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Asia
Development, Financial Markets,
Infrastructure and Consumption, China
“In recent years Asia has rapidly transformed from a developing
region to the engine of global economic growth. As Asian growth
becomes increasingly self-reliant, Asian financial markets offer
an extraordinary opportunity for long-term investors.”
Dennis Essrich, MSc, the author of this study, is a portfolio manager in the Fixed Income Asia team at Credit Suisse.
His work focuses on portfolio construction and analysis, as well as management of global government and
corporate bond portfolios, inflation-linked funds and currency overlays.
Foreword
As Western economies such as the USA and European
countries struggle to rebuild their economies after a decade
of excess, the world is turning to aspiring economies as a
source of sustainable growth. Asia, in particular, has attracted
the attention of investors and economists. Its position as the
new growth engine of the world economy is one of the
most-discussed macroeconomic trends of our times.
Asian economies are experiencing sustainable growth
supported by better resources, stronger balance sheets and
younger workforces. In addition, the rise of an Asian middle
class has brought about a new generation of consumers
hunting for opportunities for spending their new-found
wealth. The Asian consumer may be the megatrend of the
next decade as Asian economies reshape themselves from
export-led, low-cost producers to self-sustaining, consumerled markets. At the same time, increasing urbanization and
industrialization have led to rising demand for infrastructure
development.
Economic forecasts leave little doubt that China will surpass
the United States as the world’s largest economy over the
next ten to fifteen years. Its pace of growth has been all the
more remarkable for its consistency and longevity. However,
China also has demonstrated why global investors have
concerns about the sustainability of Asian economic growth:
the main challenges will be further capital-market liberalization
and whether consumer growth can develop to replace export
dependency. There is also a question about how investors
can capture the enormous growth potential of Asian
economies. After all, capital-market developments in Asia
have been divergent, both regionally and in different asset
classes. Well-functioning, liquid financial markets are a key
prerequisite for future sustainable growth in Asia. Recent
developments across asset classes have been promising
in that respect.
As Asian economies grow and become more sophisticated,
their financial markets are broadening, opening up more
opportunities for investors. This is not just confined to
conventional equity markets. Property, infrastructure and
corporate-bond markets may present new investment options
for domestic and foreign investors.
There are challenges and risks, as with any economic
restructuring. However, Asian economies are coming from a
position of considerable strength, with little debt and strong
growth. There are plenty of reasons to be excited about the
prospects for Asia.
The aim of this study is to examine Asia’s growth potential
and the risks to that growth. At the same time, the study
examines to what extent Asian capital markets are able to
provide investors with appropriate instruments for tapping
future economic growth in the region.
Credit Suisse has built up a substantial presence in Asia in
order to provide investors with the best possible solutions for
capturing Asia’s impressive future growth potential.
We hope you find this study informative.
Francesco de Ferrari Michel Degen
Head of Private Banking Asia Pacific
Co-Head of Fixed Income
Asia 3 / 70
Collection of colorful baskets for sale at market in Ubud, Bali, Indonesia.
4 / 70
Contents
Executive Summary
7
Asia – the Path of Growth
In the Fast Lane – Asia Taking Over the Wheel
Foundations for Asia’s Rise
The Way Forward – Potential and Pitfalls
Financial Markets – the Past and Future
Equities – Capture Asian Growth
Fixed Income – the Driver of Further Capital Market Liberalization
Currencies – Long-Term Appreciation Despite Short-Term Setbacks
Real Estate – Structural Demand for Asian Property
9
10
12
13
17
19
22
35
36
Focus: Infrastructure and Consumption
Rapid Urbanization Raises Demand for Further Investment
Appetite for Consumption – Asia Grows, Asia Spends
41
42
44
Focus: China
China as the Leader of the World Economy
Investors’ Perspective: Access Is Key
51
52
56
Bibliography63
Credit Suisse Investment Professionals Asia
66
Asia 5 / 70
Long rows of Chinese statues in Chinese Temple in Georgetown, Penang, Malaysia. In Chinese tradition, a statue is believed
to attract positive, supportive energy.
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Executive Summary
Executive Summary
This study is divided into four sections. The first two sections describe (1)
the rapid economic development of Asian economies over the past decade
and (2) how financial-market development has kept pace and enabled investors
to participate in Asia’s remarkable growth story so far. Section 2 additionally
analyzes the past performance and future potential of various asset classes
that offer investors access to Asia. Section 3 highlights the importance of
infrastructure development and the impact of Asia’s emerging middle class
on regional consumption. Section 4 sheds some light on China in particular,
its position as Asia’s economic engine and market access for investors.
Asia – the Path of Growth
Over the past decade, global economic growth has been
increasingly reliant on emerging economies. Having outpaced
Western economies’ growth for many years, Asia’s rapid
development in particular has garnered attention from
economists and investors alike as the continent plays an
increasingly important role on the world economic stage.
This section highlights the foundations of Asian economic
growth at a time when Western economies are struggling
and points out challenges that have to be tackled by Asian
economies – such as capital-market liberalization, inflation
and intraregional trade – to achieve their full potential.
Financial Markets – the Past and Future
The Asian financial crisis at the end of the 1990s was an
instructive lesson for Asian economies. It exposed the pitfalls
of participation in global capital markets. Wiser for this
experience, prudent capital-market development is set to be
the key foundation for sustainable growth among Asian
economies. Fully functioning capital markets are not only
crucial as a source of funding for governments and corporations, but also for creating new opportunities for external
investors to tap Asian economic growth. This section also
looks at the development and past performance of real
estate, equity and fixed-income markets across Asia. It also
assesses the future potential for those asset classes, aiming
to highlight opportunities. Finally, it highlights the role of
Asian currencies in the opportunity set for investors.
