14 January 2021

How to Think Big in Asian Small Caps

Author:

How to Think Big in Asian Small Caps

Powerful structural trends are creating fertile ground for growth in Asia’s smaller companies. The momentum behind clean energy, automation and technology, and urbanization could be strong drivers of returns for these small companies, which represent over 90% of all listed companies in Asia ex Japan.1 The market offers a plethora of investment opportunities across different sectors, industries, and markets. Yet for various reasons, small caps are often overlooked, under-owned, and in many cases undervalued. Head of Asia ex Japan Equities Elizabeth Soon, who has been investing in the Asian small cap market for PineBridge for more than a decade, answers some frequently asked questions about this compelling asset class.

Q: Why do Asia ex Japan small-cap stocks, which often are perceived as risky, present an opportunity?

A: Compared to their larger counterparts, Asian small caps often are under-researched, which creates mispricing opportunities. Moreover, with technology increasingly altering business models, ownership in the profit pool of various industries is changing hands, and new winners are emerging. We seek to unlock hidden value from underpriced but high-quality companies that can potentially compound capital over time. Based on our experience, small-cap companies are well-positioned to benefit from long-term growth drivers in Asia, such as urbanization, environmental concerns and clean energy, and advances in information technology and automation. The intersection of Asia’s growing high-tech prowess with pent-up consumer demand in the world’s most populous and fastest-growing region is probably unprecedented in history and sets up new opportunities for investors.

Q: How do you identify underpriced stocks?

A: Our approach is an intuitive and consistent process of bottom-up, fundamental-based stock selection, which has served our investors well through various market cycles. We start with a vast universe of companies and industries far beyond the benchmark and conduct rigorous research to determine which ones meet our core criteria: namely, unique competitive advantages, high quality management, and reasonable valuations. Out of this vast universe, our portfolio consists of just 50 to 80 high-conviction companies.2 This careful vetting process leverages the expertise and experience of an on-the-ground team of investment professionals across Asia ex Japan that can gather local insights and act on them quickly. 

Q: How do you determine when to sell a stock?

A: While we are long-term investors, there are times when we opt to sell shares, such as when a company’s management team changes its strategy, if it overpromises and under-delivers, or if the quality of management deteriorates significantly. We also may sell when shares reach our target price or when we believe other stocks present significantly better opportunities.

Q: How do you manage volatility and risk?

A: We incorporate risk management at every stage of our investment process, including analysis of environmental, social, and governance (ESG) factors. We think it’s important to emphasize that stock price volatility is not necessarily synonymous with risk; volatility creates opportunity, too, especially for long-term investors seeking an entry point in companies with strong growth potential at a lower price. In the short term, though, especially during times of market stress, small caps may bear the brunt of selling pressure first because markets for these stocks tend to be less liquid than those for large-cap stocks. Yet despite the essentially technical pricing pressure of a selloff, the intrinsic values of the stocks under siege typically haven’t changed; only current nominal prices have shifted, which matters to those with a short-term view but shouldn’t concern long-term investors very much. As valuations fell after the Covid-19 market selloff, for instance, we accumulated more shares of some companies already in our portfolio, underscoring our high conviction in their future. We also added new companies we had been eyeing for some time, whose prices had become more reasonable.

Q: Why is now a good time to invest in Asia ex Japan small cap equities?

A: New mispricing opportunities in small caps have emerged since the pandemic. An early global recovery phase can be rich in investment opportunities as valuations catch up to company fundamentals. We’ve seen a growing divergence in performance between the stocks that delivered continued growth versus those that experienced near-term slowdowns in demand amid an uncertain operating environment induced by Covid-19, among other exogenous factors. We see some opportunities to benefit from this divergence and may look to accumulate select quality stocks for which structural demand drivers remain intact, at the right valuations.

Over the long run, we believe developments in automation, environment and energy, information technology, and urbanization, along with changing dynamics for original equipment manufacturers (OEMs), are among the key trends that will continue to drive growth in the region. China is making great strides in both autonomous vehicles and industrial automation. Asia remains important to the global supply chain, although manufacturing hubs may become less concentrated in China and more strategically located across the region. We expect the trend toward urbanization to necessitate infrastructure investments for new roads and airports, for example, to move products across borders.

As these themes unfold, they could bring about profound changes in the global economic order and new opportunities for companies. In a world in constant flux, investors may need to grapple with more volatility-causing geopolitical events. But as we’ve said before, the beauty of volatility is the opportunity that comes with it.

For more of our views on macro trends moving Asian asset markets, see our 2021 Asia Economic Outlook.

Footnotes

1 Source: Bloomberg as of 31 December 2019.
2 As of 31 December 2020.


Disclosure

Investing involves risk, including possible loss of principal. The information presented herein is for illustrative purposes only and should not be considered reflective of any particular security, strategy, or investment product. It represents a general assessment of the markets at a specific time and is not a guarantee of future performance results or market movement. This material does not constitute investment, financial, legal, tax, or other advice; investment research or a product of any research department; an offer to sell, or the solicitation of an offer to purchase any security or interest in a fund; or a recommendation for any investment product or strategy. PineBridge Investments is not soliciting or recommending any action based on information in this document. Any opinions, projections, or forward-looking statements expressed herein are solely those of the author, may differ from the views or opinions expressed by other areas of PineBridge Investments, and are only for general informational purposes as of the date indicated. Views may be based on third-party data that has not been independently verified. PineBridge Investments does not approve of or endorse any re-publication or sharing of this material. You are solely responsible for deciding whether any investment product or strategy is appropriate for you based upon your investment goals, financial situation and tolerance for risk.

Banner Curve

Related Insights

View More Insights