Where fear goes, opportunity follows. Here’s what you can invest in for 2019.

Recently we released our asset allocation views and outlook for 2019 which addresses the question of where to invest in for the year ahead. What’s next? What are some of the investment vehicles that can help us implement those views?

In this article, we will go on to answer the other question of what to invest in. At the end of the day, we don’t want to simply tell you what to invest, but also to arm you with the knowledge and reasoning behind our product choices.

If you’ve yet to take a look at what our views are for 2019, fret not as you can find a summarised version here:

• Global economic and earnings growth are peaking (or have peaked) but we’re not expecting earnings recession in any major markets anytime soon.

• There is disconnect between valuations and the trend in fundamentals for regional markets like Asia ex Japan. In various segments of both equities and fixed income, we think there are great opportunities in the region for investors.

• As the pendulum swung into fear mode, we believe current valuations over-discounts the region’s earnings potential and long-term fundamentals.

• Investors are coming into the fold today are advantaged with a higher margin of safety for their investments.

• The reset in sentiment last year meant that it would not take much to spark a market recovery in 2019. Any positive outcomes (e.g. US-Sino trade resolution, fiscal easing, and a pause in rate hikes) could be strong catalysts to jumpstart investor sentiment and valuations for Asian equities.

• When sentiment recovers, we’re expecting equity valuation multiples to expand and provide investors with equity returns of 20-33% from the Asia ex japan region over the next two years. 
  
  
• In the credit space, we are recommending investors to consider Emerging Markets Debt and Asian High Yield as they have relatively better risk to reward than other fixed income segments.

Actionable investment ideas for 2019

Admittedly, none of us here has a crystal ball in hand. But investors should remember that we are not here to time the bottom of the market. Our actions are guided by the philosophy of value investing and we are always on the lookout for any opportunities with an asymmetry in risk to reward. What we want to do is to position ourselves in a favourable position such that when the tide turns, investors are there to reap the rewards of their investments.

Certainly, finding the right markets and asset classes to invest in is not enough. We also need to know the various types of funds that can help us execute our investment views without forgetting about investors’ risk tolerance. Generally, risk tolerance is a spectrum ranging from conservative to aggressive. In between, there are many other risk profiles. For ease of discussion, however, our recommendations will cover the two primary buckets of risk tolerance.

The conservative investor

The profile of a conservative investor implies greater risk aversion. Therefore, the fund choices for investors in this bucket will be biased towards funds with investment mandates that are geared towards slow but steady appreciation of your capital.  While such funds are unlikely to post racy growth, their main appeal comes from their stronger downside protection.

First State Dividend Advantage A Dis SGD: A household name among conservative investors

A household name within the asset management industry, and among many investors, the First State Dividend Advantage A Dis SGD is a fund focused on investing in Asia ex Japan stocks that pay attractive dividends. First State’s reputation stems from its consistency in adhering to its conservative approach.

To the investment team, how they perceive risk and its approach to risk management is not based on the volatility of stocks, but rather a loss of capital from their investments. They always seek to invest in quality companies that are highly resilient regardless of market conditions.

Hence, much of the fund’s superior long term performance can be largely attributed to its slower, but steadier mode to capital appreciation (via lower drawdowns). Since 2008, the fund has recorded an annualised standard deviation of ~14.0%, comparing favourably to the benchmark’s ~20.0%. On the downside the fund also fared strongly against the benchmark. During the GFC, for example, the fund’s drawdown was ~-46% compared to ~-61% for the benchmark.

Chart 1: First State Dividend Advantage outshines a passive strategy in the long term.

Asian equity markets were one of the hardest hit markets in 2018. While no investor will be happy to see red in their profit and loss statements, we think fund has performed admirably relative to its peers and will be able to better shield the conservative investor from market volatility.

Eastspring Investments – Asian Low Volatility Equity Fund AS SGD: Gain more by losing less

As we mentioned in Incorporate The Low Vol Strategy Into Your Portfolio With Eastspring Investments!, some of the fund’s priorities is to introduce income and resilience as a complement to more aggressive Asian equity strategies. Its unique feature is implementing a low strategy within the Asia Pacific ex Japan region, with a secondary objective of providing income to investors.

The investment team optimises risk on the portfolio level to ensure a lower volatility level than other Asia Pacific ex Japan strategies.  With a return of -6.28% over the course of one year, the fund has certainly handled itself pretty well in the face of downward drafts in Asian markets. Its maximum drawdown in 2018 was ~-10.5%, comparing favourably to the MSCI AC Asia Pacific ex Japan drawdown of ~-18.5%. To that end, we think the fund has been fairly successful in implementing its objectives.

Chart 2: Lower drawdowns achieved by low volatility strategy.

From its lowest point the fund only needs to gain ~12% to return to its one-year high water mark whereas the index has to appreciate by a much higher value of ~23%. Such “savings” highlight the trade-off between risk and return, and also the practicality of a low volatility strategy in helping you attain your long-term goal of capital appreciation.

United Asian High Yield Bond Acc SGD-H: Balancing conviction with a defensive carry positioning

Aside from Eastspring Investments – Asian High Yield Bond ASDM SGD-H, which we have gone through in a previous article, another product we think the conservative investor can consider is the United Asian High Yield Bond Acc SGD-H.

In the past we have always advocated diversification when investing in bond funds to reduce exposures relating to portfolio concentration and defaults. Including additional credits in a bond portfolio or investing across various industries are ways to sidestep the risk of defaults and also helps the fund to achieve portfolio diversification.