Focus: Infrastructure and Consumption
Expanding domestic demand is a major policy goal for Asian
governments and forms part of China’s most recent set of
five-year plans. Many Asian countries need to make the
transition from export-based economic growth reliant on
global growth to economic growth fostered by domestic
consumption and investment spending. Underdeveloped
infrastructure in many Asian countries necessitates significant
additional spending in order to match the pace of urbanization
and to support growth.
The second part of the section examines the megatrend
of the rise of the Asian consumer. Asia has a vast population
with an increasing propensity to spend. In particular, the
enormous growth of Asia’s middle class brings with it
expanding consumption. We highlight the luxury goods and
gambling sectors as two of the most promising consumer
markets in Asia.
Focus: China
China is vital to Asia’s future economic development. China is
expected to surpass the USA as the world’s largest economy
within the next ten to fifteen years. The first part of this
section looks at the drivers fueling China’s economic rise and
the challenges faced by the “Middle Kingdom”. The second
part of the section sheds light on the progress of capitalmarket liberalization in China and the implications for investors.
Asia 7 / 70
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future and good fortune.
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Asia – the Path of Growth
Asia – the Path of Growth
In the Fast Lane – Asia Taking Over the Wheel
Asian economies have been on the rise for a decade. Their resilience to global economic shocks has left their
success story largely uninterrupted by the global financial crisis. Nevertheless, structural challenges remain,
such as the transition from export-driven to domestically driven growth.
Foundations for Asia’s Rise
As economic growth in the region continues at near-double-digit rates, Asian economies have some strong tailwinds:
 sound fiscal and monetary policies that result in responsible debt levels, particularly compared to those of the
troubled Western economies;
 positive demographic trends with an expanding working-age population with higher wages that help to drive
domestic demand;
 advanced legal frameworks that are improving the credibility and transparency of political and economic
infrastructure;
 capital flows from investors around the world who are disillusioned with the poor growth rates and low
investment returns in Western financial markets.
The Way Forward – Potential and Pitfalls
 The region will soon account for the largest share of global output, assuming that Asia is able to maintain its
comparative advantage.
 Asian economies are well prepared to deal with challenges such as inflation and demographic headwinds.
 By strengthening intraregional links, Asia will be able to become less reliant on Western economies and thus
less sensitive to further turmoil in the Western world.
Asia 9 / 70
In the Fast Lane – Asia Taking Over the Wheel
Average GDP growth
Asia on the Rise
In recent decades the world has been increasingly driven by
emerging economies, which have become the new engine
of the world economy and one of the most talked-about
macroeconomic trends of recent times. Figure 1 shows that
Latin America, Eastern Europe and, first and foremost, Asia
have started to grow at rates that by far outpace those in
developed countries.
18%
16%
14%
12%
10%
8%
6%
4%
2%
0%
Asia
LatAm
CEEMEA
Euro area
2006 –2010
Advanced
economies
Fig. 1. Nominal average GDP growth across regions
Source: HSBC (November 2011)
While developing Asia’s share of global gross domestic product
(GDP) growth was a mere 11% in 1992, according to International Monetary Fund (IMF) data, Figure 2 shows that it
increased to 24% in 2010, whereas developed markets’
share decreased from 64% to 52% over the same period.
Emerging economies have outperformed the developed world
not only in terms of share of global GDP, but are also growing
more quickly. In the 1980s, developed and emerging markets
grew at the same pace, but since the turn of the millennium,
average growth in the emerging world has surged to rates
that are three times higher than in developed economies.
This growth has largely been driven by Asian economies.
A flourishing Asia has captured an increasing share of global
GDP at the expense of the developed world. According to
IMF estimates, developed countries will see their share of
global GDP decline by 17% between 1992 and 2015, an
unprecedented deterioration. At the same time, developing
Asia’s share of global output is expected to increase by 18%.
Today, while Western economies struggle with rebuilding their
financial systems and repairing government balance sheets,
Asian economies such as China, India and the countries of
the Association of Southeast Asian Nations (ASEAN)1 are
experiencing sustainable growth supported by better resources,
stronger balance sheets and younger workforces, unburdened
by excessive debt.
The rise of the middle class has produced a new generation
of consumers with a healthy appetite for consumer goods.2
In addition, increasing urbanization has led to rising demand
for infrastructure development. Increasing domestic demand
and rising production have both caused trade volumes to
surge. According to the World Shipping Council,3 as of 2010,
eight of the ten largest ports in terms of container traffic4
were located in Asia, six of them in China alone.
2010
2000
63%
15%
9%
6%
4%
3%
52%
24%
9%
7%
4%
3%
2015 (estimates)
Developed markets
Developing Asia
LatAm and Caribbean
47%
29%
8%
8%
4%
3%
ME, N. Africa and Sub-Saharan Africa
CIS
Central and E. Europe
Fig. 2. Developed markets’ share of world output is declining (shares based on purchasing
power parity). (Data as of April 2011)
Source: International Monetary Fund, World Economic Outlook database, BlackRock
(October 2011)
1
2
3
4
The Association of Southeast Asian Nations comprises Brunei Darussalam, Cambodia, Indonesia, Laos, Malaysia, Myanmar, the Philippines, Singapore, Thailand and Vietnam
BlackRock Investment Institute, Are Emerging Markets the Next Developed Markets?, August 2011
See http://www.worldshipping.org/about-the-industry/global-trade/top-50-world-container-ports (accessed 5 Sept. 2012)
Measured by twenty-foot equivalent units (TEUs) handled
10 / 70
Asia – the Path of Growth
Against the Odds of Structural Changes
This resilience is all the more remarkable considering the
pace of structural change that Asia is undergoing and its
transformation from a region heavily reliant on the Western
world as a trading partner to one that is focusing more and
more on intraregional trade. The countries of Asia are
transforming from an export-oriented region into one where
their growth is powered by domestic consumption.
