BLOG: Can US and Asian equities achieve perfect harmony?
US president Donald Trump has dominated headlines this week, following his landmark summit with North Korean dictator Kim Jong-Un in Singapore. The talks, aimed at achieving nuclear disarmament and improving economic growth in North Korea, marked the first time a sitting US president has ever met a North Korean Leader.
But how do Asian and US equities compare, and how would they come together in your portfolio? We highlight three key differences between the two markets, and how investors can reconcile the two market areas in their portfolios.
Asia Pacific is a far broader region to consider than the US. While the Indian equity market is really quite mature, for instance, there are also lots of newer equity markets in the region. This means that, compared to some areas of the Asia Pacific market, US management teams are typically more experienced as the companies have been around – and listed – for longer.
Their corporate governance is also usually better due to higher accounting standards, and the companies themselves tend to be more accessible and well-researched. However, this can mean that there are fewer attractively-priced opportunities within the US compared to the Asia Pacific region, as it is a more efficient market.
It’s also worth pointing out that US index has beaten the Asia Pacific ex Japan index over three, five and 10 years, although they have roughly performed on a par over the last 12 months. Since the turn of the millennium (which is as far back as our data stretches), the Asia Pacific equity index has more than doubled the returns of US equities. This means that patient investors who have been willing to stomach some volatility have been well-rewarded.
Investors may wish to opt for a more conservative Asia Pacific fund to reduce the risk a little. We like JOHCM Asia Ex Japan, which has a bias towards high-quality growth stocks. Manager Samir Mehta carefully selects a small number of companies which have to pass through numerous quality and risk screens before even getting a look in.
For something in the US which looks beyond the expensive and mature S&P 500 index, Hermes US SMID might be a good option. As its name suggests, manager Mark Sherlock invests in small and medium-sized companies, and focuses on individual company fundamentals rather than picking out broader macroeconomic themes.
Companies listed on the US stock market are culturally better-known for reinvesting into their businesses for growth rather than paying out bumper dividends to shareholders. Generally speaking, many US companies will only pay out dividends when they cannot grow any further. In contrast, the Asia Pacific equity market compensates for its lower levels of corporate governance with a higher yield – at least at an index level.
One argument we would make, however, is that there is a vast array of equity markets residing under the ‘Asia Pacific ex Japan’ umbrella and that, actually, some of these countries are better at paying out dividends than others. For instance, research from Bloomberg found that around 97% of listed Philippine and Singaporean companies had a dividend yield in place for 12 months to the end of December last year.
One approach investors might want to take is to hold a US growth fund and Asian income fund to get both capital appreciation and a nice yield, as well as regional diversification.
We like Schroder Asian Income, which is headed up by Richard Sennitt. Sennitt looks to exploit inefficient markets by finding unloved or under-researched companies which can pay out growing streams of income over the long-term.
This might complement the likes of AXA Framlington American Growth, which is headed up by Steve Kelly. Kelly looks for innovative companies with intellectual property, strong branding power and entrepreneurial managers at the helm, with the belief that these will outperform the already efficient US market.
They react differently to US dollar movements
Dollar movements can act like a risk barometer. When investors are nervous, they pile into US dollars because it is seen as a ‘safe haven’. When they are more confident, they allocate their capital elsewhere.
When the dollar is rising, investors are usually treading carefully, so this means they tend to avoid the more volatile Asian equities. A stronger dollar can also harm Asian equities because a lot of the companies and countries have dollar-denominated debt on their balance sheets, so their debt becomes more expensive to pay back.
A stronger dollar can also harm global-facing US stocks, because their products become more expensive for overseas investors to buy. However, it should have less of an impact on smaller, domestic-facing US companies which don’t ship their goods overseas. If they import any materials they need from elsewhere, it should actually benefit them because they’ll be buying what they need at a cheaper price.
Conversely, when the value of the US dollar falls, Asian equities tend to rise because investors are confident enough to buy into other currencies. It also means that paying back their dollar-denominated debt becomes cheaper. This is usually good news for international companies in the US too, because their products become more attractively valued. For domestic companies which import materials, however, this will harm them because overseas goods become more expensive.
Because the dollar move impacts US companies of different sizes in varying ways, it could pay to take a multi-cap approach if you are worried about currency movements.
A US multi-cap fund that we like is Lazard US Equity Concentrated, which is headed up by Martin Flood and Christopher Blake. The managers have a concentrated portfolio of between 20 and 25 stocks, which range from fairly small all the way through to very large. These are chosen based completely on each company’s fundamentals rather than themes, because the managers believe each stock offers something different.
When it comes to Asia Pacific, the Elite Rated fund which has shown the least correlation to the US dollar (in sterling terms) over the last five years is Schroder Oriental Income. The investment trust, which is run by Matthew Dobbs, aims to provide income and growth through unloved and attractively-valued stocks. Because it is an investment trust, it can smooth its dividends by keeping some income to one side for a rainy day.
So, if Kim Jong Un and Donald Trump – two of the least likely leaders to ever put their differences aside – can reconcile, we see absolutely no reason why Asia Pacific and US equities can’t live in harmony within investors’ portfolios, either.
Darius McDermott is managing director of FundCalibre