Invesco Canada blog

Insights, commentary and investing expertise

Mark Jason | June 2, 2016

China and Japan: Valuations are standing in the way of opportunity

While the first quarter of 2016 was negative for Chinese equities, the Invesco International and Global Growth team is cautiously optimistic on China in the near term given the government’s stimulus measures. We’re even more optimistic in the longer term as China transitions from an export-led economy to a consumer- and services-driven one. In Japan, however, we see that government stimulus has not been effective, and growth remains elusive.

China: Valuations look too high in most sectors

The Shanghai Stock Exchange Composite Index was down almost 15% in the first quarter, and the Hang Seng Index was down more than 5%.1 And yet, the price-to-earnings (P/E) ratio of Chinese equities is roughly at its average for the past five years,2 so the region overall is offering less growth for the same valuation.

In terms of sectors, we’re seeing pockets of opportunity right now from an EQV (Earnings, Quality and Valuation) perspective, particularly in consumer staples, where valuations have gone against the trend and come down. Two of our newer names, WH Group Ltd. and Kweichow Moutai Co., Ltd. (1.87% and 1.66% of Invesco International Growth Class, respectively, and 1.56% and 1.45% of Invesco Global Growth Class, respectively), are both in the Chinese consumer staples sector. WH Group, which we added in the second quarter of 2015, is the largest pork producer in the world, and Kweichow Moutai, which we added in the third quarter of 2015, is an iconic brand in Chinese spirits.

Japan: Growth outlook is subdued

In Japan, foreign investors seem to be losing faith as they were large net sellers of Japanese equities in the first quarter. Economic stimulus from the Bank of Japan (BoJ) has not been effective, and we see risk of a weaker profit cycle and strengthening yen hurting Japan’s export-driven economy.

We believe the government may be hitting a point of policy exhaustion after the massive expansion of the BoJ’s balance sheet as well as taking interest rates to a negative level. The economy saw negative gross-domestic-product (GDP) growth again in the final quarter of fiscal year 2015, and fiscal year 2016 is expected to bring only 0.5% of GDP growth for the year.3

The weak economy, lack of capital expenditures and strong yen were significant contributors to negative earnings-per-share revisions, which were down 4% during the first quarter.4 The consensus return on equity for Japanese equities over the next 12 months is projected to be less than 10%.5 We’re constantly looking for opportunities in Japan, especially in the face of market pullbacks. The forward P/E ratio of the MSCI Japan Index is 12.7 times versus its five-year average of 13.5 times,6 meaning that new opportunities may turn up if Japan continues to underperform. However, the main limiting factor, from our point of view, is that high-quality companies are still expensive from a valuation standpoint.

Looking at Asia overall, valuations currently look attractive in Southeast Asian countries such as the Philippines, Thailand, Singapore, Indonesia and Malaysia.

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Note: Mark Jason is a senior portfolio manager with the Invesco International and Global Growth team at Invesco Ltd. Invesco Canada is an indirect subsidiary of Invesco Ltd.

The above companies were selected for illustrative purposes only and are not intended to convey specific investment advice

All data is provided by Invesco unless otherwise noted. An investment cannot be made in an index. Diversification does not guarantee a profit or eliminate the risk of loss.

1 Source: Bloomberg L.P. Measured in U.S.-dollar terms, as at March 31, 2016.
2 Source: Bloomberg L.P. Chinese equities are represented by the MSCI China Index.
3 Source: Bloomberg L.P.
4 Source: FactSet Research Systems Inc.
5 Source: FactSet Research Systems Inc. Japanese equities are represented by the MSCI Japan Index.
6 Source: Bloomberg L.P.

The Shanghai Stock Exchange Composite Index is a capitalization-weighted index that tracks the daily price performance of all A-shares and B-shares listed on the Shanghai Stock Exchange.

The Hang Seng Index is an unmanaged index considered representative of the Hong Kong stock market and includes the largest companies traded on the Hong Kong Stock Exchange.

The MSCI Japan Index measures the performance of the large- and mid-cap segments of the Japanese market.

The MSCI China Index is an unmanaged index considered representative of Chinese stocks.
Price-to-earnings (P/E) ratio, also called multiple, measures a stock’s valuation by dividing its share price by its earnings per share. Forward P/E ratio is one measure of the P/E ratio calculated with forecasted earnings, usually for the next 12 months or next full fiscal year, rather than current earnings.

Return on equity (ROE) is a measure of profitability, calculated as net income as a percentage of shareholders’ equity.

The risks of investing in securities of foreign issuers, including emerging-market issuers, can include fluctuations in foreign currencies, political and economic instability, and foreign-taxation issues. The investment techniques and risk analysis used by the portfolio managers may not produce the desired results.