While there is no doubt that China and India are Asia’s titanic
economies, Asia’s smaller economies have proven particularly
agile and resilient to the recent chaos in the euro zone.6
As China’s and India’s growth is slowed by domestic
challenges, Asia’s smaller economies have reported gains
in industrial production, exports and local spending. According
to research by HSBC, the ASEAN countries, Hong Kong,
Korea and Taiwan are less challenged by fundamental
imbalances, e.g. rising inflation and bubbly property markets.
Those countries have embraced foreign capital and may benefit
the most from global funds looking for a home in Asia.
2013F
Japan
New Zealand
Thailand
Australia
World
South Korea
The Philippines
Taiwan
Asia Pacific
Malaysia
Hong Kong
Vietnam
2012F
Singapore
Indonesia
India
10
9
8
7
6
5
4
3
2
1
0
China
Equipped with significant cash reserves and policy flexibility,
Asian economies were able to steer through the choppy
waters without sinking and have subsequently resumed their
growth trajectory. Moreover, the legacy of the late-1990s
Asian crisis has led companies and governments alike to
focus on balance-sheet discipline.5 Comprehensive reform
of the macroeconomic framework and the financial sector
has considerably reduced the region’s vulnerability to external
shocks. Debt levels for Asian economies are expected
to decline further, while the creditworthiness of Western
markets is increasingly in question.
Figure 3 shows that in the recent past, economies in developing
Asia have established themselves as major players in the
world economy when it comes to GDP growth.
GDP growth (y-o-y)
Increasing Resilience to Global Shocks
External shocks such as the financial crisis, the euro-zone
debt crisis and lackluster growth in the USA may have slowed
Asian growth, but have not derailed the structural growth
story in the region. Capital outflows to safe-haven assets
were seen in the climate of greater risk aversion during the
crisis in 2008/2009, which spilled over to Asia’s real economy,
causing trade and GDP growth to decline. However, those
outflows have proven temporary.
Fig. 3. GDP growth by country
Source: Oxford Economics, CBRE (Q1 2012)
As highlighted by Figure 4, Asia has already become a
promising region for investors. Economic forecasts suggest
a continuation of this trend in the foreseeable future. As a
result, trade liberalization and new economic reforms have
become increasingly important as they open the door for
Western investors to participate in Asia’s rapid growth.
Market capitalization
GDP at market prices
Exports
GDP at ppp
Energy consumption
FX reserves
Land mass
Population
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
Asia
CEE and Russia
Middle East and Africa
Latin America
Other EMs
Developed markets
Fig. 4. Emerging markets structural comparison (last data point: 19 September 2012)
Source: Bloomberg, DataStream, Credit Suisse
5
6
Aberdeen, Asian Bonds: A misunderstood opportunity, 2012
HSBC Global Research, Asian Economics Comment: Little Asia vs. Big Asia, 19 March 2012
Asia 11 / 70
Many of today’s emerging economies will eventually ascend
to developed-market status. Asian countries in particular are
regularly reviewed for potential upgrades, a validation of their
sustainable solid growth.
The stellar rise of emerging economies and Asian countries in
particular is attributable to a number of factors and developments. In one of the Bank for International Settlements (BIS)
central bankers’ speeches,7 Bank of Japan Governor
Masaaki Shirakawa cited rich human resources, rapid urbanization and a competitive technological base as the foundations of Asia’s growth. In addition, after the Asian financial
crisis in the late 1990s, ambitious reforms were enacted
such as fiscal consolidation, monetary policy management
aimed at price stability, prudent financial supervision, and the
development of financial markets in the region.
ratios, the number of people of working age in emerging
economies has grown rapidly thanks to rapid population
growth. The expansion of the working population in turn has
enlarged the consumer base, thus bolstering personal
consumption, which is key for economies to master the
transformation from an economy reliant on external demand
to one powered by domestic demand (see footnote 2).
40%
36%
% of Global Consumption
Foundations for Asia’s Rise
32%
28%
24%
20%
US
2010
2008
2006
2004
2002
2000
1998
1996
1994
1992
16%
1990
Sustainable Growth through Responsible Budgeting
Sovereign-debt levels increased dramatically in the aftermath
of the 2008/2009 financial crisis as many countries sought
to avoid a full-blown collapse of the economy. This has
mostly been a phenomenon among Western economies, as
Figure 5 highlights.
Emerging Markets
Fig. 6. Emerging-market consumption has outpaced US consumption (data as of January 2011)
Source: JP Morgan, BlackRock (August 2011)
250%
Figure 6 shows that emerging markets’ share of global
consumption has already surpassed that of the USA.
Debt over GDP
200%
150%
100%
50%
Fig. 5. Asian government-debt levels look attractive relative to G7 levels
(data as of April 2012)
Source: International Monetary Fund, World Economic Outlook database, Credit Suisse
In Asia, prudent budget management following the 1997
Asian financial crisis resulted in strong corporate balance
sheets and low public-sector debt (with the exceptions of
Japan and Singapore).
G7 Average
Japan
G7 Average
(ex-Japan)
Singapore
Indonesia
Vietnam
Thailand
The Philippines
Malaysia
India
China
0%
Advanced Legal Framework Fosters Credibility
It must be noted that more than just strictly economic factors
such as low sovereign-debt levels and relatively favorable
demographics have enabled Asian economies to narrow the
gap with global economic giants such as Germany and the
USA. There have also been considerable improvements in
political and legal institutions as well. In recent years, the
credibility and transparency of fiscal, financial and centralbank structures have improved considerably as authorities
have recognized the importance of areas such as property
rights in fostering global confidence in Asian economies.
Capital Flows Supportive for Asian Growth
The improving credibility of political institutions’ ability to
maintain stability in the economy and financial markets has
increasingly attracted foreign direct investment (FDI).
According to the United Nations Conference on Trade and
Development (UNCTAD), FDI flows into developing Asia
increased from USD 854 million in 1970 to USD 423 billion
in 2011, an annual compound growth rate of over 16%.
