The First State Dividend Advantage invests in Asia ex-Japan stocks that pay attractive dividends (click here to read a report on the fund). Lead manager for this fund is Martin Lau. He's Director of Greater China Equities and manages the Regional China Fund. He joined the fund house in 2002, and has over nine years investment experience in the industry.
By investing in quality companies that pay dividends, the fund house intends to focus on capital preservation as well as growth. Returns are derived from earnings growth (leading to appreciation of the share price) and dividend yield. Lau says that this is possible in Asia as well-managed, established companies are able to pay dividends to shareholders, whilst continuing to grow their business. He tells Fundsupermart that the fund is a good option for investors who are keen on receiving a regular payout from their Asia equity fund.
Rachel Lim: What are the differences between this fund and the First State Asia Pacific Growth Fund?
Martin Lau : There is a 30% overlap between the Asia Pacific Growth Fund and the motherfund for the Dividend Advantage. The Asia Pacific Growth Fund has about 18-19% exposure to technology, whilst the Dividend Advantage has very little exposure to this sector until recently because it's harder to detect the cash flows and to see how the cash flows are going to be returned to shareholders. Companies with visible dividend and cash flow tend to fluctuate less in the market.
RL: What is the minimum yield for the stocks you select for the fund?
ML: I think we need to stress that we are not looking for a steady 5% yield, otherwise you may be better off buying a bond. We are actually looking for those good quality companies with growth and those which look to return cash to shareholders. This does not prevent us from investing into companies we think have good management and have a high possibility of giving more dividends in future. One example is Hong Kong's Smartone. Thus, we can take a longer-term outook. Even if it now pays 3%, but because we expect the dividend payout to increase, we will still invest into it.
RL: Since dividend yield is an important factor for this fund, does this mean there is a heavier weighting on large cap companies?
ML: Not necessarily. But we will be attracted to companies with strong cash flow, i.e. companies dealing in sectors like consumer discretionary, financials, infrastructure, and telecoms. They are the natural overweights. But for commodity and technology companies, even when they have excess cash flow, they usually look to invest more, rather than give it out as a dividend. So they are natural underweights. But we have made use of the opportunity to buy more technology shares recently, because some of these companies have delivered a relatively higher dividend.
RL: The fund has substantial holdings in Hong Kong. Why?
ML: Hong Kong is one of only two markets in Asia that do not impose dividend tax. The other is India. Hong Kong is a very good place to find steady and growing dividend yield because of its dividend-paying culture. We actually turned positive on Hong Kong in the 3rd quarter of last year. We believe the economy has recovered very strongly since. But twelve months down the road, you will most likely see the weighting for Hong Kong come down. That is because a lot of the good news are already being priced into the market.
RL: You have mentioned before that India's consumption story is likely to follow China's, and there is also no dividend tax in India. Are you planning to increase the fund's exposure to Indian companies?
ML: For India, we have actually been overweight, but the magnitude is lesser than for Hong Kong. One reason is because there is not a good dividend-paying culture in India. Take the software sector for example. Infosys is paying a 1% dividend yield. In theory, Infosys can afford to pay more since software does not need that much investment and they just need to hire people. Similarly, for banks in India, loan growth is very significant. State Bank of India has seen 20% loan growth. The structure of the market did not allow us to build a bigger position in India.
RL: According to the factsheet, the September Top 10 holdings didn't include the energy stock PetroChina whereas the October Top 10 holdings did. Are there any reasons for this change? I notice the fund is currently underweight commodities...
ML: PetroChina has always been in the portfolio. But last year, there was a big run-up in China shares and Petrochina went up from $4 to $7, and we sold it. The yield was 6% when we bought into the stock. It then fell to 4%. This year, PetroChina's price has fallen by about 10-15%, when oil prices have gone up 60-70%. So we recently bought back some more of the stock. This is because of the stronger cash flow position. With the oil price hike, cash flow would be very strong and the company is now paying a dividend of about 6%.
RL: There are still some over arching concerns for China, including high oil and coal prices, interest rate hikes, inflation, and the policy the government will pursue on the currency. What are your views and how will they affect the fund's performance?
