We believe Chinese equities’ earnings growth is likely to be in single digits in 2019. P/E will be driven by sentiment - if sentiment turns from “very negative” to “less negative”, it could be enough for Chinese equity P/E to rebound from the current low level. Putting these two factors together, I am optimistic on Chinese equities in 2019. In addition, Chinese equities started 2019 with a dividend yield in the range of 2.5%-3.0%. Since 2001, when the dividend yield was at this level, 80% of the time the MSCI China index delivered positive returns over the following 12 months. Of course, careful stock selection will be key.
A drawn-out trade war continues to hurt both countries, so I think both sides are motivated to reach a resolution. However, any negotiation is difficult to predict. Nevertheless, even in the absence of a full resolution, we believe any progress in the trade talks would be positive for China and Asian equities.
We have started 2019 with a positive view on China. Many negative factors, such as the trade war and slower growth, are well publicised and now priced into Chinese equity prices in our view; valuations have come down to very low levels at the beginning of 2019, at 11x forward P/E including internet stocks and at 8x forward P/E without. In addition, the Chinese government has started to support the economy more actively. We also believe any progress in the US-China trade negotiations will be a catalyst for Chinese stocks. From a bottom-up perspective, many Chinese stocks de-rated dramatically in 2018 as investor sentiment made a 180 degree turn from bullish to bearish. Stock prices, as a result, have come down and are beginning to look very attractive.
Overall, North Asian markets (Korea, China/Hong Kong and Taiwan) are trading at lower valuations compared to India and South East Asian markets where they are richer.
We currently have no strong negative view on any Asian countries. We are slightly less bullish on South East Asian markets based on valuations, however we typically have lower exposure to these markets.
Chinese internet remains one of the most interesting investment themes in Asia. After a spectacular performance in 2017, many Chinese internet stocks fell dramatically in 2018, paving the way for the next rally. We feel it could also be a good time to start bottom fishing in the wider Asian automobile industry and Korean consumer sector, both of which faced strong headwinds in 2018 and experienced significant stock price declines.
In 2019, US and China trade tension will likely continue to be a major risk (as well as a potential opportunity). Another major risk is the direction of the US equity market. If we see a large correction in US stocks, we believe Asian stocks could also decline due to the high correlation between the two regions.
If US rate hikes come to an end in 2019, it will likely relieve the pressure on Asian countries to also raise interest rates to support currencies. Therefore an end of the US rate hike cycle will likely be very positive to our performance and stock markets in our view.