Supportive Demographics
Positive demographic trends have been a key component
of emerging economies’ growth. While Western economies
struggle with aging populations and higher dependency
7
Bank for International Settlements, keynote address by Mr. Masaaki Shirakawa, Governor of the Bank of Japan, at the dinner reception hosted by the Japan Securities Dealers Association
preceding the International Conference, Tokyo, February 9, 2012, Finance in Asia – Banking Business and Capital Markets, 2012
12 / 70
Asia – the Path of Growth
In general, strong capital flows to the region are an important
foundation of Asia’s growth and stability. Western central
banks are flooding capital markets with liquidity, which is
creating inflationary pressure and weighing on the value of
the euro and the US dollar. Although Asian central banks
have started to ease monetary conditions lately as well,
interest rates in Asia still range considerably higher than in
Europe and the USA. Hence, currency diversification and the
yield pickup versus US Treasurys and German Bunds are
attracting foreign capital, and this forms the basis of a trend
that is not expected to reverse anytime soon.
Most importantly, Asia’s future development will be increasingly
less reliant on its role as a manufacturer of goods. Instead,
its expanding role in the world’s consumer market will allow
Asia to reduce its dependence on exports to the developed
world and enable the development of closer intraregional
economic ties. According to the ADB, Asia’s engine during
its “march to prosperity” will be mainly powered by seven
countries that in 2010 accounted for 87% of Asian GDP:
China, India, Indonesia, Japan, the Republic of Korea,
Thailand and Malaysia. In the scenario highlighted above, by
2050 those countries would not only increase their share of
Asian GDP to 91%, but would also account for about 50%
of global GDP, making them the drivers of the global economy.
The Way Forward – Potential and Pitfalls
…If Challenges are Mastered
When looking at the impressive rise of Asian economies
in recent years, the biggest question for investors is whether
they can continue their current pace of growth. Future
success will require a different type of growth and will
depend on resolving a broad array of economic, social and
political issues.
A Glowing Future in Sight…
Assuming that Asia will be able to maintain its comparative
advantages and will be capable of adjusting to the changing
global economic and technological landscape and continuing
on its recent trajectory, the Asian Development Bank (ADB)8
estimates that its per capita GDP could rise sixfold in
purchasing power parity (PPP) terms by 2050. That would
be equivalent to Europe’s level today. As highlighted in
Figure 7, Asia’s share of global GDP is set to increase to
over 50% by that time, which would restore Asia to the
dominant economic position it once held more than three
centuries ago before Western industrialization.
70%
Inflation
Assuming that economic growth in Asia remains stable,
inflation may become one of the main policy challenges.
Economic protectionist countries are vulnerable to imported
monetary policy from the West (see footnote 2) in view of
the flood of liquidity from Western central-bank money that is
flowing to emerging economies. Combined with global trade
imbalances and close-to-zero output gaps, the risk of
overheating in emerging economies is present.
Sharp increases in global food and fuel prices have led to
higher headline inflation9, as Figure 8 shows. Also, core
inflation has been edging up of late. Even though the weak
economic environment in Western economies has caused
inflation to level off, Asian central banks find themselves in
a dilemma. By applying the appropriate policy response of
raising interest rates to ease inflationary pressure, they will
attract more yield-seeking investors from Europe and the
USA, where interest rates are close to zero. Equally, Asian
central banks have generally been reluctant to hike rates
because their focus has been on growth rather than on
keeping inflation low.
60%
% of global GDP
50%
40%
30%
20%
10%
0%
1700
1870
1950
1980
2010
2030
2050
Fig. 7. Asia’s share of global GDP between 1700 and 2050
Source: Maddison (1700–1950) (data from 2007), Centennial Group International estimates
(1951–2050) (data from 2011), Asian Development Bank (August 2011)
Asian Development Bank, Asia 2050 – Realizing the Asian Century, August 2011
Headline inflation describes the rate of change in the consumer price index (CPI), which measures the average price of a standard “basket” of goods and services consumed by an average family.
It aims to capture the changes in the cost of living based on the movements of the prices of items in the basket of commodities and services consumed by the typical household.
8
9
Asia 13 / 70
Korea and Taiwan will follow. As Figure 9 also shows, growth
in Japan’s working-age population turned negative almost 20
years ago, and the subsequent weakness in the economy is
no coincidence.
15%
China
10%
2%
0%
–2%
ASEAN
2012
2011
2010
2009
2008
2007
2006
2005
2004
2003
2002
2001
2000
Asia ex-Japan
NIEs
Fig. 8. Headline inflation and core inflation in Asia (NIEs refers to Korea, Taiwan, Singapore
and Hong Kong)
Source: CEIC, HSBC (Q2 2012)
An interesting phenomenon analyzed by HSBC10 is that
headline inflation has become stickier in Asia. This means
that every uptick in growth leads to a sharper rise in inflation.
HSBC attributes this finding in part to rising inflation
expectations in general, but also to structural factors such
as tightening labor markets, environmental degradation of
farmland, demographic challenges and a shift in demand
away from exports toward services and construction.
Therefore, although cyclical inflation has decelerated over
recent months, structural inflationary effects remain elevated.
Demographic Headwinds Ahead
Demographic trends are going to be a crucial issue for Asia.
