESG considerations. You may have heard the term blood diamond. So I think that is starting to creep into young consumers mind when they trying to pick where and how they’re going to spend their money. So this particular company in the portfolio I think fortunately has positioned itself pretty well with this growing emerging trend. So we continue to like that stock.

CS: Okay. And just lastly, how do you look at sustainability when you are considering investments for the portfolio?

YZ: Yeah, we really actually incorporate sustainability into our bottom up stock picking analysis. We think sustainability or ESG analysis is just a part of the total package when we trying to understand better the entire, the company’s overall business model and all these factors surrounding environmental, social and governance will to different degrees affect the company’s ability to grow itself and also affect its ability to deliver sustainable earnings. And earnings growths usually is the most focused area for investors. And we just think ESG or sustainability is part of the total analysis you have to include in today’s world. So that is a full sort of integration you know, including sustainability into our fundamental research process.

CS: Thank you very much for joining us today.

YZ: Thank you, Chris.

CS: And if you’d like to learn more about the Matthews Asia ex Japan Dividend fund, please visit fundcalibere.com. And while you’re there remember to subscribe to the Investing on the go podcast.

Please remember, we’ve been discussing individual companies to bring investing to life for you. It’s not a recommendation to buy or sell. The fund may or may not still hold these companies at the time of listening. Elite Ratings are based on FundCalibre’s research methodology and are the opinion of FundCalibre’s research team only.