Over the past 12 months, most Asian equity markets have participated in and at times led the global stock market boom. Yet this year, and particularly in the past month, these same markets have given up some of those previous gains. Is this recent underperformance, relatively modest so far in most cases, a precursor of more significant market corrections to come, or is it likely to be a brief speed bump in a continued upward course for Asian equity markets? In this note we look at the several headwinds that appear to have contributed to the recent underperformance along with the positive factors underlying these markets.
But first, we look at some performance data. The MSCI AC Asia ex Japan Index has gained 44.13% on a total return basis over the past 12 months through May 17, a period during which the MSCI All Country Index gained 48.31%. Note that this was a period following the steep decline precipitated by the COVID-19 shock. Three major Asian markets outperformed. The MSCI Korea 25/50 Index gained 78.30%, and the MSCI Taiwan 25/50 Index gained 57.16%. The impact of the pandemic in these countries was relatively mild. The same cannot be said for India, where the MSCI India Index gained 66.53% despite the pandemic’s causing an increasingly severe public health crisis. The depth of the Indian market decline in early 2020 may have been a factor.
China’s equity markets as measured by the S&P China BMI Index of investable shares across all market-cap sizes is up just 33.76% over the past 12 months. Similarly, the MSCI Hong Kong IMI Index gained 34.15%. China’s underperformance reflects a 18.19% decline in the past three months, considerably steeper than the declines of 5.5% in Taiwan and 4.55% in Korea over this period. Hong Kong eased just 1.25% and India just 0.63%. The broad MSCI All Asia ex Japan dropped 8.09%. In the world’s third largest economy, that of Japan, the MSCI Japan Index fell back 6.98%. In comparison, global markets rose 2.84%, and in the US the S&P 500 gained 6.26%.
The most obvious headwind to Asian markets this year has been the correction in in tech stocks in the US and across the globe following dramatic gains in 2020. The technology-heavy NASDAQ 100 index in the US eased 2.66% over the past three months while the S&P 500 gained 6.26%.
Overall, the correction in technology stocks has thus far been modest. Investors appear to be concerned that higher inflation expected in the near term may lead to higher interest rates, particularly if central banks reduce monetary stimulus and raise policy rates sooner than had been expected. Higher interest rates are considered to be negative for growth stocks. Tech stocks are likely to continue to be volatile as sentiment about inflation and interest rates varies from day to day. However, the secular case for tech stocks remains sound in our view. The contribution of technology to the growth of both advanced and developing economies will continue to increase as the global economy expands at a robust pace.
The sector composition of the Asian market indexes suggests the importance of global technology market trends to these markets. The technology share of the MSCI All Asia ex Japan Index is 41.08%, with financials in second place at 22.79%. The technology share of the S&P China BMI Index is a similar 40.5%. For Korea, the technology share is 42.56%, with Samsung alone accounting for 24.22%. For Taiwan the technology share is even greater, 58.77%, with Taiwan Semiconductor Manufacturing Company (TSMC) accounting for 19.46%. In contrast, the share of technology for India is just 18.06%, less than financials at 26.57%. For Hong Kong the technology share is a mere 0.85% with financials the most important at 65.36%. In Japan the technology sector accounts for 14.17% of the market.
Taiwan and South Korea are clearly counting on a continuation of the global boom in technology. TSMC and Samsung, together with Amazon in the US, are expected to spend almost $100 billion in capital expenditures this year. TSMC alone plans $100 billion in outlays for new fabrication plants over the next three years. The governments of Taiwan and South Korea see the future of their economies as being closely tied to these two companies.
In China policymakers are giving a mixed message. The 14th Five-Year Plan increases the emphasis on accelerating the development of the digital economy, which, using a broad definition of digitalization of both industry and commerce, is said to be contributing more than 60% of GDP growth. The internet’s 40% share of the Chinese equity markets is certainly impressive. But regulators are concerned about market concentration and fintech challenges to financial policy concerns, privacy, and data protection. Investors, in turn, fear that antimonopoly and financial regulators may take actions that will hinder the further development of the digital economy. It is understandable that regulatory frameworks have to evolve and adapt to technological developments. This process may lead to some slowdowns in specific areas in the short-term. In the long-term, however, intelligent regulatory development and balanced application of regulations should be positive for the sustained contribution of technology to the Chinese economy.
Another potential headwind for Asian equities has been the resurgence of COVID-19 in Asian countries where it once seemed to have been beaten. China has experienced some minor outbreaks and responded with massive numbers of vaccinations. China vaccinated 100 million people in nine days. South Korea is experiencing more significant outbreaks of what it calls sporadic cluster infections, with new cases rising at a 600 per day rate as this note is written. Korea has been slow to vaccinate, in part due to tight vaccine supplies, with only 2 percent of its population having received both doses of two-part vaccines. It has social distancing rules and restrictions on night-time entertainment establishments but no industrial shutdowns. Japan declared a third state of emergency in late April in response to new outbreaks of COVID-19. Both new cases and hospitalizations have soared. Limits have been imposed on restaurants and entertainment establishments but no full lockdowns. In none of the above three countries has the resurgence of the virus appeared to have had a significant impact on industry, but the services sector is likely to suffer.
In contrast, stocks in Taiwan fell almost 9% on May 12 when investors learned of a COVID-19 outbreak and feared a possible lockdown. This was the worst inter-day fall since 1969. By the end of the day, the decline was 4.1%. The government has imposed two weeks of strict social-distancing measures but thus far no strict lockdown. Over the past seven days through May 18, new confirmed cases are averaging 150 a day. Taiwan’s low vaccination rate is now a concern, as are capacity constraints at hospitals. This outbreak has shocked the country, which to date has recorded only 14 deaths since the start of the pandemic. Taiwan’s past success in avoiding serious virus outbreaks and economic lockdowns has permitted the economy to grow some 3% in 2020, when almost all other economies were declining, and a remarkable 8.2% in the first quarter of 2021. The government is planning a $7.2 billion financial support package to offset what is hoped will be only a short-term hit to consumption. Over the past five days through May 19, Taiwan stocks have managed a 3% increase.
A final headwind for Asian stocks has been some concern about a slowdown in the Chinese economy, which would impact economic growth in the region. Indeed, activity data for April, including industrial production and retail sales, fell short of market expectations. Consumption is expected to pick up and be a major contributor to growth in the coming months, although the recent virus outbreaks are concerning. Manufacturing investment and export outlooks are strong. We continue to expect that GDP will advance at a very strong 9% pace this year, followed by a slower but still robust 5.5% rate in 2022. We will be discussing this outlook, China’s evolving relationship with the United States, and the investment implications in a future commentary.
Sources: Financial Times, Oxford Economics, ETF.com, chinalastnight.com, Goldman Sachs Economic Research, South China Morning Post, Reuters.
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Cumberland Advisors Market Commentaries offer insights and analysis on upcoming, important economic issues that potentially impact global financial markets. Our team shares their thinking on global economic developments, market news and other factors that often influence investment opportunities and strategies.