Demographics have been favorable for Asian economies for
quite a while and laid the groundwork for economic growth
in the region. However, growth in the 15- to 64-year-old
working population is likely to slow considerably across Asia
in the coming years. According to data from the United
Nations (UN), China’s working-age population will start to
shrink in 2017 (see Figure 9). The economies of Singapore,
HSBC Global Research, Asian Economics: When you least expect it, Q2 2012
As determined by the World Bank
Asia – the Path of Growth
2047
2041
2035
2029
2023
2017
2005
2 0 11
1999
1993
1987
The Middle-Income Trap
As many Asian economies evolve into “middle-income”
countries,11 a phenomenon known as the “middle-income
trap” could threaten their future growth. Countries that are
not able to maintain steady per capita GDP growth often see
themselves trapped in a situation of on-and-off growth and
stagnation caused by their inability to compete with lowincome, low-wage countries on the one hand and with
advanced economies with highly skilled workers and capable
of innovation on the other. As the ADB (see footnote 8)
explains, such countries are not able to make the transition
from resource-driven growth or low-cost labor-driven growth
to high productivity. As Figure 10 shows, Brazil and South
Africa are examples of countries caught in this trap. Korea,
in contrast, has been able to increase its per capita output
continuously.
GDP per capita (US)
% 3 m/3 m Seasonally Adjusted Annual Rate
4%
14 / 70
Japan
As mentioned above, China may act to counter the decline
in working-age population by mobilizing workers from rural
areas, according to research from HSBC. Nevertheless,
China will ultimately have to increase productivity in order to
sustain economic growth in the future. India faces a similar
problem, though its debt load has not yet reached the levels
seen in Japan or China.
6%
–4%
11
India
Fig. 9. Japan’s working-age population growth is already negative. China is about to follow
soon. India still has time. (data as of 23 February 2012)
Source: UNPD, HSBC (24 February 2012)
8%
10
1981
NIEs
1975
–1%
–2%
1969
2012
2011
2010
2009
2008
2007
2006
ASEAN
1%
0%
1963
Asia ex-Japan
2005
2004
2003
2002
2001
–5%
3%
2%
1957
0%
4%
1951
5%
Working Age Population Growth
10%
2000
% 3 m/3 m Seasonally Adjusted Annual Rate
20%
21,000
18,000
15,000
12,000
9,000
6,000
3,000
0
1975
1980
Republic of Korea
1985
1990
Brazil
1995
2000
South Africa
Fig. 10. Caught in the middle-income trap (data as of October 2010)
Source: Asian Development Bank (August 2011)
2005
Asia’s Link to the Western World and its Troubles
Asia has become much less economically reliant on Europe
and the USA as trading partners, but cannot completely
decouple from the economic developments that lie ahead for
the ailing giants. Asian economies are still tightly linked to
Western economies via trade and financial channels. Despite
the strong balance sheets of Asian governments and corporations, there is a systemic risk to Asian growth from slowing
global growth and from the increased macroeconomic volatility
caused by the European debt crisis. If the euro zone or the
USA suffers a severe recession, this will most certainly have
an effect on Asian growth as well. External disruptions
will mostly affect countries like Hong Kong, Singapore and
Taiwan that are still heavily reliant on exports. Ultimately,
Asia’s future economic growth path will largely be determined
by its ability to foster domestic demand and expand trade
ties with other growing economies.
For the past couple of years, there has been a tremendous
flow of capital into Asia. Quantitative easing by Western
central banks in response to faltering economic growth has
driven cheap capital toward more productive investments in
emerging markets. Investors were seeking exposure to Asian
growth and, for example, to profit from the appreciation of
Asian currencies. These flows provided strong stimulus for
the Asian economy by funding governments and privatesector corporations.
At the same time, the prospect of further turmoil in Europe or
the USA may see funds flee to safe-haven markets. A study
by PricewaterhouseCoopers (PwC)12 highlights that Asian
markets may not yet have the depth to digest these flows,
which can have a destabilizing effect on the economy. Rapid
swings in risk appetite can cause capital-flow volatility that
not only feeds through to volatile prices on bond, equity and
FX markets, but also hurts the real economy.
Further Challenges to Be Met
Asian growth is also dependent on how the countries deal
with obstacles such as natural-resource constraints, troubles
that might arise within the region, and particularly the development of financial markets. That third obstacle is addressed
in more detail later on in this paper. How Asian economies
manage to improve both market access and secondary
market liquidity and to remove certain legal constraints will be
crucial in allowing investors to participate in Asian economic
growth.
It is worth bearing in mind that Asia is not a homogenous
region and that countries across Asia differ substantially and
thus have different challenges to deal with going forward.
Steps to Be Taken
Policymakers across Asia may need to take certain steps to
ensure that growth is not derailed. Asia’s future depends
heavily on developing new growth sources and drivers for the
economy, which, according to the ADB13, means that policymakers need to focus on boosting productivity growth and
addressing key areas such as human capital, infrastructure
and financial development. Additionally, with demand from
the euro zone and the USA expected to weaken in the near
future, the ADB finds that Asia must continue to foster
intraregional trade and expand its links with other emerging
economies to win its independence from Europe and the
USA. For this expansion to be effective, trade barriers and
poor trade-related infrastructure and logistics need to be
addressed. The ADB (see footnote 8) sees Asia’s future
determined by (1) its ability to promote entrepreneurship,
innovation and technological development; (2) its competence
in providing the necessary infrastructure to keep up with
massive urbanization; (3) its regional cooperation; (4) its
capacity to reduce the intensity of energy and natural
resource use and thus limit climate change; (5) whether
highly developed Asian economies such as Japan, Korea and
Singapore will be able to lead the rest of Asia and; (6) the
developing countries’ ability to avoid the “middle-income
trap”. As for Japan, Asia’s once-mighty but now limping
pioneer, the ADB14 says it should revise its growth strategy
to focus on collaboration with its Asian neighbors in order to
benefit from the prevailing dynamics of the emerging Asian
economies rather than trying to restore growth on the back
of its exports to the USA and other developed markets.
Potential Outweighs Pitfalls
The good news is that all Asian economies have sufficient
tools to implement necessary reforms. Their main challenge
will undoubtedly be to safeguard the region’s economic growth
from the threat posed by global crisis. Strong government,
household and corporate balance sheets, increasing intraregional trade and a huge stock of foreign-exchange reserves
(see Figure 11) put Asia in an excellent position to withstand
another global shock and to continue on its current trajectory.