However, the fund undertakes a slightly different approach, preferring to hold a more concentrated portfolio (46 issues) of high quality credits. From their perspectives, the fund is likely to be less impacted by price volatility in periods of market uncertainty even though selecting higher quality credits may have a dampening effect on its overall yield.

As of end December 2018, the fund has a gross yield to maturity of 8.60% p.a. compared to its peer average of ~10%.  The fund also has a relatively higher allocation to China’s Real Estate sector compared to its peers (64.3% of funds in China, 53.1% in Real Estate). Despite some of perceived risks as stated above, we believe the fund has proven its mettle given its resilient performance across various periods (including 2018) as it achieved the lowest maximum drawdown (of ~-6% in 2018) among its peers.

The aggressive investor

On the other hand, an aggressive investor with time on his side has a greater risk tolerance. Therefore, his investment horizon tends to be longer, and his investment thesis may include secular long term trends. For instance, the most discerning secular trend in Asia ex Japan is a rising middle class. As wealth in the region is expected to rise significantly over the coming years, there is great investment potential especially when viewed from a long-term perspective.

BlackRock Asian Growth Leaders A2 USD: Positioned to benefit from cyclical recoveries

When we first included BlackRock Asian Growth Leaders A2 USD into our Recommended Funds List, we had great expectations for the fund given its past consistent track record. But as a host of issues left Asian markets reeling, the fund’s inclination towards cyclical firms naturally means that it has higher correlations with Asian markets and economies. Consequently, the fund underperformed many of its peers and the MSCI Asia ex Japan index.

An aggressive strategy is like a double-edged sword. In good times, cyclical stocks are likely to outperform when growth exceeds expectations, and vice versa. However, we cannot let recency bias cloud our perspectives. As we are expecting sentiment and valuations to recover in the near to medium term, we remain upbeat about the fund given its track record of high capture ratios during periods of stock market recovery (2015 to 2017).

Chart 3: BlackRock’s fund exhibits strong 3-year rolling capture ratios (upside capture ratio divided by downside capture ratio) during periods of market recovery.

Do note that the fund’s exposure changes over time, shifting across geography and sectors according to their views on the market cycle. Currently, it is most underweight in China as it does not hold stocks of large Chinese internet companies (Baidu, Alibaba, Tencent) as of end December 2018. Instead, its overweight position lies in India which positions the fund to benefit from the nation’s cyclical recovery and long term growth potential.

Threadneedle (Lux) Asia Contrarian Equity AU Acc USD: Hidden gems are sometimes best found in unwanted spaces

There are many ways to attain alpha, and in some cases, excess returns are best achieved when a fund manager buys into opportunities the market fails to see over the near term. As its name suggests, Threadneedle (Lux) Asia Contrarian Equity AU Acc USD goes against the herd to scoop up un-favoured companies that have strong potential for re-rating in the long term.

It is the nature of the fund’s contrarian approach which makes the fund’s performance more volatile than some of its conservatively managed peers. Nonetheless, we believe the fund’s strategy will give the fund high upside potential in periods of market recovery as stocks valued significantly below their intrinsic value tends to perform strongly on the rebound.

Unlike BlackRock, the Threadneedle fund holds an overweight position in China and Chinese internet companies as of end-December 2018, as the sell-off in Chinese equities empowered the fund to further add on to its positions. Those who want some moderation in terms of exposures when investing in Asia ex Japan can consider allocating funds equally to Threadneedle (Lux) Asia Contrarian Equity AU Acc USD and BlackRock Asian Growth Leaders A2 USD for a balanced exposure to investing in the region.

Fidelity Asian High Yield A-MDIST-SGD (hegded): For the yield hunter

Spreads for Asian high yield widened significantly in 2018 from ~320bps to ~620bps by end-2018 on the back of higher bond supply and jitters in the market. While positive news from China’s fiscal easing as and progress on the US-Sino trade front brought spreads back to ~570bps (as of 18 January), we believe this segment still offers good value to investors relative to the previous years.

Chart 4: Yield to maturity for Asian BB bucket bonds & real estate bonds

The fund’s diversified approach (>200 holdings as of 31 December 2018) allows it the freedom to include relatively riskier but higher yielding credits. Fidelity Asian High Yield A-MDIST-SGD (hegded) current yield to maturity stands at 10.9% p.a. (as of end December 2018) which stands as one of the more aggressively positioned Asian High Yield funds (alongside Allianz Dynamic Asian High Yield Bond CL AMG Dis SGD) on our platform.

What about emerging markets debt?

For both the conservative and aggressive investor, we think the Neuberger Berman Emerging Market Debt Hard Currency A Mdis SGD-H and Neuberger Berman Short Duration Emerging Market Debt A MDis SGD-H are suitable products for both types of investors. We like them largely due to their hard currency investment mandate which makes investors’ returns less susceptible to local currency devaluation. If you look at their performance respective fixed income categories (Fixed Income & Short Duration Bond) under our Fund Selector, these two funds have been very resilient amongst their respective peers.

While more aggressive investors may prefer to go risk-on in the local currency bond market to benefit from higher yields and any potential dollar weakness moving forward, investors are reminded that capital preservation is often the first priority in our bond portfolios. The uncertainty surrounding the macroeconomic picture of emerging markets requires investors to have a nuanced understanding of the various local currency bond markets, as well as a stomach for increased volatility stemming from foreign exchange fluctuations. 

[All returns in SGD terms unless otherwise stated as of 31 December 2018]

The Research Team is part of iFAST Financial Pte Ltd.