251. Australia has outperformed China… surprised?

20 April 2023 (pre-recorded 19 April 2023)

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]

Staci West (SW): Welcome back to the ‘Investing on the go’ podcast brought to you by FundCalibre. Today we’re talking about all things – and countries – Asia. Today’s interview looks at why Australia and India could be the best developed and emerging markets respectively for investors, and gives three key benefits to allocating to the region. 

Chris Salih (CS): I’m Chris Salih, and today we’re joined by Jason Pidcock, manager of the Elite Rated Jupiter Asian Income fund. Jason, once again, thank you for joining us.

Jason Pidcock (JC): Hi, Chris. Thank you for having me. 

[INTERVIEW]

CS: Let’s start with China, it seems a logical place. You obviously came out in July last year with your view on China, which I’ll ask you to explain in a moment in terms of the zero weighting. You’ve also sort of hinted that you’re unlikely to invest again as long as Xi Jingping is in charge. Maybe just tell us why that is and, you know, now his term’s been renewed, is there anything that might shift your view in terms of what’s happening there? Or do you feel it’s sort of just too much of a risk?

JP: There are so many other countries in the region that have exciting investment opportunities where we’re comfortable with the political system, and we like the businesses themselves, some of whom sell their goods and services into China, so, we don’t feel the need to invest directly in mainland Chinese companies. And we’re likely to keep that weighting at zero for some time. 

We’re uncomfortable with the political system of China. It is, of course, a communist dictatorship that doesn’t have the type of rule of law that we recognise. It doesn’t have an independent judiciary. It seems that it has become a bit more repressive domestically, and of course, geopolitically, tensions between the West and China have increased and that may worsen. So, we just don’t see the need to go there. 

We’re very comfortable with many of the other countries in the region. We like Australia, India, Taiwan, Singapore, South Korea and we have a couple of investments elsewhere in Southeast Asia. So, there’s no shortage of countries in the region that harbour companies where we think the growth outlook is good, they’ve got strong balance sheets, they’ve got good business models and where they can see a wider marketplace than just the country they’re domiciled in.

CS: Okay. Does the breadth of opportunity come into the sort of mindset then in ie you know, maybe, 10 years ago perhaps, you couldn’t say “ignore China” perhaps as you are now? And the second part of the question would be, you know, are there any factors that would tempt you back in? I mean, if valuations became so attractive that you just couldn’t ignore them, is that possible? Maybe just touch on that as well, please.

JP: Well, the first part of your question, with hindsight, I wish I’d had less invested in China over the last decade. <Laugh> Chinese equities, really, they’ve been serial underperformers and they’ve performed very bad, compared to the higher GDP growth rate of China which has, of course, done better than many other countries. So, it just goes to show, you shouldn’t invest in GDP numbers – they often don’t translate. And we’ve seen much better returns in many of the other markets in the region. And Australia, again, is one place that often surprises people just how well it’s done. And I think since the year 1900, it’s been the best equity market in the world, just eclipsing that of the US. But in the last 30 years – I’ve been investing in this region for 30 years – since I started, Australia has massively outperformed China, as it has done over the last five years.

In terms of whether we may go back into China, it’s highly unlikely, even if valuations become supposedly more attractive, because you don’t want to get trapped just by a low valuation if there’s a risk that things can change and become worse. There is, of course, some correlation between stocks across the region, and if some kind of event happened which lowered valuations everywhere, then, just because China has become cheaper, it may not be relatively more attractive to other markets that may also have become cheaper. So, we don’t feel uncomfortable with the zero weighting in China. It doesn’t make us feel nervous or exposed. And so, the idea that we may have to go back in, just because it becomes a bit cheaper, is not something we’re worried about.

CS: Ok. You mentioned Australia there and best performer since 1900. I mean, let’s take it from today. I mean, I’ve seen before people saying that it’s almost appeared recession-proof in a way, Australia. I mean, you’ve got about a third of the fund in those companies. What do you specifically like about them as we speak at the moment?

