Invesco: Asia to grow more rapidly than West

(ASHOK VERMA)    

Invesco, one of the world’s largest independent investment companies, is focused on providing clients with the investment expertise and service they need. Investment solutions range from major equity and fixed-income asset classes to other alternative asset classes including real estate, private equity and exchange traded funds.  Invesco has been working with clients in the GCC for a number of years. It opened its Dubai office, which is regulated by the Dubai Financial Services Authority, in 2005, reaffirming its commitment to the region.

Its global perspective helps Invesco’s clients deal with difficult economic and market situations, while providing insight into the best possible high-growth avenues. Invesco’s Chief Global Economist, John Greenwood, is especially clued into world economic trends. Excerpts from an interview:

At a recent seminar you said: “Asia ex-Japan is the bright spot in 2008, providing a strong counterbalance in global terms. China and India and much of non-Japan Asia will continue to demonstrate strong growth.” Please elaborate.

The Asia ex-Japan region economies, including especially China and India, enjoy fundamentally higher long-term growth rates than the developed western economies. As a result of the financial turmoil precipitated by the US housing and credit bubbles, Asian growth is likely to slow down modestly, but mainly in terms of export growth while consumer and investment spending for domestic purposes (or domestic demand) should remain more buoyant.

In terms of economic growth, real GDP increased 5.6 per cent in the Asia-Pacific region in 2007. This includes Japan, which grew by only 1.9 per cent. This 5.6 per cent was roughly double the growth rate of Western Europe at 2.7 per cent and almost three times the growth rate of North America at 2.2 per cent. Other comparable growth performances were Latin America with 5.2 per cent and Eastern Europe with 6.7 per cent.

In terms of income levels, Japan, Hong Kong and Singapore are the only economies in Asia that have comparable income levels with developed economies. All the others are still in the developing stage, and, therefore, can be expected to continue to catch up with Western economies over the next decade, and in so doing, grow more rapidly than their Western counterparts.

What is the impact of the US sub-prime crisis on Asian nations and how long before it dissipates?

The impact of the US sub-prime and credit crisis is still percolating outwards, and the full effects have not yet been fully experienced. It will impact Asia through several channels. First, as equity and lesser quality bond and derivatives markets in the US have been hit, Asian financial markets have also been adversely affected. Second, as US consumer spending slows, Asian exports to the US are likely to slow down further; some slowdown has already been seen.  Third, the indirect effects of the US slowdown – or possibly recession are likely to lead to slower growth in other economies such as the UK and Europe, which in turn will further reduce the export growth of Asian economies.

The current downturn is not likely to dissipate soon. The reason is that this is a crisis, which has resulted from the deterioration in US household and financial sector balance sheets rather than from central bank tightening, and balance sheets always take a long time to be cleaned up. This is because there are only three ways to improve balance sheets: by raising capital – OK for US banks so far but not feasible for US households; by selling down assets to repay debt – but this implies selling into falling markets; and  through earning income to pay down the debt – which will take time.

Rate cuts in the United States and United Kingdom, economic stimulus packages being rushed through Congress… to what extent will this help gyrations in the global stock markets stabilise?

At some point I would expect these rate cuts and economic stimulus packages to stabilise economic activity and financial markets, but not yet.

The interest rate cuts will mainly help the banks rebuild their margins, but there are many non-bank financial institutions outside the banks such as hedge funds, mortgage finance companies, private equity buy-out groups, structured investment vehicles etc – which will probably not see any benefit from the rate cuts.

For example, I expect the ongoing implosion of non-bank credit to exceed the creation of new credit by the central banks through the narrow, traditional banking system. For this reason, overall credit tightness will persist, even in the face of low interest rates.

What is the impact of the sliding dollar and the rising euro for investors looking at Asia and other emerging blocks like Latin America and Eastern Europe and Russia?

One of the most important effects of the current crisis is the differentiation that it is causing between different classes of assets. Thus cash and government bonds have benefited while equities and high-yield corporate bonds have been hurt. The impact on currencies is a secondary result of these major trends. My guess is that the US dollar will weaken slightly more, but only modestly, and later in the year the euro may start to weaken. In general, most emerging market economies – Asia, Latin America and Russia – are in good financial shape, which means their currencies could benefit from the problems of the financial sector and the household sector in the developed economies.

How will this affect us in the GCC as currencies here are pegged to the dollar?

The weakening of the US dollar does not automatically imply inflation in the US, or in those countries pegged to the US dollar – unless those countries allow excessive money supply growth rates to persist. In the US, for example, although the Fed has cut interest rates several times, the growth of the bank’s reserves and the monetary base has been kept firmly under control.  By contrast, several Gulf economies have allowed very rapid rates of money and credit growth in the past few years, and this is now showing up in the form of higher CPI inflation.

Can you suggest ways in which investors might lessen this currency risk?

Diversification is always the best answer to economic uncertainty, so hold currencies from a variety of economies and regions – USD, GBP, EUR, JPY etc – along with some currency substitutes such as precious metals or mining funds.

Since the strength or weakness of a currency varies both as a result of supply factors for instance, how much money the central bank and the banks are creating  and demand factors  for example, what reserve currencies the world’s largest investors such as sovereign wealth funds or pension funds want to hold  it is difficult to predict how currencies will behave over the next year or so.

Besides Asia, where else would investors turn their radar? What about Eastern Europe, Mexico, Brazil?

I am cautious about Eastern Europe because, unlike Asian economies, several of these countries have large-scale current account deficits.

For example, according to The Economist, the forecast current account balances in 2008 as a percentage of GDP will be: Czech -3.8 per cent, Hungary -6.0 per cent, Poland -5.1 per cent and Turkey -7.4 per cent, suggesting they could all be vulnerable to any capital outflows.

What sectors of the global economy are worth investing in for the next five to 10 years? One hears about infrastructure, healthcare, commodities, clean energy…

As I said above, diversification is always the best answer to economic uncertainty. In view of the high degree of economic uncertainty in the global economy at present, it does not make sense to commit large amounts of portfolio to any single outcome  such as inflation, deflation, US recession etc.  Having said that, I believe each of the sectors above should be attractive in some measure in the next few years, but I would be cautious about commodities, which I believe are still benefiting from the perceived strength of the global economy last year, and are not properly reflecting the potential weakness in 2008.

PROFILE: John Greenwood. Chief Global Economist, Invesco