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You've lived for over a decade in Asia. What have you learned in those years?
“It's very important to realize that Asia is not lagging, but in many ways has already left the West behind. Perhaps it's my age, but I sometimes struggle to keep abreast of developments here. Internet technology has made huge leaps forward in China. You no longer need to take your wallet with you when you go out. You simply pay using your smartphone. In the past, Western dignitaries would go to Hong Kong to learn from the ‘Octopus card’, but these days they'd be better taking a look at China.”
So what does this say about China?
“It is a sign that China has weathered the crisis very well indeed. The Chinese government has thought very carefully about economic developments. They apply a sort of laissez faire policy, but where necessary – when the economy is threatening to flounder or the government's dominant position is under threat – they always intervene strongly and skillfully in the macroeconomic process. They are able to cool down economic developments or nudge them in the right direction. Naturally the success of the planned economy is in its execution, but China has so far proven remarkably skillful agile in this regard.”
What about the debt issue or the housing market bubble, which dominate economic reporting on China?
“The Chinese look at this with a great deal more nuance. Not that they deny any of the problems – these are obviously on the radar – and they take appropriate measures just in time. And that really impresses me. Chinese policymakers are extraordinarily shrewd. The expertise of the central policymakers is grossly underrated outside China.”
How does a value investor continue generating returns in an environment in which momentum is demanding the limelight?
“Markets here are momentum driven due to the conduct of local investors – there's lots of herd behavior. As a value investor, you've got to operate cautiously. Momentum can be stickier than you might think. If you sell out too soon, you can get hit hard. Real estate is expensive here, but the shorters in local project developers often burn their fingers, led by people like Jim Chanos. Real estate is the best-performing sector in China this year. And yes, it has become expensive, but local investors like tangible investments. They want to ‘cling’ to their possessions. You can't cling to equities and equity investors are not always treated very well either.”
Is corporate governance a good example of something still in its infancy?
“Yes, it is. Our message to companies is: take equity investors seriously. Many companies think that stock issuance is cheaper than debt paper. Equities are often seen by companies as toys for speculators. Companies are used to investors that only hold for a few months. But we invest for a period of three to five years in equities and try to create value together with the company. And yes, that sometimes surprises managers.”
“Incidentally, governments today put pressure on companies, for example to lower their carbon footprint. The smog problem is a serious issue and, partly under the influence of social media, the government is tackling this very hard. But that pressure is fully top-down, while in Europe companies are competing among themselves to become ‘greener than green’. And although there is now relevant regulation, enforcement remains questionable. To what degree do companies make a real effort, or do they prefer to just enjoy a glass of wine or two with the local official to settle things?”
But how are things economically in Asia?
“China is emerging from an (unofficial) recession and is now in a better place than the last three years. Naturally, in such a large economy there are always problems – the debt quota is high, but not unacceptably so. Growth is lower than the official growth numbers, but that's a good thing: 6-7% growth is not sustainable. China needs to return to a lower growth track and finds that difficult to accept. But businesses are doing better than in recent years. In Japan we don’t see any great growth, but corporates there too do notice an improvement. However, households do not really benefit yet.”
“The tragedy of Asia (outside Japan) is that income inequality tends to worsen. Non-skilled labor remains cheap, and skilled labor is increasingly well-paid. That's why families in China and Korea spend so much on education. So Asia has no shortage of problems, but if I have to give the economy a grade on a scale from one to ten, we've gone from a six to a seven.”
Does that mean Asia is ‘the place to be’ for investors?
“The growth numbers will be lower in the future. This is a classical fallacy investors make when asserting that you need to be in Asia because of GDP growth. Although that may have applied in the past, it's certainly not a valid reason any longer. Japan, China, Taiwan and Korea are all interesting due to the business dynamic (earnings power and better governance), not for their economic growth. And markets are cheap due to a weak governance discount. If that improves, we could see the 20-30% discount close. But that's a long-term view.”