Vietnam
Hong Kong, China
Singapore
Indonesia
Thailand
Korea, Rep of
Malaysia
India
Taipei, China
0
6
12
18
24
Months of Imports
2007
2011
Fig. 11. Foreign-exchange reserves of selected Asian countries, 2007 and 2011.
(data as of 30 March 2012) Latest data for India refer to 2010; imports refer to goods and services.
Source: Asian Development Bank calculations based on data from the Asian Development
Outlook database, CEIC Data Company, and International Monetary Fund, International Statistics
online database
PricewaterhouseCoopers, Emerging Trends in Real Estate Asia Pacific 2012, November 2011
Asian Development Bank, Asia Economic Monitor 12/2011, December 2011
14
The 21st Century Public Policy Institute, Asian Bond Markets Development and Regional Financial Cooperation, February 2011
12
13
Asia 15 / 70
The drum finds application in almost every aspect of Asian social life, including sacrificial and worshiping ceremonies, farming
and warfare, and throughout the centuries it has been imbued with profound cultural implications.
16 / 70
Financial Markets – the Past and Future
Financial Markets – the Past and Future
Liquid financial markets are the foundation for future sustainable economic growth in Asia. After the Asian crisis in the
1990s, Asian policymakers reacted and started to address inefficiencies, for example, by slowly but surely decreasing
reliance on foreign bank financing in favor of funding via capital markets.
The lagging development of capital markets compared to the developed world requires further measures to ensure
reliable funding sources for governments and corporations. It is also of particular importance for investors across the
world when investing in Asia.
The following sections describe the development, performance and future potential of different Asian asset classes in
light of Asia’s bright economic future ahead.
Equities – Capture Asian Growth
 Stock markets still make up the largest source of capital in Asia. Asian equity markets have broadly followed the
economic boom in the region. However, the correlation between stock-market performance and economic growth
remains imperfect, and good sector and securities selection is essential.
 As two of Credit Suisse’s equity experts explain in an interview, investors need to be selective and to identify those
sectors and themes with the greatest performance and growth potential.
Fixed Income – the Driver of Further Capital Market Liberalization
 The development of Asian bond markets has come a long way, and in retrospect the Asian financial crisis marked
the start of their emergence. Asia’s dynamic economic growth, the accompanying infrastructure investment needs,
corporate funding requirements and the advancement of Asia’s pension system should encourage the development
of a well-functioning bond market.
 This section will point out regional divergences in terms of bond-market development across Asia. It will also outline
the corporate bond market’s significant development potential, highlight how the improving risk profile of Asian bond
markets is broadening the investor base, and draw attention to risk factors that need to be taken into account as
bond markets develop.
 Access to local-currency bond markets is limited for investors, mainly in the case of the Indian and Chinese
markets. Different schemes that regulate foreign institutional and private investor’s access to these markets have
been implemented.
Currencies – Long-Term Appreciation Despite Short-Term Setbacks
 Investors’ desire to take on exposure to Asian currencies has been one of the driving factors behind the develop-
ment of local-currency bond markets in Asia.
 Structural changes in Asia’s economies are likely to imply further appreciation potential.
Real Estate – Structural Demand for Asian Property
 Asian real estate markets have attracted increasing volumes of investor money in recent years from within the
region, but also from Western investors.
 Long-term investors are likely to be increasingly attracted by the return and diversification potential of Asia’s
property market.
Asia 17 / 70
As the Bank for International Settlements emphasizes, the
importance of liquid and deep financial markets cannot be
overstated.15 Capital markets are essential for economic
growth. They help to mobilize an economy’s savings and
allocate them to productive investments, such as the corporate
sector.16 On top of that, capital markets allow governments
to implement their fiscal and monetary policies, which is why
governments and central banks have a particular interest in
developing liquid and efficient financial markets based on a
strong regulatory and legal framework. If a government’s
policy supports financial markets for funding, that fosters the
development of financial markets and is likely to attract other
issuers such as private-sector corporations. In addition, it
allows for a government-bond market and yield curve to
develop, which may then act as a benchmark for the credit
market.
For Asia, the globalization of financial markets is a doubleedged sword. In the 1990s, Asia profited from an increasing
inflow of funds, better corporate governance and, with it,
financial institutions that started to meet international
standards. In addition, the technological and managerial
competencies of corporations improved significantly.
On the other hand, the Asian financial crisis in the late
1990s proved that opening up capital markets to the rest of
the world leaves an economy exposed to external financial
shocks.
However, the crisis did not cause Asian economies to turn
away from capital markets. Rather, it led Asian economies
o develop domestic sources of funding in order to decrease
their reliance on foreign bank financing. Built on the foundation
of a broader and more solid financial base, domestic capital
markets would consequently become a more important
cornerstone for economic development of the region.
Third, authorities have to understand that a sound legal and
regulatory framework is key to the development of financial
markets and essential to credibility among investors. At the
same time, Asia’s capital markets are heavily dependent on
the advancement of financial infrastructure across the region.
Finally, for Asia to grow as a region, intraregional links between national capital markets need to be strengthened in
order to guarantee an efficient allocation of the region’s
savings to the most productive investments.
Asian economies have realized that in order to continue to
grow at near double-digit rates, they need to promote capitalmarket development in step. China’s efforts to internationalize
the renminbi (RMB) shows that Asian policymakers are well
aware of the challenge. In fact, the financial sector has
indeed grown since the turn of the millennium, and it can be
expected that Asian financial markets will play an increasingly
important role globally commensurate with the rise in GDP.
Despite the progress that has been made so far in terms
of financial-market development, the Asian Development
Bank17 emphasizes that the region’s financial sector will
continue to face significant developmental challenges in
the coming years as it needs to keep up with the regional
economic growth potential.
