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Recovering from Covid-19 may come to be seen as a turning point for Asia’s rising economies, writes Ewan Markson-Brown in his 2020 Manager’s Review for Pacific Horizon Investment Trust.
“The current age of uncertainty might be defined thus: the old order has been undermined, but the shape of the new one is not yet clear. What determines how it turns out? Transformational technology? The sudden rise of China? Perhaps the consequences of unorthodox monetary policy? Most likely a combination of all these and more. What is certain is that, even amid this upheaval, the search for growth and the discovery of and investment in great companies will enable outperformance for the benefit of shareholders.” – Pacific Horizon Annual Report 2019
Who would have predicted 12 months ago that a viral pandemic would lead to such massive fear and probably the greatest quarterly collapse in US GDP in history? The old order, including both public and private institutions in the west, was tested and found wanting, socially, politically, morally and economically. In contrast, the Asian model, so far, has held up relatively well. China, the epicentre of the viral outbreak, is still on pace to become a superpower by 2030. In the ‘old economy’, and especially financial companies, we saw a collapse in share prices and corporate earnings. In the ‘new economy’ throughout the world, transformational technology helped ease the passing of the old ‘normality’.
With the accelerated growth of the online economy (ecommerce, cloud and gaming) catalysed by Covid-19, the outline of the new order became clearer. In contrast, the consequences of monetary and fiscal reactions to the worldwide lockdowns, plus the political and social upheavals these will bring, have only just begun to filter through to asset prices.
Pacific Horizon’s portfolio has prospered by investing in some of the region’s great growth companies and holding these positions through significant volatility. We see no immediate prospect of escape from this turbulence. The global bond market is implying, via negative interest rates, asset destruction on an unimaginable level (the assumption is that money today is worth less than money in 10 years’ time). To look back invites oblivion, to stand still is death. Surely embracing the new and going for growth is the only way out? Well, possibly.
The economic chaos and destruction caused by Covid-19 has ended a long positive economic cycle. Since the start of the pandemic, many businesses, previously kept alive by freely available cheap money, have failed. The pandemic has done what central banks have been afraid to do: create a Schumpeterian capital cycle where the role of the entrepreneur and innovation is paramount at the expense of entrenched, stale incumbents. This economic collapse has freed capital to work better for humanity. That is the good news. The possible bad news would be governments not allowing the market to allocate this capital effectively, intervening instead.
For equity investors the main point is that the east looks better on most metrics than the west (given government debt levels, the price of money, regulation, etc), supported by some of the strongest growth drivers globally. These range from the continued rise of the Asian middle class and consumer, to Asia’s central role in supply chains, world trade and globalisation. Clearly the latter has recently come under pressure, especially with deteriorating US-China relations; however, it is also providing great opportunities for parts of Asia. Vietnam is one of the biggest winners of these trade disputes as it increasingly becomes one of the world’s most important manufacturing centres, capturing much of the manufacturing capacity leaving China.
The start of a new cycle is almost always very positive for business owners. In fact, we would argue that this is possibly one of the best times to be a business owner in Asia: demand for products and services may have collapsed, but many competitors are insolvent, corporate profits are at a very low percentage of GDP, costs can be cut and when growth returns, operating leverage will be significant. We believe that the US dollar will probably be weak by historical standards, and capital will flow to Asia. Business profits have already bottomed and will rise rapidly from here. Old entrenched businesses may reinvent themselves and embrace the new and begin afresh.
If we are too cautious because of the risk and uncertainty arising from investment in times of rapid change, we will lose the opportunity to outperform. Hence our continued willingness to seek opportunities for great company returns. Risk and uncertainty mean that we will inevitably make mistakes and that many of our investments will be less successful than we hoped. Our approach is to back current holdings, hoping they will outperform in the longer term, while continuously searching for stocks with the potential to deliver significantly enhanced returns over longer timeframes. We accept the volatility this strategy entails and Pacific Horizon’s shareholders, as well as potential investors, should be mindful of this.
The current global crisis is likely to create new secular trends and spur innovation. We believe that the Asia ex Japan region could be one of the major beneficiaries. The region is coming out of this crisis as an economic leader, in significantly better financial shape than western economies, with superior long-term growth prospects and more attractive valuations. The year 2020 may well be an inflection point where Asia ex Japan becomes a favoured asset class for the coming decade. We believe our strategy of investing in growth companies focused on the areas of technology and innovation is extremely well placed in such an environment. The risks and opportunities from increased disruption are here to stay. In our view, the market’s focus on geopolitics and capital flows misses the bigger picture and the opportunities created by global digital penetration, technological change and the rise of the Asian middle class. These fundamentals will underpin growth in the region for decades to come. The best way to invest in this rapidly-changing growth market is to find the best long-term growth companies; we call it ‘growth squared’.
The views expressed in this article are those of Ewan Markson-Brown and should not be considered as advice or a recommendation to buy, sell or hold a particular investment. They reflect personal opinion and should not be taken as statements of fact nor should any reliance be placed on them when making investment decisions.
This communication was produced and approved on October 2020 and has not been updated subsequently. It represents views held at the time of writing and may not reflect current thinking.
Baillie Gifford & Co and Baillie Gifford & Co Limited are authorised and regulated by the Financial Conduct Authority (FCA). The investment trusts managed by Baillie Gifford & Co Limited are listed UK companies and are not authorised or regulated by the FCA. The value of their shares, and any income from them, can fall as well as rise and investors may not get back the amount invested.
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Pacific Horizon invests in overseas securities. Changes in the rates of exchange may also cause the value of your investment (and any income it may pay) to go down or up.
The trust invests in emerging markets where difficulties in dealing, settlement and custody could arise, resulting in a negative impact on the value of your investment.
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Pacific Horizon Annual Past Performance
To 30 June each year
Source: Morningstar, share price, total return.
Past performance is not a guide to future returns.
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