In late 2001 I was dispatched to China on a special mission. A decade and a half after I arrived at UBS’s tiny office in Shanghai, China’s economy is a staggering eight times as big (and UBS employs many hundreds of people on the ground). In the meantime, investors in Chinese and other Asian stocks have done very nicely. This massive wave of economic growth will continue. Investors should act accordingly.
Except for those living under a rock, pretty much all of us know by now that China’s economy grew quickly over the past couple of decades. But when you take a look back at the figures it’s still pretty astounding.
Years upon years of compounding high rates of growth have delivered staggering results. I’ve put together a couple of charts to show you what I mean.
First here’s China’s gross domestic product (GDP) since 1990, measured in US dollars at market exchange rates. It’s up an incredible 29 times, with the real take off happening in the early 2000s.
Now let’s compare how it’s changed versus the US since 2001.
Clearly the USA is still the top dog, at least when it comes to GDP at market exchange rates. But in just 15 years China’s economy has gone from less than 13% the size to 60%.
This huge growth in China comes from a combination of factors. First there’s general price inflation. Then there’s real (above inflation) growth on top. Beyond that that there’s the changing exchange rate between the Chinese renminbi yuan and the US dollar.
The yuan has gained over 20% against the dollar since 2001. Actually it’s been since 2004, when the Chinese government started to let it float more freely – meaning strengthen against the dollar.
That said, more recently the yuan has been a little weak. It’s down 10% since 2014, although that’s been during a period of unusual dollar strength. But that (fairly) modest fall largely explains why the line in the first chart looks flatter in the last couple of years.
Back in 2001, when I was dispatched to China, very few people in the banking world had spotted the opportunity. The economy was still not that large, and the financial and investment markets in China were completely backwards.
Despite this, my special mission was to work out how big the bank’s current domestic business was in China. Then I had to report back on whether and how it could be grown. This was a project sponsored by UBS’s president at the time, plus the head of all UBS’s businesses in Asia Pacific.
In answer to the first question the current business was truly tiny. A rounding error. The offices in Shanghai and Beijing were run by low level executives and an assistant or two. In fact there was no real business to speak of.
In terms of what to do I developed, along with colleagues, a detailed strategic plan that was put in place over the following years. I was posted to Hong Kong to lead implementation – and work on the bank’s general strategy in Asia.
It was an exciting time. The technology bubble had burst, but Asia was bursting with potential. Although it took longer than expected to put things in place in China (a tough business environment), five years later UBS had a range of licences, scaled up offices, and joint ventures with local partners.
UBS became the first foreign bank to trade locally listed stocks, known as “A-shares”. It was also the first to get an onshore securities joint venture with a full licence across all activities that it wanted to do. In fact, apart from Goldman Sachs, as far as I know that’s still the case today.
Nowadays UBS has about 600 people on the ground in China. That figure excludes the huge office in Hong Kong, which was already there. And the bank’s new CEO, Sergio Ermotti, said last year that he plans to double that number over five years.
It’s now a business that brings in hundreds of millions of dollars a year in fees and trading commissions. I’m glad it worked out well for them, and that they stuck with it after the global financial crisis.
But in the early 2000s there was huge resistance to the project. Most people are pretty short term, and investment bankers and traders are some of the worst of the bunch. If they can’t see instant profit then they aren’t interested. Even though I worked in that environment, I’ve always taken a different approach.
So a lot of my time was spent battling the bureaucracy in New York, London and Zurich to get them to actually act. We needed commitment across every business area, from bond and stock trading to wealth and asset management.
Eventually we got there, but only with major arm twisting by some extremely senior people on the executive board. If they hadn’t been convinced about the growth potential in China, assisted by yours truly, then UBS would have missed a huge opportunity to get ahead of its competitors.
Of course China isn’t the only place in Asia that’s seen fast growth, even if it is the biggest and fastest. In those same 15 years the economies of developed countries Singapore and Australia grew by well over three times, measured in US dollars. (The US scored less than a double.)
When it comes to other large emerging markets, India has grown over four times. Indonesia is nearly five times as big. Vietnam is close to six times as big as in 2001.
Of course, pure GDP growth isn’t a guarantee of big profits for stock investors. Valuation comes into play too, as in whether you buy at a market top or wait for a more reasonable level.
But with the following wind of fast growing economies, corporate earnings tend to grow much faster as well. And as labour productivity rises, bringing up wages, so do the values of currencies – at least typically. That’s an extra gain for foreign investors as local assets and earnings get an extra lift from strengthening currencies.
(Note: according to a recent report in the Financial Times, average Chinese dollar wages have tripled in the past decade, from $1.20 to $3.60 per hour. This is where the mass market spending power comes from.)
Now let’s turn to how Asian stocks have done since I went to China in 2001. Did this massive wave of growth prove to be a benefit? After all, there’s quite a bit of academic research – in my view incorrect research – that says there’s no link between economic growth and investor profits.
In particular, has the faster growth meant Asian stocks have outperformed those of other lower growth regions?
The answer to both is a most definite “yes”.
We can work that out by comparing the performance of MSCI indices over time, including price gains and dividends. The advantage of using MSCI indices is that you can set them so that they’re all measured in US dollars. In other words, we’re comparing apples with apples here.
The chart below shows the total return for the MSCI All Countries Asia Pacific (excluding Japan) index, which includes four developed markets and eight emerging markets. China is one quarter of it. I’ve also shown China separately, the USA, Europe (15 developed countries), and Japan for comparison. They all start at 100 in December 2001, so you can easily compare relative performance.
It’s clear that (non-Japan) Asia Pacific has been the place to be. It’s performed twice as well as Europe and Japan. One dollar invested in December 2001 would now be worth $4.36, before taxes and with dividends reinvested. That’s equivalent to 10.4% a year, with compounding (profits on profits).
It’s even way ahead of the currently bubbly US market. In the US the investment returned 6.9% a year, turning one dollar into $2.71.
And Chinese stocks turned one dollar into $5.66 over 15 years. That’s 12.3% a year, with profit compounding. And it’s despite two bubbles and busts. A huge one in 2007 and a smaller one in 2015.
(It’s worth noting that people often doubt the accuracy of government GDP statistics, perhaps with good reason. But when it comes to stocks, these are real market results.)
The transformation of Asian economies has been massive over the past couple of decades. Investors in Asian stocks have benefitted as a result.
The rate of growth may slow in future, especially in China. But in any case there’s still plenty happening in large but poorer countries like India (see here), Indonesia and Vietnam.
I recommend that all investors reserve a place in their portfolios for Asian stocks. One easy way is the iShares MSCI All Country Asia ex Japan ETF (NYSE:AAXJ).
The stocks in this ETF currently have a P/E of around 15, which isn’t super cheap, but neither is it expensive (by comparison the S&P 500’s P/E is over 26). By country it’s concentrated in China, South Korea and Taiwan, but with seven other countries as well.
Of course there will be the usual ups and downs along the way. But if you’re patient and see it through then you’re likely to profit handsomely from Asia’s massive wave of growth.
Stay tuned OfWealthers,