Asia’s Innovative Growth Companies Take Center Stage
Following a healthy correction in parts of Asia’s equity markets, valuations for innovative companies are looking attractive in our view.
There are three key ingredients needed for innovation-led economic growth: large addressable markets; substantial entrepreneurial talent; and sustainable sources of capital. Asia has them all.
Many policymakers in Asia have made innovation a national, strategic priority. The global share of research and development spending by Asian companies surpassed that of U.S. companies in 2011, and the gap continued to widen in 2020. The effort has given rise to numerous research hubs equipped with good infrastructure and skilled workers.
Overall, the conditions in Asia are very similar to those found in the U.S. in the 1970’s when the big bang of innovation took place. Many of the world-class companies we know today—such as Microsoft, Genentech and Nike—were born in that period and are still leading innovation today. These created tremendous growth for investors and we believe Asia could follow the U.S.’ footsteps.
A diverse universe of innovative companies
In our view, innovation is a key sustainable source of economic moat creation across all industries. Many investors associate innovation simply with breakthrough products and services that allow companies to disrupt existing industries, but this is not the case. Innovation comes in all shapes and sizes. It can be disruptive, but it can also be incremental, compounding over the long term.
For the Matthews Asia Innovative Growth Strategy, we look for companies that can create sustainable value through innovation in their products, services, processes, business models, management, use of technology, or approach to creating, expanding or servicing their markets. In our view innovation happens across all levels of corporate structure, not just products and services. Sometimes a company can have great marketing, or be successful in their corporate strategy, and still be very innovative.
This focus leads to an emphasis on technology, the internet, heath care and other service-orientated industries such as discretionary, staples and financials. While we would typically avoid mature companies in certain industries that we believe lack innovation, such as utilities or industrials, this could change if we detect innovation among players in the industries.
From an investment perspective, we aim to find innovative companies in the early stages of their growth, and hold them until their growth slows. Many of these opportunities have long, multi-year and even multi-decade growth trajectories and provide us with attractive long-term investment opportunities.
Where to find innovation in Asia
In our three decades of investing in Asia, we have seen a dramatic transformation of the opportunity set. Today, investors have a choice of many exciting companies in sophisticated industries. Different stages of growth across various Asian economies present unique investment opportunities, from artificial intelligence (AI) and health care, to education and basic banking services.
In South Korea, Hong Kong and Singapore, for example, we see innovation driven by aging populations in biopharma and factory automation. In China, biotechnology and various kinds of internet services are significant economic contributors.
For the Matthews Asia Innovative Growth Strategy, China has long been an overweight in the portfolio. Many industries, such as health care, are still at an early stage of growth in China compared to their global peers. Mobile internet penetration in China is among the highest in the world, and the country is often leading innovation by creating new markets and services in the mobile internet space. We are also seeing the growth of FinTech and a broad range of online services.
Outside of China, we are becoming increasingly constructive on India, where we find innovation in basic banking services with the introduction of digital bank initiatives. Some Indian banks have leapfrogged by adopting the latest in technology, be it digital banking products and services or AI to transform front and back office operations. Equity valuations, however, have been much more expensive compared to China in recent years, and therefore limited the opportunity. With the reversal of that trend, India is now the Strategy’s second largest country weight.
Southeast Asia is a region the Strategy has had minimal exposure to in recent years. Over the last 12 months, however, we have slowly increased the portfolio’s weighting to Indonesia and Thailand. In our view the ASEAN region, which also includes Malaysia, the Philippines and Vietnam, holds exciting potential despite still being relatively poor with a middle class that is still developing.
Increasingly we see innovative companies that address environmental, social and governance (ESG) issues across Asia. Health care is an area where innovative companies are making great strides on the social front for improving quality of life for a broader range of patients across the developing world, generating compelling growth opportunities for long-term investors. We also expect that as disposable incomes rise, Asian consumers will turn towards brands that are environmentally responsible and socially ethical.
Is now a good time to invest?
Following a healthy correction in parts of Asia’s equity markets, particularly China, valuations for innovative companies are looking particularly attractive in our view. We tend to look at valuations from many angles, such as in relation to a company’s own historical averages, as well as in relation to a company’s global industry peers and counterparts. On both front, we find many innovative companies in Asia at appealing levels today. As valuations were elevated in 2020, current levels provide a fertile hunting ground for companies that are innovating in areas such as business strategy, business models, products and services, marketing and human capital.
Meanwhile, economic fundamentals across much of Asia are improving. In many parts of the region, we see a return to normalcy, leading to better economic prospects for businesses. Parts of Asia have progressed from recovery to expansion. China has seen a very strong V-shaped recovery and remains poised for continued growth. In our view, there has been a disconnect between Chinese equity prices, which were down in the quarter, and China’s long-term economic prospects, which we believe remain bright. Looking ahead, earnings growth, liquidity and valuations all appear supportive of Asia’s equity markets. We expect strong corporate earnings across Asia in 2021 as the global recovery continues to expand.