Although such concerns are valid, they merely reflect the market’s manic-depressive nature. Market watchers may recall that earlier this year investors were largely worried about inflation and overheating economic growth in Asia. Of course, those concerns quickly abated once slower economic growth materialized. So it makes little sense for investors to obsess over the market’s latest fixation, as its attention often shifts with the news cycle.
Still, developed economies continue to cope with the problems exposed and exacerbated by the Great Recession. For now, loose economic policies and strength in emerging economies, such as Asia, should be sufficient to sustain a recovery.
However, it’s difficult for investors to have such conviction when there’s so much doubt about the ability of the advanced economies to continue growing. So it’s worthwhile to consider whether a new downturn is imminent or if these struggling economies have merely hit a soft patch.
To that end, Asia remains the bellwether for the global economy, as the region’s fundamentals are relatively solid. Asia is the only region where corporations are fiscally strong, while their domestic economies offer sustained growth.
Nevertheless, investors worry that a new global recession could cause a collapse in exports that could threaten Asia’s export-driven economies. Indeed, net exports are a key growth driver for a number of the region’s economies. Singapore, Taiwan and Hong Kong are especially dependent upon exports, so their economies could suffer the most amid a global recession.
But the economies of China, India, Indonesia and the Philippines have significantly less exposure to exports. Exports represent roughly 28 percent of China’s gross domestic product (GDP), 20 percent of India’s GDP, 26 percent of Indonesia’s GDP and 32 percent of the Philippines’ GDP. Consequently, a decline in external demand would not be a death knell for the Asian region as a whole.
Although most of the world’s economies would likely suffer during a global economic crisis, Asian countries are well positioned to respond aggressively to such a shock. The chart below shows that Asia’s main economies, excepting India, have low debt-to-GDP ratios. In contrast to the debt burdens of the more advanced economies, these low debt levels mean Asian policymakers have greater flexibility in how they respond to a global downturn.
Source: Country Data
Asian companies’ sound financial conditions are one of the key reasons for long-term investors to commit capital to Asia. Despite the uncertainty in the larger global economy, Asian companies are able to invest in their businesses because they have clean balance sheets and continue to enjoy strong demand.
As the chart below demonstrates, Asian companies have lowered their debt-to-equity ratios from 82 percent at the height of the 1998 Asian financial crisis to 28 percent last year. With interest rates currently at such low levels, Asian firms can leverage their balance sheets in an effort to produce even bigger returns on equity for investors.
Source: Global Investment Strategist
Asian firms are currently making significant capital expenditures, which should boost earnings over the long term. And once the market recognizes the value of these strategic investments, stock prices should move higher.
And should the market experience its traditional end-of-year rally, Asian stocks should outperform because they’re relatively cheap at the moment.
While many investors are finding value among Asian stocks, they’re not in a hurry to commit substantial capital to the region’s markets due to the belief that such stocks could decline further. That outcome is entirely possible. After all, the region traded briefly below book value during the early 1980s recession, and again during the 1998 Asian financial crisis.
Even so, Asian markets have generally found solid support at around 1.1 to 1.3 times book value, which is not far removed from Asian stocks’ current 1.5 times book value. From a price-to-earnings standpoint, the region currently trades at a P/E of around 10, which is the lowest P/E in more than 30 years in Asia.
Asia’s long-term average P/E is 16, so it’s clear that the markets are discounting a total collapse of earnings going forward. For such a collapse to take place, however, the world economy would need to suffer a new recession, which we do not see happening.
Of course, if the global economy enters a recession anyway, Asian stocks’ current valuations won’t seem so compelling in hindsight. But should the global economy continue to grow, Asian stocks offer an attractive opportunity at current levels.
Asian stocks tend to exhibit relatively high momentum, so even if these stocks decline further in the near term, they could bounce back quickly once fears of a new global recession subside.
The following passage explains how investors can increase their exposure to Asia and other emerging economies via exchange-traded funds (ETF). These ETF recommendations are made in order of preference in terms of their investing theme, their comprehensive coverage of the industry or country they represent and their risk characteristics.
Investors should make their core allocation toward iShares MSCI BRIC Index (NYSE: BKF), which represents a broad swath of emerging economies, including Brazil, Russia, India and China. After that, the balance of one’s portfolio can be allocated among more narrowly focused fare. Guggenheim China Real Estate (NYSE: TAO) offers investors a play on Chinese real estate. Emerging Global Shares INDXX India Infrastructure Index (NYSE: INXX) offers exposure to India’s infrastructure boom. iShares MSCI Taiwan Index (NYSE: EWT) is a play on Taiwan’s cyclicality and offers exposure to its technology sector. Market Vectors China ETF (NYSE: PEK) offers exposure to China’s domestic market. Finally, Market Vectors Gulf States (NYSE: MES) offers investors comprehensive exposure to the Arabian Gulf states, whose economies are major beneficiaries of the high price of oil.