ML: We are still positive on China in the longer term. I think most people will say so because they see the potential of China as both a consumer and a manufacturer. But we should also take a look at the risks. The economy is slowing down a bit, so we are actually quite careful when we invest into China. If you look at the impact of rising interest rates, I think the impact will be on the investment side - so if you invest into property in China, you probably have to be more careful because the interest rate hikes might affect people's investment decisions. However, move to the consumption story, and you realise that people in China do not have a lot of leverage, i.e., they do not borrow a lot from banks. If you look at credit card penetration, there are only about 20 million credit card holders in China, relative to its population of 1.3 billion. It tells you consumers put a lot of their money in the banks so the impact of interest rate hike is less of an issue.
For the fund, we first focus more on China consumption stocks, and secondly, those with 'feasible' earnings. For example, we find potential in companies which build expressways. We see the amount of traffic going up along with car ownership, and it is very difficult for me to see why cash flow would suddenly drop next year because people continue to drive more cars. So it is rather visible growth for cash-flow, with positive consequences on the company's ability to pay back shareholders in the form of dividends. However, people have to be more careful with steel stocks or cement stocks. Steel prices have doubled, but with China's growth slowing, steel prices can fall. So to find out opportunities in China, we just have to be selective and very careful. I believe the stocks we hold are more resistant to falling markets as they are more related to consumption and infrastructure, meaning there is very strong pricing power for these companies. It is difficult for me to see why all of a sudden there will be another road built next to the expressway. It will take at least a few years to build a new one.
RL: For the past year, many investors did expect the technology sector to perform. But it has been underperforming so far? What's the outlook fortechnology companies in the region?
ML: Technology is just a term. When we refer to a technology company, we are saying it is manufacturing something advanced, like PCs, MP3 players etc. Technology in the past has not really paid dividends. Taiwan Semiconductor (TSMC) only paid their first dividend last year. Because these companies do not pay out to shareholders, technology share prices are volatile. When you look at the price earnings (PE) ratio, you cannot readily determine how many times it really is at. Given that technology shares have underperformed for such a long time, I would say valuation has become very attractive for some of them.
For example, Advantech, which is the biggest industrial PC maker, holds about 12-13% of global market share. They make the key components found in ATM machines and machines in automated petrol stations. This market has strong potential and they are the biggest player in it, so cash flow for them is very strong and they give out dividends to shareolders. Though they are part of the technology sector, it is a very different situation from DRAM companies, which are very unpredictable. Secondly, given technology shares have underperformed for so long, they are under shareholders' pressure to give payouts as well as reward them. Venture Corp in Singapore is also talking about paying dividends to reward shareholders. And TSMC is increasing their payout. So within the technology universe, there are still some companies with growth and dividend prospects.
RL: How about the consequence of the decline in the US dollar (USD) on Asian exports?
ML: The effect of a weak USD remains to be seen as well. Overall this should be good for people in Asia. Many Asians have investments in US. Weak USD may make them put their money back into Asia. It is also positive for property and asset prices, positive for the reflation theme and for domestic liquidity as well. If a weak US dollar comes with poor US demand, it will be bad for all Asian exporters. But if the weak US dollar is accompanied by a strong US economy, this will be more positive. For China, because of the peg of the Renminbi (RMB) to the USD, if USD depreciates, the RMB will depreciate as well. This will make Chinese exports more competitive when selling to places like Europe. But for most floating currencies, the impact is mixed. For instance, the Singapore dollar (SGD) appreciated instead vis-a-vis the USD, and this would be relatively negative for exports going to the US. A weak USD also means raw material prices could be higher since they are denominated in USD.
RL: What is your outlook for Asian equities next year?
ML: We are still positive in our outlook for Asian equities next year. In terms of earnings prospects, they are still quite positive going into next year for Asian companies. Of course, we still have uncertainties for 2005. For example, oil prices, and the impact of China slowing down. Also, there is concern when some of the tax-cut effects in the US start to fade out. The US interest rate hike will be watched too. But the direction of interest rate movements in Asia will not likely be in close tandem. In fact, Korea and Hong Kong have just cut their rates as they have very high liquidity. It shows that the environment in Asia is different. And if we look at balance sheets in Asia, there is a lot of savings and deposits, so liquidity is very favorable. For the weakening of USD, it is actually positive for domestic consumption and inflation in general. But, of course, in terms of GDP growth, this year's GDP growth was very strong as the economy was recovering from SARS last year. In 2005, GDP growth will be lower but still respectable, at 4-5 % or so.
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