First of all, the financial sector’s development currently lags
behind the development of the real economy and is unable to
fully satisfy the funding needs of the private sector. Second,
the Asian financial crisis revealed that heavy dependence on
the banking system weakens structural resilience and system
stability. The absence of well-developed domestic capital
markets increases the risk of an overexposed banking system
via maturity or currency mismatches, for example. In addition,
corporate balance sheets lack a diversified funding mix and
become increasingly exposed to financial shocks. Accordingly,
Asia has to develop its domestic capital markets in order to
decrease its vulnerability to international crisis.
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
15
Bank for International Settlements, The international financial crisis and policy challenges in Asia and the Pacific, July 2010
16
Tokyo Club Foundation for Global Studies, Capital Markets in Asia: Changing Roles of Economic Development, edited by Donna Vandenbrink and Denis Hew, 2005
17
Asian Development Bank, ADB Economics Working Paper Series, Asian Financial System: Development and Challenges, November 2011
18 / 70
Financial Markets – the Past and Future
Stock-market
capitalization
35
51
44
37
39
34
16
10
29
12
7
7
Secured loans
outstanding
17
Nonsecuritized loans
outstanding
10
20
13
25
4
5
4
6
4
21
3
3
3
7
35
29
28
4
8
45
5
17
26
4
6
44
14
32
23
23
CEE and CIS1
Latin America
Other Asia
Middle East and Africa
India
China
18
United States
Moreover, in 2012 China surpassed Japan as the country
with the second-most companies listed among the 500 top
revenue-generating corporations, behind the USA. In fact,
as of 2012, 73 of those 500 companies are Chinese (132
are US and 68 are Japanese). The 500 also include thirteen
South Korean, eight Indian and six Taiwanese companies.
The Asia ex-Japan region was home to 20% of the world’s
500 largest corporations by revenue in 2012.
At the same time, Asian stock markets still hold tremendous
development potential. Market capitalization as a percentage
of GDP stands at just 66% in Asia compared to 104% for
the USA. When only developing economies in Asia and the
Pacific are taken into account, the percentage is even lower,
at 50%. China’s ratio of market capitalization to GDP stands
at just 46%.22 For the development potential to unfold,
however, there must be reforms, starting with loosening of
restrictions that institutional investors such as pension funds
and insurance companies face.
Central and Eastern Europe and Commonwealth of Independent States
40
Other
emerging
21
41
125
38
8
China
134
106
100
16
25
12
6
72
Other
developed
26
12
6
11
14
12
23
5
35
26
56
47
52
25
2006
23
2005
41
2004
London
18
32
50
2003
New York
82
32
2002
Asian equity markets have grown substantially in size over
the past two decades. While the Asia-Pacific region’s share
of global stock-market capitalization was 21% in 2003, it
increased by 10 percentage points to 31% by the end of
2011.18 This increase was mainly driven by growing investment from international investors seeking diversification,
coupled with deepening regional financial integration, a
growing domestic institutional investor base and structural
improvements to market infrastructure.19
At the same time, the ongoing capital-account liberalization
has led to improved liquidity and market depth. Liquidity and
trading volumes have therefore strengthened in Asian stock
markets. These developments are now also attracting regional
and foreign firms interested in tapping the stock markets in
Asia.
62
2001
Fig. 12. Financial depth (end of 2010, % of regional GDP). Calculated as total regional debt
and equity outstanding divided by regional GDP.
Source: BIS, Dealogic, SIFMA, Standard & Poor’s, McKinsey & Company (August 2011)
2000
1
18
39
Other developed
Nonfinancial corporate
bonds outstanding
48
Western Europe
Financial institution
bonds outstanding
17
Japan
Public dept securities
outstanding
16
22
8
13
68
54
29
21
35
11
19
13
2010
26
2009
100% = 462 457 400 388 280 209 190 168 148 142
In terms of revenues, Chinese companies have flourished
and have joined the ranks of the global leaders. As of
23 July 2012, three of the world’s ten largest companies by
revenue were Chinese, according to the Fortune 500 global
ranking.21 As recently as 2008, none of the top ten companies
by revenue were Chinese.
2008
Asian Equity Market Development – Stellar Growth, But Still
Further Potential
Stock markets still account for the largest source of capital in
Asia. Figure 12 shows that in a global comparison, equity
financing accounted for the largest part of financial-market
depth for Asian countries in 2010 (next to loan financing for
China).
For example, Glencore, one of the world’s largest commodities
traders, and Prada, one of the most prestigious names in
luxury goods, are listed in Hong Kong. According to McKinsey,
in 2010 emerging markets accounted for more than half of
the global volume of initial public offerings (IPOs), 44% of
which were in China alone (see Figure 13).20
2007
Equities – Capture Asian Growth
Fig. 13. Deal volume in different stock-exchange locations (USD billions, numbers may not add
up due to rounding).
Source: Dealogic, McKinsey & Company (August 2011)
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
18
According to data from the World Federation of Exchanges
19
IMF Working Paper, Asian Equity Markets: Growth, Opportunities, and Challenges, December 2006
20
Including Hong Kong Exchange
21
See http://money.cnn.com/magazines/fortune/global500/2012/full_list/
22
All market capitalization/GDP data from the World Bank
Asia 19 / 70
IN
10.8
8.1
17.8
–12.9
17.6
29.3
–0.7
8.2
Asia ex-Japan
PH
0.4
0.9
1.4
–1.1
0.4
1.2
1.3
0.6
India
ID
2.3
1.9
3.2
1.7
1.4
2.3
2.9
0.5
The Philippines
TH
2.9
2.1
1.6
–4.8
1.1
2.7
–0.2
2.0
Indonesia
KR
–4.0
–12.1
–29.4
–33.3
24.8
19.0
–7.2
9.2
Thailand
TW
22.2
17.4
2.1
–14.7
14.8
9.2
–9.6
4.7
Korea
(USD bn)
2005
2006
2007
2008
2009
2010
2011
2012
Taiwan
AEJ
34.7
18.3
–3.4
–65.1
60.1
63.8
–13.4
25.2
Fig. 14. Foreign flows into Asia (2012 flow data as of 14 March 2012)
Source: Bloomberg, HSBC (26 March 2012)
Can Asian Equities Capture Economic Growth?