JP: One reason why Australia has avoided recessions when there have been cycles where many other countries have seen recessions over the last few decades, is that even when GDP per capita takes a dip, the GDP rate for the country as a whole has still often gone up, because of the demographics of Australia. 

Australia has one of the fastest growing populations in the world – in percentage terms, Australia’s population has grown faster than that of India. There was a pause during the Covid period, but they’ve opened up again, I think in the last 12 months, something like 650,000 people have emigrated to Australia. And that’s on a population of about 25 million. So, it makes quite a big difference. And Australia, they’re quite fussy in terms of who they allow in. And broadly, it’s people that are highly skilled and/or are already quite wealthy. So, by and large, it’s people who can turn up and contribute positively to the economy from day one. So, that’s quite different from population growth because of a higher birth rate, where you have to wait 20 years or so from someone being born to being able to contribute to the economy. So, that has made quite a difference. 

Australia is a land of professionally managed, private companies. You will struggle to find a state-owned enterprise listed in Australia and it is like a small version of the US. So, it’s a federalised democracy; it’s a fully functioning democracy. And it has a lot of first, second, third generation immigrants – people who are very industrious, very ambitious, want to get on, want to improve themselves. And they have a political system that allows them to do that freely. Unemployment is very low. Government debt to GDP in Australia is low by developed world standards. Australia retains a triple-A sovereign credit rating. And we find a lot of companies, a lot of businesses there that, well, most of them, are very concerned about shareholder returns. And they do manage the balance sheet effectively, and they do have attractive dividend yields. So, as you say, we’ve got roughly a third of the portfolio in Australia. We’ve got ten of our 30 holdings are Australian businesses, and they’re spread between companies that give us exposure to domestic demand in Australia, regional demand, and global demand. So, we do have a mixture of different companies in Australia. It’s not that we are only investing in one or two different sectors, we have quite broad exposure.

CS: Just quickly before we move on; in terms of that search for domestic, regional, and global demand. Is that something you look for across the portfolio?

JP: Not necessarily. So, there are some countries where we’re really more focused on domestic consumption, and that would include countries like India and Indonesia. And there are some countries where we favour the exporters, because they have a particular competitive advantage in a certain sector. So, in Taiwan, for example, all three companies that we invest in there, the bulk of their earnings are from outside of Taiwan. They’re global exporters. So, Taiwan and India, Indonesia, [are] very, very different. Somewhere like Singapore, South Korea, Australia, are kind of in between, they have both. 

CS: Let’s go a bit deeper on India, because you mentioned it. There, obviously, you’ve got some sort of chunky weighting to Indian companies, and they are perhaps not necessarily synonymous with dividends, maybe more with growth. But is that culture changing? Or are you trying to sort of get in on the ground floor of those dividends, given some of the stability and some of the traits associated with India that perhaps other emerging markets don’t have?

JP: You are right, in that India is often not associated with dividend yields. And it does have a relatively low yield compared to other markets in the region, and that’s partly because the dividend payout ratio is lower, and partly because valuations are higher than elsewhere. So, the average yield or the market yield in India, is about 1.5%. The yield that we are achieving from the stocks we own is about 3%. So, we are getting double the market yield, but that’s still quite a lot lower than the 10-year government bond yield in India, which is over 7%. And, from a value point of view, we compare dividend yields to the risk-free rate or the 10-year government bond yield. That and P/E are our two favourite methods of valuing businesses. So, it is important that we’re getting dividend growth, to make up for the fact that the equity yield is lower than that risk-free bond yield. So far, we have; so far, we’ve been able to invest in companies that have been growing their dividends. We’ve got a nice blend, it does blend the whole portfolio. 

And the way we look at it is that the portfolio as a whole has to yield 20% more than the regional benchmark. And that will be made up of companies with lower yields where dividend growth is faster, and some companies with higher yields, where naturally it’s reasonable to accept that the growth will be lower. But our mini-Indian portfolio has done very well; we’ve outperformed the Indian benchmark for some time now. In fact, our best performing stock in the last 18 months has been our largest holding in India, which is the largest holding in the portfolio, a company called ITC [Limited], which is gives us exposure to broad-based … the exposure to consumption in India … [CS: Which is obviously the biggest story.] Yes, that’s right. So yeah, we’ve got about 17% in India. If you add that to our weighting in Australia, then just over 50% of the fund is in those two markets, and we see them as the best developing market in the region, India, and the best developed market in the region, Australia.

