“We’re inherently cautious people, always discussing what can go wrong versus right. We are not surprised too often, not in a major way. We’ve never had a bankruptcy in the portfolio,” Thompson said as a preface to explaining why the First State Asia Opportunities Fund, co-managed by Thompson and Richard Jones, allocates 23% to India but only 6.3% to China.
“The big China heavyweights are Alibaba, Tencent and Baidu and we have nothing to do with them. Indian companies simply tick more boxes than Chinese companies.
“Clients don’t want to talk about India. They want to focus on China. But India is easier because it has a couple hundred years of capitalist history. We are looking at companies with the seventh generation of a family running the business. In China, you really only get 20 years.”
Thompson particularly likes India’s financial sector. “State banks can’t compete with them and financial inclusion in India is low. Life insurance penetration is less than 1%. Some private banks have adopted digital banking quicker than anywhere else. Kotak Mahindra can open a bank account in less than three minutes.”
Although they have high valuations, he believes some have the high growth potential to compensate. India’s private banks have been taking 1% marketshare from state banks per annum and now the estimate is near 3%, he added.
Thompson describes his fund as high conviction with a long term (3-5 year) investment horizon. India’s Tata Consulting is the largest position (5.4%) followed by Taiwan Semiconductor (4.7%).
“A lot of our top ten holdings have remained top ten for years, such as TSMC, [Australia’s] CSL and [Singapore’s] OCBC. What you want is the portfolio to perform steadily through the cycle. You want ballast in the portfolio.”
Governance the key
Thompson said he wouldn’t hold Asia companies with governance concerns. “Ultimately, we identify management teams we can really trust to deliver sustainable earnings growth.”
In terms of sectors, he said the team struggles with internet companies. “They are too expensive, we don’t understand it, the market cap is too big — we have internal debates about it,” he said.
“Regulations are also playing a role. Tencent’s business is pressured by regulations on video games allowed in China.
“With Alibaba, we have more conviction that it wouldn’t meet our quality criteria is how I would phrase it.”
He also doesn’t hold Chinese oil companies or banks because they have an opaque business and are difficult to analyse, he said. “Sometimes they are asked to do things in the interest of China, which may not be in shareholder interest.”
He also doesn’t hold Samsung, which peer funds tend to own. Samsung has a “strong brand and incredibly strong balance sheet”, he said, but corporate governance issues emerge from time-to-time.
Valuation risk
The investment team, he admitted, is not good at forecasting macro-economic or political events or currency movements, so they are not the highest concerns. What is worrisome – the biggest risk to his investment thesis – is valuations.
“Asia [markets] could easily fall 30% or more,” Thompson said.
“We’re so used to money being [loaned] almost free and no inflation. Banks have encouraged taking on debt. Now there’s a realisation that the interest rate cycle has turned and people will be less well off. At some point this debt has to be repaid and it’s a mountain of debt.”
But he suggested that a pullback in valuations could result in adding to some of the high conviction positions. “When things fall, we often think it’s good, because maybe we can buy it cheaper.”
Skin in the game
Asia-Pacific ex-Japan is one of the larger fund categories in the region. In the Hong Kong SFC-registered universe for example, the category has 122 funds, according to FE.
Thompson said he believes a differentiator for his product is that everyone on the team has their own personal money invested in the fund.
“It’s structured into our business [at First State] that everyone gets a share of profit of the business and that profit share is invested in our funds and locked up for three years.
“That helps because we all feel like owners of these [portfolio] companies and we feel it if we get it wrong.”
Three- and five-year cumulative performance for the fund vs its benchmark and sector
