Investment Manager Report
Dear Valued Investor,
This September, Matthews Asia celebrated the 20th anniversary of our first two U.S. mutual funds, the Matthews Pacific Tiger and Matthews Asian Growth and Income Funds. These funds were established as two distinct ways to access growth in Asia.
Through the Pacific Tiger Fund, this access aimed to focus on capturing high returns from long-term equity holdings in well-managed businesses, not necessarily (and not even normally) blue chip stocks. Meanwhile, our Asian Growth and Income Fund was created with more of a focus on using dividend-paying equities and convertible bonds as a way to help dampen volatility for those willing to give up some of the upside whilst maintaining a portfolio that should have defensive qualities in acute downturns and bear markets. Twenty years later, the mission of these two portfolios remains unchanged, although the stable of funds we manage has grown to provide more specific solutions to the investment needs of our clients.
The quarter ending 30 September also coincidentally marked my own 20th anniversary in Asian investing. I spent a year as a stockbroker in Hong Kong in 1994, and it’s impossible for me to not look back with some embarrassment over my ideas and attitudes then. Although my ability to read Chinese allowed me to voraciously scan Hong Kong’s numerous newspapers and magazines, and quickly translate the gossip and rumours from Hong Kong, I often merely added my own speculative voice to the noise. My stock picking was maybe a little better, but largely by accident. My bearish sensationalism was great for writing "SELL" recommendations. I covered perhaps 25 stocks and, unusually for a stockbroker, I probably had 24 sells and one buy (which worked well because inexperienced analysts were always given the worst stocks to cover). In truth, there was much to be bearish about—a young reform programme, a dearth of entrepreneurial expertise and, as for corporate governance, we asked “what's that?” But, in the end, caught up in the apprehensive mood that prevailed following the Tiananmen Square protests, I did not fully appreciate the changes for the better already under way.
I was reminded of my youthful inability to see the bigger picture recently when I had the privilege of hearing U.S. journalist, scholar and China linguist Sidney Rittenberg speak in an interview led by my colleague and China expert Andy Rothman. Twice sentenced to solitary confinement by Mao Zedong for a total of 16 years, Mr. Rittenberg is still able to credit Mao for what China has subsequently become—a prosperous, middle income society. He referred to Mao as "half a great hero, half a great criminal—all rolled up into one.” He added, “[Mao] was a genius, whose genius got completely out of control.”
The ability to see the past and anticipate the future in broad, sweeping trends, and to maintain a balanced, analytical stance despite emotional stress keeps Asia's undoubted challenges in proper perspective. I've tried, since my first, unsophisticated steps into finance, to develop that kind of perspective. The conversation between my colleague and Mr. Rittenberg has tightened my resolve to persevere.
As we head into the latter stages of 2014, some sweeping changes appear to be taking place in Asia. But where do they fit into the broad history of the region? India's elections gave a strong mandate to a reformist government. But little has been achieved yet. This is partly because so little time has elapsed, partly because state elections have muddied the political waters and partly because the inevitable bureaucratic and political backlash of entrenched elites against change is starting to become evident. And yet, there is still room for optimism, even if market prices seem to have factored in much of that.
In South Korea, the region's other strong performer, the government continues to press for greater transparency in corporate management. Again, markets have embraced this. Nevertheless, one of Korea's largest chaebol (or conglomerate) was still able to deeply disappoint markets with the purchase of a non-core asset—prime real estate in Seoul—at a price far in excess of what others were apparently willing to pay. The cash drain on the company has put future dividend payments in jeopardy. Plus ça change, plus c'est la même chose?
Lest we sound too dispirited, there are plenty of good things happening outside the world of the "old guard" in Asia. When Internet giant Alibaba recently listed on the New York Stock Exchange, it became the world’s largest IPO, and yet again emphasised to me the pace of change in China and Asia. The event, for all its hype and drama, is just part of the increasing importance of Chinese and Asian domestic demand as part of this growth globally, and as a source of investment opportunity. And for all the missteps we may see in governments and corporates, Asia remains the region where standards of living are growing most rapidly and where lives, lifestyles, and business opportunities are changing decisively for the better. Even as protesting Hong Kong students, pushing for democracy, are a reminder of Beijing’s student protests, which ended in tragedy just over 25 years ago, I suspect the outcome will ultimately be a realisation that China now has a more enlightened political system.
We are seeing a shift to capital markets more efficiently mobilising the average citizen’s savings into profitable enterprises. In turn, this makes room for the growth of a financial services industry to support middle-income savers and helps consumer spending.
In the short term, we have seen something of a re-rating in the region. Valuation discounts compared to the West have narrowed. Yet, earnings-per-share growth, backed by improving margins, seems to now be overtaking the rate seen in the world's richest economies. In light of this, investors should not get too concerned, I believe, with a rising interest rate environment. Should further gradual rises in policy rates and bond yields occur, they more likely than not may take place in an environment of rising demand—more explicitly rising nominal GDP growth and improving export markets. We believe that should mean better corporate profit growth and perhaps faster-growing dividend streams. To the extent that our strategies focus on either dividend growth or cash returns on capital, this may be a reasonable backdrop for returns. Our eyes are firmly trained on the future.
As always, it is a privilege to serve as your investment advisor.
Robert Horrocks, PhD
Chief Investment Officer
Matthews International Capital Management, LLC
The Matthews Asian Growth and Income Fund is not currently offered as a sub-fund of the Matthews Asia Funds SICAV. The Pacific Tiger Fund is a sub-fund of the Matthews Asia Funds SICAV and was launched 30 April 2010.