CS: Okay. Just in terms of sort of dividends potentially being a more important part of total returns going forward, as growth [becomes] more muted, is that the case in Asia? I mean, obviously we’ve got a sort of, you know, developed market like the UK in terms of dividends, maybe is it all about the growth story in terms of dividend growth in Asia, if you see what I’m saying?

JP: Yeah, it is a combination of the two. So, the portfolio’s yielding roughly four and half percent at the moment. Since we launched the fund back in March 2006, the yield has been just under 50% of total return, by growth has accounted for a bit over 50%. But there have been periods where the yield has been the bulk of the return. And obviously if you have a year when the market or the fund goes down, then of course, the yield plays a very important part. Over the long term, who knows? Maybe it will be 50 / 50, I’m not predicting anything. And we are not obsessed about that, thinking what proportion of the total return will it be? But what we’re trying to do, is make sure the fund has an attractive yield today and that there is a genuine growth story and that we know where those dividend increases will come from i.e. off the back of earnings growth, as opposed to companies ratchetting up the payout ratio to unsustainable levels.

CS: <Affirmative> Obviously the fund has a bias towards large cap names. Could you maybe explain why and what makes them more appealing?

JP: Yes. So, as I say, I’ve been investing in the region for 30 years now. And I used to invest in small and mid-cap stocks, but a number of years ago I realised that I wasn’t particularly good at that! I realised that the attribution – over periods when my fund did well – it was the large cap stocks that really made the difference. And so, when we launched the Asian Income fund at Jupiter in March 2016, we cut out … I stopped investing in mid-cap stocks that I had invested in previously, at my previous firm. So, we set a minimum size of 3 billion US dollars, but actually the vast bulk of the portfolio is in companies with a market cap of over 10 billion dollars. And at that level, you tend to find much better liquidity in companies. And so, if you do change your mind, you’re able to get out relatively quickly. Companies tend to be better researched, they tend to give out more information to investors. You tend to be able to meet management more frequently. But most importantly, it’s not a barrier to further growth. Just because a company has a market cap of even 50 billion dollars, if the potential market cap is a trillion dollars, then you’ve got 20-fold to go. And we’ve seen a number of companies in the US reach and exceed that trillion-dollar level. So, what really matters is the total addressable market of a business, its market share and its margins. And we actually like companies that have already proven themselves. We don’t mind the fact that we may have missed the first few years of high growth, because we’re always looking ahead. And so, it’s sustainable growth that matters to us.

CS: Just before, just in terms of the opportunity, I mean, you’ve mentioned that you’ve been looking at this asset class for 30 years, maybe let’s talk in the past, say 10, 15 years – just how much wider is the landscape in terms of, you know, the large cap names that are offering these dividends, have the liquidity now versus 10 years ago? Is the breadth of opportunity that much greater?

JP: It is greater than 10 years ago. I would say the period where there was the biggest difference was between the mid-nineties and the mid-two thousands ie. ‘95 to 2005, there was a huge sea change. Since then, it’s been more incremental improvement. So, new companies listing, existing companies maturing and raising the dividends, but still offering a pathway to growth. We tend to not invest in IPOs very often. I think there’s only one stock in the portfolio that we invested at an IPO in this fund. But you know, more and more companies over time come to the market and then we follow them, and then, some of them end up in the portfolio eventually. On the flip side, there’s M&A, which takes some of the companies out of the market.

We have one company in our fund of the moment, Newcrest Mining [Ltd], which has been bid for by Newmont [Corp] of the US. They’re both gold miners. Now, it may well be that we remain invested because it’s a scrip offer*, but we haven’t decided. So yes, markets evolve, economies evolve and the way that we feel the portfolio should be structured over time, that evolves, but we certainly try and keep the process and the key characteristics as consistent as is reasonable.

