Taking a contrarian approach in a momentum driven Asian market

Over the past year, Taiwan and India have been the best performing Asian equity markets over investors’ perceptions of them as growth markets while China’s stock market has been weighed down by weak sentiment. Against this backdrop, Himalee Bahl, Investment Director of Fidelity Asian Values PLC, examines the evolving landscape and highlights why buying stocks with good margin of safety remains core to the Trust’s investment process.

Equity markets go through cycles; a theme or an idea takes hold and steers perception thus driving stock prices as margin of safety and intrinsic value estimates recede to the shadows. Our current observations on the ground in Asia are not very different. Taiwan and India have been the best performing Asian equity markets over the last year as investors perceive them to be growth markets.

Taiwan is the market of choice for investors looking to ride the artificial-intelligence (AI) bandwagon in Asia, and this rising tide has certainly lifted sentiment towards Taiwanese technology stocks. Meanwhile, India’s strong price rallies have kept investor sentiment buoyant. At these levels, investing in India and Taiwan offers a very limited margin of safety.

Contrast this with China, where clearly the overall economic activity remains lacklustre, yet it remains the second largest economy in the world that provides inputs for all types of global supply chains. However, the bleakness in near-term data has shrunk valuations for good-quality Chinese businesses to levels that offer considerable margin of safety for a disciplined long-term investor. On cycle-agnostic measures such as price to book value, Chinese stocks in aggregate are as cheap as they were during the financial crises of 2008 or in the immediate aftermath of the COVID-19 pandemic.

Sentiment extremes can lead to pockets of value

Such an environment is suited for our approach of investing in good-quality businesses when they are out of favour. This approach places considerable emphasis on the quality of the business, integrity and competency of the management team and a valuation that leaves enough margin of safety. Conversely, the approach will continue to avoid segments where the market is currently euphoric, pursuing the new theme that is drawing investor interest en-masse and where stocks would be priced to perfection.

Consequently, the Trust maintains exposure to a diversified range of businesses across China, which are fundamentally robust and led by management teams experienced in navigating economic cycles. All these positions are underpinned by Fidelity’s in-depth research. Aggregating these individual positions, China accounts for the largest absolute exposure at a market level in the Trust. This is a basket of stocks with deeply discounted valuations, and in several cases, responding to supplement shareholder returns through dividends and share buybacks.

One such position in the portfolio is Yihai International, the largest condiment producer for Chinese soup-based hot pot cuisine that can be prepared both at home and is popular in the restaurant segment as well. Yihai is the main supplier of soup bases for Haidilao, a leading Chinese hot pot restaurant chain that relies on Yihai for nearly 80% of its domestic demand. While there are concerns about the persistent weakness in Chinese consumption and all consumer-led stocks are painted with the same brush, Yihai is a fundamentally sound business which sells a staple product and is gaining market share. It has a strong track record of execution and valued at 11-12x P/E ratio and offers 6% dividend yield, while maintaining a net-cash balance sheet¹. We feel it meets our criteria of good business, good management, and good price.

Indonesia is yet another market that has been overlooked by investors and has lagged most Asian markets over the last year. It is interesting to observe that Indonesia’s demographic profile is well-aligned with India, with similar tailwinds for consumption shifts as well as infrastructure development while having a more prudent approach to public finances. However, Indonesian valuations are significantly discounted with some leading businesses trading close to trough valuations over the past decade. Here, the Trust maintains a diversified exposure across financials, building materials, industrials and consumer businesses.

Staying true to our process

As we look ahead, the macro environment is likely to remain uncertain, but we remain encouraged by the extreme valuation differential between companies trading at a premium versus companies trading at discounted valuations and the opportunities inherent in that.

This is what we are focused on, and we are working harder than ever to find these businesses and then test every assumption made on business fundamentals. A sound investment process, hard work, discipline and patience have always been important for investing success. We think this is unlikely to change in this decade.

Source:

¹ Fidelity International, 5th July 2024