Thematic investing, or investing based on emerging themes, is
fraught with some danger. Many people invest in the latest
hot theme and get burned soon enough. Others mindlessly put their money
into a company based on a theme without regard to valuation or quality of
management – another sure-fire way to end up in the red.
And let’s face it: the future is inherently uncertain. If picking
future investment themes was easy, everyone would be sipping piña coladas in
Bora Bora. The best investors know this and place their bets according to
probabilities. That is, they invest when the odds are in their favour and
invest large amounts when those odds offer significant upside with minimal
risk.
The question then becomes this: which investment themes might give
you the best odds of success over the next decade? It’s a tough question. If
there’s one thing for which I have a high degree of conviction, it’s that the
world is currently drowning in debt and that debt will need to be cut, one way
or another. If that’s right, you’ll want to avoid sectors which have benefited
most from the three decade long expansion in credit. The finance sector is an
obvious one and the bear market
here is likely to last decades. The tech sector is another – think of all the
tech start-ups and others which will evaporate when the silly venture
capitalists funding them don’t have access to cheap and abundant money. There
are many other sectors which will suffer too.
In other words, you’ll probably want investment exposure to themes
which may still thrive in a world of shrinking credit. There won’t be many of
them but Asia Confidential has a few ideas. Asian outbound tourism has been,
and should continue to be, a strong theme which transforms the global tourism
sector. Privatisation of state-owned assets appears a sure thing – in the
developed world as well as China – given bloated government balance sheets.
Acquirers with deep pockets should benefit. Low to mid-end consumption should
do well as developed world consumers tighten their belts while Asian ones start
to spend more with increased wages. Finally, gold is likely to thrive as the
credit boom turns to bust and faith in government policies and currencies is
shaken.
Asia outbound tourism
I remember doing a research report as a sell-side analyst in
Indonesia in early 2006 looking at the potential boom in visitors to the
beautiful beaches of Bali due to a growing influx of Chinese tourists. It was
considered then a far-flung theory as Bali was still suffering from a series of
terrorist bombings and Chinese tourists only accounted for about 6% of total
visitors to the island. Since then though, Balinese tourism has surged and the
Chinese have played a significant part in that. China now tops Japan as the
country with the second-largest number of visitors to Bali behind Australia.
And Chinese tourists account for nearly 12% of total visitors to the island,
double that of 2006.
Back then, there were no airlines offering direct flights from
China to Bali. Now there are several. That’s not counting the many charter
flights which the Chinese take to the island. In Bali today, there are also
slews of foot massage shops, jewellers, status artwork and other items catering
to Chinese consumers, Chinese restaurants and Chinese speaking guides.
These trends are not only happening in Bali, but in every tourist
destination across the world. Chinese tourists are driving growth and their
needs are being increasingly catered too. And those needs are very different to
tourists from the U.S., Europe or Japan. For instance, Chinese tourists spend
much more money on shopping vis-a-vis hotels. Various studies suggest two-thirds
of Chinese overseas tourists spend more than 20% of their budgets on shopping
with 25% spending greater than 50% of their budgets on shopping.
The trend of increasing Chinese outbound tourism looks set to
continue. In 2012, the Chinese outbound tourism market became the world’s
largest, moving ahead of the U.S. and Germany. The number of annual Chinese
outbound tourists now totals 83 million, up almost 8x since 2000.
The great thing about this trend is that it appears to be in its
infancy. Think about how the Japanese, having fully recovered from the ravages
of World War Two, took to the skies from the 1970s and transformed tourism
destinations such as Hawaii and Australia’s Gold Coast. They also transformed
the airlines, hotels, amusement parks, travel agents, restaurant chains, spa
and beach resorts as well as duty free stores which catered to them.
The same thing is likely to happen as China and other Asian
countries catch the travel bug. The companies which best fulfil their needs
will be big winners.
I like the Macau casino operators in the long-term even though
valuations are somewhat stretched at present. Macau accounts for almost 30% of
Chinese outbound tourism and that number should increase as transport
infrastructure to the territory improves. Among the casino companies,
U.S.-headquartered Las Vegas Sands (NYSE:LVS) is probably the pick of the
bunch.
I also like Hong Kong retailers as a play on Chinese tourism. Hong
Kong is still the dominant destination for Chinese tourists and is likely to
remain so. Though be wary of some of the high-end retailers who’ve benefited
from the lavish spending habits of corrupt Communist Party officials. That may
not last.
Finally, hotel operators with significant Asian exposure should do
well. Thailand conglomerate, Minor International (SET:MINT), is my preferred
stock in this space.
Privatisation of state-owned assets
In 2011, the world’s biggest private equity firms were busy
raising money to take advantage of over-indebted European countries needing to
shed state-owned assets to stay afloat. Wholesale asset sales never really
happened though as these countries papered over cracks, with the help of a few
trillion dollars from the European Central Bank.
Europe’s problems haven’t gone away though. And the problems
aren’t limited to Europe, as governments in the U.S., U.K, Japan and China have
similar issues. Put simply, all of them have too much government debt. And one
way or another, that debt will need to be cut back. Whether through
write-downs, austerity, inflation or a combination of all of them, the debt
will be reduced.
One way to cut debt is through the privatisation of state-owned
assets. I think that this will be one of the enduring investment themes of the
next decade. Ironically, it seems probable that the paragon of communism,
China, will be the first to accelerate the sale of government-owned assets in
an effort to reduce the influence of state-owned enterprises (SOEs) and
encourage competition.