[* In Australia, a scrip bid is a takeover offer where shares are offered partly or wholly in place of cash. This means that, if a takeover bid is accepted, shareholders in the target company will receive shares in the new merged entity.]

CS: And I just want to finish because it is really all about the companies in general here. Maybe just talk us through a couple of examples of holdings you have, maybe one that demonstrates that regional growth that you’re seeing, and then maybe one that’s more of a, you know, a global player. Perhaps a couple of examples that stand out for you in the portfolio at the moment.

JP: Well, over the last few years, DBS [Bank Limited], which is a Singaporean-based bank, has done a very good job of expanding around the region. And it’s certainly an Asian regional bank, as opposed to a global bank. And we like that. So, it’s expanded, sometimes organically and sometimes via acquisition, in countries like Taiwan, India and now, really, it covers more or less the whole region, apart from Australia, where we get exposure separately. It doesn’t actually have much in South Korea, but again, we have a separate holding there. They have grown very well. They have good commitment to dividends, and they have an attractive yield. Now, I’m not saying today is the best time to buy it and our weighting has come down a bit recently, but we continue to believe it’s a good long-term story, and it has worked well over the last few years. So, that’s a regional stock. 

In terms of global, the standard answer would be one of the big tech companies because Asia does tech, especially on the hardware side, very, very well. And, I suppose, if other people were answering your question, they’d probably jump to TSMC [Taiwan Semiconductor Manufacturing Company Limited] or Samsung Electronics [Co., Ltd.], but I won’t do that because that might be a bit boring!

So, I’m going to pick Macquarie Group [Limited] in Australia. It’s another financials business, but Macquarie is different from a lot of other financial companies in that it is the world’s largest manager of green infrastructure assets for other pools of passive capital. But Macquarie have the expertise of managing these assets, largely via closed funds. So, it’s an asset manager in a real asset sense. It is an investment manager – it does have an orthodox investment management business. It’s got an investment bank. And in Australia itself, it’s got a conventional commercial bank which offers mortgages, etc. But roughly a third of its earnings come from North America, about 30% come from Europe, close to 30% in Australia. And then the rest in Asia, outside of Australia. So, it does have a true global presence now, and again, over the long term it’s done very well, and we think the next 10 years look exciting too.

CS: Okay. And I just wanted to quickly close, I mean, so obviously we’ve seen income rise in the UK and in other parts of the world and at the end of last year. I mean, just lastly, for investors, what would be your message to them in terms of the benefits of Asian income as an alternative to UK and some of the home markets?

JP: Well, it gives you the ability to diversify your source of income and your currency exposure. But also, mostly importantly, to invest in a region that typically is growing faster than other parts of the world. So, it gives you that three-way diversification. Over the long term, [the fund] has done well against most UK funds – particularly UK income funds – and indeed, against global income funds. So, we feel we know what we’re doing. And we’re happy with the performance numbers. There are, of course, risks in this region, as there are all around the world, but we tend to focus on the more developed markets. You know, we have quite a chunk of the portfolio in places like Australia, Singapore, Taiwan, South Korea. And the fund has a beta which is less than one. And typically again, looking backwards, it has typically done better relatively well, when markets have fallen, it’s had a lower drawdown – so, it has been more defensive when markets have gone backwards. 

CS: And corporate governance has improved quite a lot across the region as well?

JP: Yes. Over time, I’d say that that has improved. Again, particularly amongst the larger companies, corporate governance generally is pretty good.

CS: Okay. That’s great. Jason, thank you once again for joining us and talking to us about all things Asian income.

JP: Thank you, Chris.

SW: The Jupiter Asian Income fund’s higher developed market holdings, notably in Australia, as well as its income mandate, make it a relatively defensive Asia Pacific option. Long-term UK investors looking for exposure to the region’s enticing demographics, both now and into the future, may find the focus on dividend yield and dividend growth opportunities particularly attractive. For more information on the Jupiter Asian Income fund, visit fundcalibre.com – and don’t forget to subscribe to the ‘Investing on the go’ podcast, available wherever you get your podcasts.