Spotlight on Asia Wellington Investment Video Forum Livestream 3 March 2020 Speakers: Niraj Bhagwat, CA, Equity Portfolio Manager, Asia ex Japan Paul Cavey, Macro Strategist Moderator: Philip Brooks, CFA, Investment Director ___________________________________________________________________________________________ [Panel Discussion] Philip Brooks: Thank you very much, Sashi, and good morning everyone. Thank you very much for joining us. So joining me on the panel discussion today, we have two investment professionals from Wellington here in Asia. We have Paul Cavey who is based in our Hong Kong office. He is a macro strategist focused on the China market and broader Asian markets as well. And we have Niraj Bhagwat, joining me here live in Singapore. Niraj is the head of our Asian equity team and a career investor in the Asian equity markets. To kick off the panel, I thought we would start with the elephant in the room: the impact of the coronavirus. So Paul, to start us off, could you tell us about the impact of the virus in China, what you are seeing in the economy there, and then maybe flow-on effects to the rest of Asia, and maybe the global economy as well? Paul Cavey: Thanks. Well obviously, I mean, particularly after we have the PMI data here over the weekend, it is now realizing the economic impact of this on China is immense. We have never seen anything quite like that – quite like this, even I would say really in the 2008 financial crisis. And essentially, China’s economy came to a sudden stop during the course of February, and that meant that PMIs were down on the official version to under 30, which has never been seen in history. Even the Caixin PMI also fell very sharply. So we know that the economy in China has been affected very severely by this. 1 The other places that are being affected are obviously the neighboring economies in Asia. I guess foremost among those would be Hong Kong, where there were just some signs after the protest that the economy was beginning to stabilize at a low level, and now this has delivered a second blow, and essentially tourism and inflows from mainland are completely stopped as well as they did in China. So those two economies are probably cyclically most challenged by this. Now, in China, it does look like there are some signs that the economy is now beginning to normalize and turn around. The recovery, I think, remains very slow, and there still seems to be a lot of concern about the return of migrant workers, but it does look like the worst is over in China, and the economy should be recovering maybe to, you know, 85% levels over the course of the next couple of months or so. Where I think the impact is now, and the focus now begins to move to is the neighboring economies, and I have highlighted Hong Kong, but particularly Taiwan, Korea and Japan. Now all of those are going to be affected by the manufacturing cycle and the disruption in the supply chain that has happened. Again, we can see that across the PMI data, where there are some very strange movements in indicators that usually are quite well correlated, and this time around, reflecting the supply disruptions, they have already moved in different directions. There is also always the tourism inflows, particularly in Japan and Korea being very important. And, at the same time now in those economies, the governments are taking the outbreak very seriously, and so domestic services activity is also going to be very depressed. One interesting observation maybe to finish with is, when we look at the outlook in terms of where the economies might be over the course of the next 12 months, in China, in terms of the PMI, actually, it looks like producers are quite optimistic. So they are expecting a pretty good outturn over the course of the next 12 months. In fact, that 12-month indicator rose to the fastest level in the last five years in the China PMI that was released yesterday. 2 On the other hand, if you look at Taiwan, that same indicator for the 12-month outlook actually fell very sharply to the depths we have not seen since 2015. So I think what that is telling us is the impact in China has certainly been extremely sharp; it is probably going to be quite short. In economies like Taiwan and Korea, the impact is not quite so sharp, but the impact is going to be more prolonged. So I think it is from here that we expect to see more damage being seen in these neighbor economies as the focus of attention begins to shift away from China, as the outbreak there seems to be coming under some control. Philip Brooks: Thank you. So it feels as though – and Niraj, please chime in here as well – it feels as though there is quite a different set of reactions from rate markets versus equity markets. So, you know, last week, I think rate markets were starting to price in a pretty high probability of a global recession, versus equity markets, which I think, are reacting at least today with the market movement that we have seen overnight – much more positively. What is your take on that, Niraj? Niraj Bhagwat: So obviously, you can see what has happened since the 2008 crisis right. I mean, the equity markets are completely dependent on the rates, and what the Fed and really the central bankers are doing. And with this virus, we are once again waiting for these guys to help us. So it is no different this time. But, you know, I think Paul gave some great comments on the virus, but my view, I get asked that a lot about the virus and what we are doing. I really think that - I am not a doctor; I have no idea. I know as much as the other person who is reading the newspaper what is going to happen next. So the way I am thinking about it is that I know that my markets are – have done nothing for the last two years; they are down, and the last two years, they are flat. Meanwhile, you talked about the rates, the markets – the cost of money is already much lower than before this started. And so what I am doing is when these markets are 3 lower, I am looking business-by-business, stock-by-stock to see where the opportunity is. Because just like every other – this is no different from every other crisis. You know, we are not going to get any memo saying, OK, the crisis is over, let us buy stocks. You know, the stock market is going to run ahead of it. So that is what I am focused on. Philip Brooks: So, in the market action that we have seen perhaps in the last week or two with the significant sell- off, the rebound overnight, is your view perhaps that the worst is now priced-in? Maybe not over, but reflected in market valuations? Niraj Bhagwat: See, it is very challenging, right. I mean, I might finish this conversation, and god forbid, we have some bad news coming out from some other country. So, I hate to say that the worst is over, but what I want people to think about is that if tomorrow you get a news that this is over, are you going to regret not buying stocks or certain businesses at least? And that is how I am thinking about it – I am thinking about how there are certain businesses and certain stocks, which maybe the worst is already priced in, and which have great balance sheets and are quality companies. And if you are going to be buying them because they are cheap now, then you should be buying it rather than wait for those news, and I certainly think that a lot of negative news is kind of known in the sense that it is already being spread, people are trying to contain it, and it has gone across many countries. I mean, one example of that is, until recently, India, Indonesia were stock exceptions to the fact they did not have virus. Yesterday they had new cases of that. So I think it is really now known everywhere. Philip Brooks: Yeah, we will come back to talk about some of the more specific opportunities that you see in equity markets, but perhaps, back to you, Paul. In terms of the reaction in interest rate markets, and the increased 4 likelihood it would seem that has been priced in of a significant slowdown, perhaps a global recession, is that a view that you share? Or as you mentioned earlier, that we are starting to see, I guess a return of some of the optimism in China, and maybe for other markets, the impact might be more lasting. But do you feel that we are at an increased risk of a recession because of the impact of the virus? Paul Cavey: I think most certainly. I mean, there is obviously a lot of uncertainty about the path that the disease will take from here. But again, I mean we have never seen the Chinese economy slow as it did do during February, and that I think has severe – in fact, in itself, on its own, is enough to have big repercussions for the rest of the world. And I think those repercussions were not really appreciated enough until perhaps some of these numbers have started to be seen.