Which companies will benefit from the broad-based sale of
state-owned assets? Well, most would point to private equity firms such as
Blackstone and TPG. But I’d suggest otherwise as these firms rely on outside
funds and in a credit-deprived world, these funds will dry up.
Instead, I’d look to conglomerates with deep pockets and minimal
debt to take advantage of asset sales. Some of the large North American
companies such as Berkshire Hathaway (NYSE:BRK-A) and Brookfield Asset
Management (NYSE:BAM) should be in poll position.
In Asia, it’s a bit trickier as the private companies bidding on
state-owned assets will need high-level government connections to be
successful. Particularly in Japan and China.
Low to mid-end consumption
In the West, excess debt and declining real wages have resulted in
consumers cutting back on spending since 2008. That’s been bad for high-end
retailers but good for businesses such as dollar stores. It’s a trend which is
likely to continue for many years to come.
In Asia, the situation is very different. Consumer balance sheets
are in great shape, barring South Korea. Savings are abundant while debt is
minimal. Better yet, wages are growing rapidly, even in slowing economies such
as China, India and Indonesia. Excess savings and rising wages augur well for
future spending.
Moreover, you have countries such as China which are encouraging
people to spend more. It’s part of China’s strategy to re-balance its economy
away from being over-reliant on investment for economic growth.
As a consequence, low to mid-end consumer companies across the
globe are likely to do well going forward. In the developed world, consumers
will continue to trade down. In the developing world, you should have people
spending more, albeit still at the lower end given most of the region,
including China and India, remains poor.
I’m not an expert on consumer companies in the developed world but
discount operators should outperform from here. Dollar store companies in the
U.S., U.K. and Australia have recently underperformed on hopes of economic
recovery, which may provide some interesting potential entry points.
In my neighbourhood of Asia, Hong Kong headquartered, Giordano
(HKSE:709), is one of the best low-end clothing retailers in the region and is
inexpensive at current levels. Other exceptional consumer brands worth looking
at include Chinese beer giant, Tsingtao Brewery (HKSE:168), and Thailand
television operator, BEC World (BSE: BEC).
Gold
Long-time readers will know my preference for having gold in an
investment portfolio. Gold has two things going for it. First, if you think
that debt contraction is probable in future as I do, that brings risks to the
world’s financial system. After all, the still thinly-capitalised banks own
much of the debt which will need to be restructured/written down. Therefore,
it’s be wise to own assets which sit outside the financial system. That’s where
gold comes into play.
Secondly, the current policies of the world’s central banks may be
preventing the contraction in debt which needs to occur to cleanse the
financial system. In my view, central bank moves to reflate the credit bubble
are likely to lead to a larger credit bust down the track. In many ways, gold
is the anti-central bank. The less faith that you have in central banks, the
more gold that you should own.
As for the best ways to play gold, exchange-traded funds (ETFs)
and stocks both have counterparty risks, though I do find the latter attractive
given they’re arguably the most hated assets on the planet. Physical gold is my
preferred way to play this theme though as it’s the least risky of these
options.
Agriculture
If a prudent investment strategy involves holding physical assets
outside of the financial system, then agriculture should also be considered.
Unlike many of the hard commodities, agriculture has a serious supply-demand
imbalance which should result in prices remaining elevated for years to come.
Agriculture inventories are at multi-decade lows. That means
inventories are being drawn down as consumption exceeds production. Global
agricultural production has only increased by 2.1% per annum over the past
decade and the OECD forecasts that growth rate will decline to 1.5% over the
next ten years.
The principle reasons behind the lack of supply are limited
expansion of agricultural land, increasing environmental pressures, rising
production costs and growing resource constraints.
Meanwhile, demand continues to grow solidly primarily due to
growing populations, higher incomes and changing diets (higher calorific
intakes) in developing markets. On the latter, for example, it’s well known
that meat consumption increases as a country becomes wealthier. The OECD
predicts that the developing world will account for 80% of the growth in meat
consumption over the next decade.
While droughts in recent years and subsequent surges in
agricultural prices have grabbed television headlines, it’s worth remembering
that these events merely exacerbated the already tight supply in soft
commodities. And it seems that tight supply will only worsen unless there are
major technological breakthroughs to improve agricultural productivity.
As for where best to get investment exposure to agriculture, I’d
suggest you look at commodities where supply-demand imbalances may further
deteriorate, such as sugar, coffee and potash.
Infrastructure
In the U.S., good arguments have been made for an urgent upgrade
of creaking infrastructure. Increased spend on infrastructure could create
jobs, improve security at ports and electricity grids as well as keep the U.S.
competitive with China - all of which could be financed at exceedingly low
interest rates thanks to Mr Bernanke’s quackery. But political gridlock means
it probably won’t happen.
In the developing world, the problem is not of repairing
infrastructure, but building it. Some countries such as Singapore and China are
host to some of the world’s best highways, airports and ports. Others such as
India and Indonesia remain in the dark ages.
For instance, Indonesia spends just 1.7% of GDP on infrastructure,
compared to China’s 8%. More than 40% of Indonesia’s roads remain unpaved. The
country has only 11 miles of railway line per person, less than half that of
Thailand, India or China.
Anyone who’s been in a traffic jam in Jakarta can attest to the
underspend. Are traffic jams in Jakarta the worst of any capital city in the
world, I wonder?
The likes of Indonesia don’t have any choice but to improve
infrastructure, and fast. Otherwise, supply bottlenecks will choke economic
growth. The cement sector in Indonesia is an oligopoly and a great way to play
to the increased infrastructure spend to come. Indocement (JSE: INTP) is the
pick of the bunch.
