The Pacific Basin’s Weak Performance Has Its Upside

This is the final issue of Pacific Wealth. But we should not conclude that investing in the Pacific Basin is a waste of time and a poor investment that at best will result in a grossly inferior performance than if we kept our money at home.

I say this because growth in the Pacific region is generally higher than in the United States. The International Monetary Fund (IMF) forecasts growth for emerging Asia at 6.5% in 2015 and 6.4% in 2016, far higher than any other region in the world.

So in this last issue we leave you with this overview of the Pacific Basin as well as articles that highlight our strongest stocks that we hope you will find a place for in your portfolio.

Although the economic forecasts are strong, the stock market news is not as good. The MSCI AC Pacific Index recovered a little during the month but is still down 14% from its level of mid-May, and down 5.7% over the past 12 months. Over the last five years, that Pacific index returned only 0.9% annually. Over the same period the Standard and Poor’s 500 Index returned 13.9% annually.

The Eastern Pacific, admittedly, shows a gloomier picture currently because of the region’s dependence on commodities and energy, whose prices have fallen hard in the last year. The IMF downgraded Mexico’s projected growth to 1.4% in 2015, yet another year of underperformance by that beleaguered country.

Still, every cloud has a silver lining, and our Mexican firm Industrias Bachoco S.A.B. de CV is benefiting greatly from the peso’s weakness against the dollar, because as a result its poultry farming business has become far more competitive against Tyson Foods and other big players in the market.

On the other hand, the IMF projects Colombia, Peru and Chile to tick along at 2.5% in both 2015 and 2016, which is an excellent performance given the weak prices of the resources that form a major part of all three countries’ exports.

I personally remain bullish on Colombia, which appears close to reaching a peace deal ending a 50-year conflict with the guerilla group FARC. In contrast, Chile’s President Michelle Bachelet, who holds office until 2018, is making a strong effort to reverse the country’s pro-market policies, in force since the 1970s. Hopefully she won’t succeed, but I wouldn’t put money there currently.

China’s Future

In the Western Pacific, the big question is the future of China. Since the sharp stock market fall in the summer, things seem to have stabilized, and the government appears to be managing a transition to slower growth, perhaps a true 4% to 5% in GDP growth rather than a numbers-inflated 8% to10% as China has reported for the last two decades.

I remain moderately bullish on China, while recognizing there are likely to be hiccups along the way. Certainly our China play, Guggenheim China Small-cap ETF (NYSE: HAO) invests in Hong Kong-listed Chinese shares, and with a P/E of 10 is currently underpriced compared to its peers.

On the other hand, I would underweight Australia, the Westernized economy that first introduced readers to the Pacific basin through Australian Edge. The new Prime Minister Malcolm Turnbull was elected by an unpleasant internal party coup and seems likely to abandon many of the policies that made his center-right party successful.

There’s an election due within a year, and new “green” taxes are only one of the initiatives likely to alienate his voting base. Australia hasn’t had a recession for 26 years; with the commodity price decline and political uncertainty, it’s about due for one. (The IMF predicts 2.4% growth in 2015 and 2.9% in 2016 but has been wrong before.)

Japan’s Struggles

Japan is a special case. Since coming to power in 2012, Shinzo Abe has been pursuing a policy of “Abenomics,” consisting of a central bank bond purchase program that, in relation to the economy, is three times the size of Ben Bernanke’s at its peak. Japan’s program also includes periodic bursts of public spending stimulus.

There were also supposed to be economic reforms to make the economy work better, not many of which have happened. Abenomics does not appear to be working; Japan’s second-quarter GDP was down at a 1.2% annual rate and its third-quarter preliminary figures look sluggish.

Abe seems likely to push the central bank into buying more bonds, while unveiling yet more stimulus spending. However, because his program is thoroughly misguided, more stimulus won’t help. Excessive budget deficits are Japan’s problem, the same one that has plagued the country for the past 25 years since its stock market bubble burst. As a result, Japan’s public debt is now 245% of GDP, close to the 250% that is the highest level any country has ever successfully managed to whittle down (by Britain twice, in 1815 and 1945).

A Japanese debt default is possible in the next five years. So while Japanese exporters are good short-term buys as the yen is pushed down further, the market is increasingly dangerous long-term.

Clear Winners

Outside Japan and Australia, the outlook for Pacific Basin countries is generally good. The Philippines stands out, as it has all this year, with the IMF now forecasting 6% growth in 2015 and 6.3% in 2016, only slightly down from April’s forecasts, with the country’s current account remaining in substantial surplus.

The Philippines’ stability is reflected in the currency markets, where its peso is down only 4% against the dollar over the past year, much less than most emerging market currencies. Nevertheless, the Philippines’ stock market has dropped about 10% since Pacific Wealth began in May, so if you haven’t picked up any Philippine stocks, you should. The election next May casts only a modest cloud over the prospect, as it appears unlikely that the country will make substantial changes in its current pro-market policies.

Prospects remain good in South Korea, Taiwan, Singapore and Vietnam, with the latter especially emerging as the largest likely beneficiary of the proposed Trans Pacific Partnership treaty. Vietnam’s most important need is to open itself fully to foreign investment and provide a good business climate for the factories and services that will transform the lives of its people; TPP membership offers an excellent way to further this goal.

The one Western Pacific emerging market whose prospects have darkened a bit is Malaysia. That’s not because of the economic statistics—the IMF predicts 4.7% growth in 2015 and 4.5% in 2016, with the current account remaining in surplus both years. However, the budget deficit, projected at 4% of GDP, is more of a worry.

More important, the country has been engulfed in a corruption scandal involving the payment of no less than $800 million into the bank account of Prime Minister Najib Razak. Various critics of Razak were arrested, not a good sign, and it seems unlikely that Malaysia will engage in the thorough airing and washing of dirty linen that the country needs. As a result the (dollar-denominated) MSCI Malaysia index fell 21% this year and the currency dropped 23% in the past year even after a rebound. We have only one holding in Malaysia, the electric utility Tenaga Nasional Berhad, which is down about in line with the market.

Pacific Wealth may be ending, but your portfolio’s participation in the Pacific Basin’s growth should not. The region is full of opportunities and represents a highly worthwhile diversification for some of your money from the dangers of the U.S. market and economy.

Stock Talk

Add New Comments

You must be logged in to post to Stock Talk OR create an account