Amid global supply bottlenecks and China’s policy pivot in 2021, the focus in Asia will be on reopenings in many countries as vaccination numbers rise, and the extent to which they help ease some of the supply chain disruptions. Many Asian economies have moved from a “zero-Covid” to a “living with Covid” approach, with the exception of Greater China, which is sticking to the former. Reopenings should unleash stronger growth in countries that have been severely lagging.
However, reopenings are unlikely to bring the kind of normalcy to the markets that investors are hoping for. We expect disruptions to dissipate but not disappear, and asset markets to move in waves in 2022. Major central banks are expected to slowly take their foot off the accelerator in the next several months. While the key focus is on the Fed and the impact of less Fed liquidity on emerging markets (EM), Asia’s policymakers will have to continue to strike a balance between inflation and growth. Already Korea and Singapore have led the way by tightening policy due to inflationary pressures. The likes of India, China, and Korea continue to see producer prices rising, and concerns are growing that inflation could seep into consumer prices. For example, the market is pricing over 100 basis points (bps) of hikes in India over the next year and nearly 200 bps in the Philippines. Meanwhile, Indonesia, which has often battled high inflation in the past, is seeing very subdued inflation.
Source: Bloomberg as of October 2021. For illustrative purposes only. We are not soliciting or recommending any action based on this material.
Markets will eye the responses of Asian central banks, especially with other EM central banks having front-loaded their rate hikes as inflation accelerates. Inflation has been less of a concern than in the West, but we expect it to pick up as economies reopen and growth starts to improve. While fiscal drags are a thing of the past, incremental fiscal packages are now on their last legs, not only in the US, but also in many parts of Asia that have been able to spend, like Singapore. Overall, we remain confident that a regime shift toward reflation is underway over the next several years, particularly in the West.
China looms large over global markets after its big strategy pivot in 2021. The impact of the regulatory ratcheting on the private sector’s confidence and willingness to invest bears close watching. The regulatory changes reached all the way into the previously untouchable real estate sector, which exemplifies accumulated wealth in China and accounts for upwards of 25% of its growth. Support will shift from property to other parts of the economy – including small and medium enterprises (SMEs) and strategic initiatives such as semiconductor development – and the government will no longer look to the real estate sector as a means to prop up growth.
Of course, even successful transitions take time and are almost always bumpy. These developments in China will reverberate through many parts of the global economy. Economies and sectors that rely on China’s unmatched demand for commodities and real estate-related goods will feel the brunt of this strategic shift. It will also act as a partial offset to global reflationary forces.
While export growth has held stronger for longer, it will likely cool in 2022 as countries like Vietnam and Malaysia reopen and the West slowly gets a grip on many of its own supply issues in satisfying current demand. The wildcard in China’s outlook is whether more social rebalancing policies are coming once the risks around the property sector recede.
Climate change has become an important global issue, and Asia is likely to see ramped-up investments in decarbonization. Japan seeks to be the climate change leader in Asia. Newly elected Prime Minister Fumio Kishida announced a US$70 billion commitment over the next five years to help Asia transition from fossil fuel dependency. However, at the UN Climate Change Conference (COP26), Japan, along with China and South Korea, did not commit to stop financing fossil fuel projects, while 20 other countries, including the US and Canada, did. Phasing out coal will be very difficult for many countries in the region, as it continues to provide a cheap source of energy.
While the region may be lagging Europe in particular, Japan and Singapore are pushing for investments across Asia. The financial burden for Southeast Asia for capturing carbon is quite high. According to an International Energy Agency report, nearly US$1 billion would have to be invested yearly from 2025 to 2030 to achieve their carbon capture goals. We expect to see more investment in that direction, albeit at a slower pace post-Covid.1
While markets may remain choppy in 2022, we expect equities, especially in developed markets, to benefit first when bottlenecks start to clear toward the end of the year. We could see some opportunities emerge within Asian equity markets, which we are closely monitoring. However, for now many of these markets remain unattractive from a valuation perspective, including India, Taiwan, and Hong Kong equities.
We find Japanese equities attractive and expect them to benefit from the normalization of supply chains, especially as chipmakers increase supply to the auto sector, which we’re already seeing. These developments and potential for fresh reforms under the new administration signal better days ahead.
While boosting exposure to a global cyclical like Japan, we are also reducing other early-cycle positions in an effort to balance cyclicality with more sustainable growth allocations, including new-energy assets and allocations to a “quality” basket. Such movements embrace the fast-approaching midpoint of this new cycle.
Unlike those who call the China A-share market “uninvestable,” we see plenty of selective opportunities in the market, which will require a more active management approach. That said, the overall market will be impacted by the negative credit impulse. China’s “dual circulation” economy, which aims to reduce the nation’s dependency on external markets and boost domestic consumption and industrial self-sufficiency, will be conducive to investors who understand the nuances and are comfortable with a more targeted approach.
In credit, we see scope for EM to catch up in growth in 2022, which can be supportive of credit spreads. EM debt has lagged its developed market counterparts in 2021, but only marginally. We expect local-currency fixed income, where EM central banks have spent a good portion of 2021 raising policy rates, will start to look very appealing sometime in 2022.
As recent default situations in China show, an active investor can position for the winners, who will benefit as those who crossed the “three red lines” on asset-liability and debt ratios fade away. In the meantime, we still see opportunity in Asia investment grade (IG) credit. China property has been the epicenter of concern in the Asia credit markets, while the rest have been left relatively unscathed. Asia IG has been clearly differentiated, and we maintain our high conviction in this asset class.
1IEA, “Carbon Capture, Utilisation and Storage: The Opportunity in Southeast Asia,” published June 2021. Please see https://www.iea.org/reports/carbon-capture-utilisation-and-storage-the-opportunity-in-southeast-asia/executive-summary
For more economic and asset class insights, see our full 2022 Investment Outlook: Opportunities in a Climate of Change.
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