Asia-Pacific: Riding the wave of momentum?
The developed Asia-Pacific economies have been firming, while the developing economies continue to ride the wave of positive momentum. China’s 19th National Congress (due to begin in late October) will be the focus for the region, while geopolitical risks with North Korea will likely remain. Valuations remain slightly expensive, although we note that Japan is looking more attractive than the rest of the region.
The Asia-Pacific region has seen greater breadth in growth, with some of the developed countries (namely, Japan and Australia) seeing improvements. The momentum in global demand has continued, which has flowed through to robust global trade, benefiting exporters in the region. Twelve-month forward earnings growth in the region is expected to come in at 10.45%, according to the MSCI All Country Asia Pacific Index as of September 12, 2017. We maintain our expectation that the developing markets in the region will outperform developed for 2017; however, our view on the gap between the two has narrowed. Concerns around trade threats coming out of the U.S. have dissipated, but elevated levels of debt and the tensions surrounding North Korea remain.
Starting with the developed Asia-Pacific countries, the outlook for Japan has firmed. Japanese earnings have been robust, while GDP has surprised on the upside. On the policy front, the Bank of Japan continues to be very accommodative, and unlike other central banks has shown no indication of considering a shift in stance.
Japan business conditions
Source: Bank of Japan, as of May 15, 2017.
Tankan, a Japanese shorthand term for Business Short-Term Economic Sentiment Survey, is a quarterly poll of business confidence reported by the Bank of Japan showing the status of the Japanese economy. Component surveys of the Tankan are considered as leading gauges of Japan’s economic growth.
Australian economic activity has been solid, despite a cautious consumer. Australian businesses have been reporting elevated levels of confidence for much of the year, and this has been translating into robust hiring levels and increasing capex plans. The strength in the currency (up 9% against the USD, as of September 15, and 2.5% on a trade-weighted basis), if sustained, will prove a slight drag on trade.
Singapore is in reasonable shape, with the manufacturing sector expanding, retail sales solid and inflation contained. Growth remains solid in Hong Kong, boosted by strong export demand from China, which accounts for around 40% of total exports.
Developing Asia-Pacific has maintained momentum through much of the year. Economic activity gauges in China have been solid, with the purchasing managers’ indexes (PMI) showing continued expansion in the manufacturing sector. South Korea has continued to benefit from strong external demand, while consumption has been reasonable. Malaysia and Taiwan are both benefiting from accommodative monetary policy, while the Indian central bank recently cut rates.
The big event in the Asia-Pacific region through the quarter will be China’s 19th National People’s Congress. We have remained cautiously optimistic about the Chinese economy all year, with concerns around debt overridden by strong levels of activity. We expect to see further attempts at supply-side reform coming out of the Congress, as President Xi Jinping consolidates power with more like-minded members.
The key risk for the region in our opinion is the ongoing tension with North Korea. We expect to eventually see a de-escalation; however, the ride there is likely to be volatile. The South Korean equity market, particularly, will likely experience some bouts of volatility and difficulty.
For regional equities, we assess business cycle, value and sentiment (CVS) considerations as follows:
- Business cycle: We maintain our positive outlook for the developing countries within the Asia-Pacific region. Our views on developed economies, particularly Japan and Australia, have improved at the margin. This leaves our aggregate view slightly positive. We continue to expect to see China, India and South Korea pushing forward, while Japan also likely will post reasonable growth.
- Valuation: Asia-Pacific equity markets have outperformed the global index since the end of the second quarter of 2017, with the MSCI Asia Pacific Index up 1.9% quarter-to-date through September 15 (compared to 0.9% in the MSCI World All Country Index), all of which holds steady our assessment that the region is slightly expensive. Not all markets within the region are expensive, though, particularly Japan, which we see as valued fairly.
- Sentiment: Equity markets in Asia-Pacific have stayed on a wave of positive price momentum for most of 2017, although it has faded at the margin this quarter. This positive momentum has pushed the market towards an overbought environment; however, our indicators are not yet triggered.
- Conclusion: Overall, we have become more positive on the Asia-Pacific region as the developed economies have been firming. We maintain our view that the developing economies will outperform the developed for 2017. However, since the Asia-Pacific equity market has stayed on the wave of positive momentum in 2017, valuations remain slightly expensive as we move into the fourth quarter.