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Asia’s Promising Outlook for 2021 and Beyond

The covid crisis has been very different from past downturns and recessions in many ways. Its onset, its driving forces and the global response to it have significantly set it apart from previous crises and it’s thus not surprising that the recovery from it might also present some in­teresting and historically unusual opportunities too. These investment opportunities will exist in several areas, but in this issue of the InSights we would like to discuss one of them in more detail: Asia. And when we talk about Asia we don’t limit ourselves to China. We’re also looking at markets like Vietnam, India, and Indo­nesia that, unlike China, haven’t received the investor attention they arguably merit.

For a long time, conventional wisdom held that it was wise for investors to largely steer clear of Asia during crises and recessions. Historically, the impact tended to be more severe and the destabilizing effects much more pronounced, so this skepticism was entirely prudent and justified. In past crises, many economies in the region saw their domestic currencies collapse, while massive capital flight further amplified the impact of any recession and ensured a protracted and painful path to recovery.

There were also serious vul­nerabilities and concerns around institutional integri­ty, inadequate infrastructure and political instabilities that shook investor confidence, while the legal frame­works and business protections were also seen as in­sufficient, especially amid a crisis.

However, the outlook this time has substantially changed, with the region presenting some very at­tractive opportunities and numerous good reasons to expect above average growth.

Long-term trends and reforms

A lot has changed in the Asian region since the last global recession and the developments over the last decade have successfully transformed its position and outlook in the aftermath of the Covid crisis and beyond. The most important of these changes are found in the progress and improvements made in local infrastructure, supply chain shifts, workforce skills, and productivity.

Growth in household income ($35,000+)

Source: Fitch Connect

Many nations in the region also now offer a more stable and business-friendly legal environment. Corporate and investment pro­tections were established, along with many other important reforms, as noted in the “Doing Business 2020” report published by the World Bank. Further­more, a 2020 analysis of more than 36,000 business­es in 17 Asian economies conducted by the Asian Development Bank revealed that strong property rights and rule of law enabled and motivated entre­preneurs to formalize their businesses, and that this growth in formalized businesses was also associated with increased innovation. Political stability, along with supportive policies that encourage internation­al investments, also helped improve investor senti­ment and promote trust in government and regula­tory institutions.

This wave of modernization, liberalization of domestic economies and capital markets and solid advances in the private sector has been evident in varying degrees in many countries in the region, but the net result was the creation of a much more sup­portive environment for international business, as well as domestic entrepreneurship and innovation.

This also contributed to the emergence of a vibrant and competitive corporate ecosystem, with many Asian companies now raking among the world’s largest. A considerable share of revenues still comes from international exports, but as Asian economies evolved, they decreased their reliance on manufac­turing for the West, and pivoted to the increasing­ly resilient and sophisticated domestic and regional markets.

Important strides were also made in technology and in the digital economy. For instance, since 2014, In­donesia and India have been well ahead of the rest of the world in digital adoption rates, with the number of internet subscribers in India almost doubling by 2019 and mobile data consumption growing by over 150% annually, more than twice the rate of the US. Also, with Asia accounting for over half of the world’s total internet users, e-commerce has exploded, and so has the inflow of venture capital in the region’s start-ups, as can be seen in the graph below.

Another major long-term trend is the steady decline in global poverty rates. This has played a particular­ly crucial role in Asia, as it transformed national and intraregional consumption patterns. Wage growth and a rapidly expanding middle class have fueled local demand and according to McKinsey projec­tions, the region will account for more than half of global consumption growth by 2030.

By 2018, Asia already accounted for nearly half of global investment in start-ups

Source: Preqin, McKinsey Global Institute analysis

There’s also a strong argument to be made based on the region’s fundamentals. Coming into this crisis, the finances of many Asian countries were signifi­cantly healthier than most of their Western peers. There are of course exceptions, like Japan, but a lot of Asian nations tended to carry less debt and exercise stricter budget discipline. According to the UN’s Economic and Social Commission for Asia and the Pacific (ESCAP), public debt was at sustainable levels before the onset of the crisis, “with a regional median at about 40% of GDP”. This meant that the region was overall better positioned to sustain the impact of the Covid crisis, but also to handle the costs of the fiscal support measures that were deployed to combat the effects of the pandemic.

This tendency toward more financial prudence is also present in the region’s companies that, in general, also tend to have stronger balance sheets, something that was highlighted in recent reports by PineBridge Investments and UBS as an advantage for Asian equities going into 2021. There are advan­tages on the monetary front as well, with interest rates being relatively higher in many Asian coun­tries than in most advanced economies, which gives them more room for monetary stimulus, but also makes them more attractive for investors. In fact, we saw this interest pick up significantly over the past decade and even more so over the past year, with Asian bonds being among the fastest-growing segments in the global bond market.

Last, but certainly not least, there’s the impact of the US dollar and shifts in the region’s dependence on it. The USD has long been the dominant currency not only in international trade and intraregional trans­actions, but also as a reserve currency and as a ref­erence in domestic policy making. Historically, this reliance on the USD, although a practical necessity, has rendered Asian economies particularly vulnera­ble, as highlighted during past crises. Thus, a wider “de-dollarization” drive, originally led by China, has been gaining traction over the last decade. In recent years, we saw some meaningful developments on that front emerging from Sino-Russian deals, with the two nations agreeing to reduce their depend­ence on the dollar. According to the Financial Times, in the first quarter of 2020, the dollar’s share of bilat­eral trade fell below 50% for the first time on record.

China has also been inking similar deals with Asian partners to promote the use of local currencies, like it did with Indonesia last September. The use of the Chinese yuan has seen a significant boost in recent years in trade, but also as a reserve currency. This is a trend that Morgan Stanley analysts expect to continue, predicting that the currency will account for 5% to 10% of global foreign exchange reserve assets by 2030, making it the third largest reserve currency in the world, after the US dollar and the euro. Meanwhile, other local currencies have also been enjoying wider use, as domestic consumption and inter-Asian trade continue to strengthen.

Accelerators and triggers