Asian equity markets have followed the economic boom in
the region. Between 1992 and 2012, the return on an
investment in the broad Asian stock market would have more
or less matched GDP growth across the region (Figure 15).
Over the past decade, the Asian equity market has rewarded
investors with higher returns than they would have earned
by investing their money in the developed world (Figure 16)
even though they had to accept more volatility in times of
economic weakness.
300
250
200
150
100
50
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
Recent Flows
Capital flows into Asian equity markets have been volatile.
Asia firmly remains a “risk-on” market. As Figure 14 shows,
capital outflows in 2008 and 2011 were offset by capital
inflows in the following years. On the one hand, investor
money flows into Asian stock markets when bullish sentiment
prevails. On the other hand, investor confidence tends to be
affected as global economic confidence worsens. When there
are significant global economic shocks such as the downgrade of the USA’s sovereign debt rating in August 2011,
investors start to withdraw their money from Asian equities
and shift it into “safe-haven” assets such as US Treasurys.
When the euro-zone crisis was in full swing, Asian stock
markets started to see significant inflows again. In the first
two-and-a-half months of 2012, equity inflows into Asia exJapan were already almost double the amount of the 2011
outflows. More than half of those inflows went to investments
in Taiwan and Korea, as Figure 14 shows.
MSCI AC Asia ex-Japan
Asia GDP
Fig. 15. Asian equity performance vs. Asian GDP growth (1992–2012) (1 January 1992 = 100)
(Last data point: 30 December 2011)
Source: Bloomberg, the World Bank, Credit Suisse
China is a special case. Although China’s economy has
grown tremendously since the 1980s, Chinese equity performance has only started to match GDP growth in the last
decade. Between 1992 and 2002, China’s GDP grew by
244% in current USD terms23 while the MSCI China index
lost 85.9%. The Chinese stock market significantly underperformed economic growth during that period, which supports
a theory widely discussed in empirical studies in recent years:
there is often little correlation between economic growth and
stock-market performance.
However, China’s equity market in the 1990s was nowhere
near as developed as its Western counterparts. China did not
have a liquid, efficient and diversified stock market where
investors could easily trade shares of companies that were
exposed to its economic growth potential. Before 2000, only
a fraction of Chinese entities were listed and an even smaller
portion of the listed entities were available to foreign investors.
300%
200%
100%
0%
MSCI World
MSCI AC Asia ex-Japan
2012
2011
2010
2009
2008
2007
2006
2005
2004
2003
–100%
S&P 500 Index
Fig. 16. Asian equities have outperformed developed equity markets (1 August 2002 = 100)
(last data point: 31 August 2012)
Source: Bloomberg, Credit Suisse
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
23
Which corresponds to annualized GDP growth of 13.1% (data from the World Bank)
20 / 70
Financial Markets – the Past and Future
MSCI China
2011
2010
2008
2006
2004
2002
400
350
300
250
200
150
100
50
0
2000
At the end of 2000, the MSCI China index was composed
of only 30 stocks with very limited diversification. For example,
China Mobile, the largest telecommunication operator in
China, accounted for more than 60% of the index weight at
that time since none of the state-owned Chinese banks were
listed.
When looking at the equity performance since the turn of the
millennium, the picture looks different. Figure 17 shows that
since Chinese equity markets have become more liquid and
deeper, China’s stock-market performance has been able
to keep pace with China’s GDP growth. At the same time,
market capitalization has surged, as Figure 18 illustrates.
China GDP
Fig. 17. China’s equity performance vs. China’s GDP growth (2000–2012) (1 January 2000 = 100)
(last data point: 30 December 2011)
Source: Bloomberg, World Bank, Credit Suisse
2012
2011
2010
2009
2008
2007
2006
2005
2004
2003
2002
2001
1,600,000
1,400,000
1,200,000
1,000,000
800,000
600,000
400,000
200,000
0
MSCI China Total Market Cap (in USD million)
Fig. 18. MSCI China market capitalization in USD (2000–2012) (last data point: 31 August 2012)
Source: Bloomberg, World Bank, Credit Suisse
It was only after December 2001, when China joined the
World Trade Organization (WTO), that China made serious
progress in terms of developing its financial markets by
allowing some of its largest state-owned enterprises and
domestic companies to be listed. Today, there are over 2,000
Chinese entities listed in mainland China and nearly 1,000
Chinese entities listed offshore (including Hong Kong). The
MSCI China index, a proxy for larger-capitalization Chinese
companies, now has over 143 members covering a wide
spectrum of business activities such as banking, technology,
discretionary consumer goods, and others.
With the continuing liberalization of capital markets, one can
expect to see more and more Chinese companies listed,
providing equity investors with more investment opportunities.
Equally, as the management of listed companies becomes
more sophisticated, investors can also reasonably expect
better management quality and greater emphasis on shareholder value.
In summary, the correlation between stock-market performance and economic growth remains imperfect, and good
sector and securities selection are essential. Investors need
to identify those sectors and themes that have the greatest
potential.
Where to Invest in the Future to Get Exposure to
the Asian “Miracle”
Finding the appropriate strategy and sector with which to
tap Asian economic growth is not easy, and investors need
to ask themselves a number of questions. Juan Manuel
Mendoza and Isis Ma,24 who manage Asian equity mutual
funds for Credit Suisse, answer some key questions.
Where do you see markets going from here?
What do you see on the ground in Asia?
Juan Manuel Mendoza: Asian equity markets have
traded up despite the very mixed news flow coming from
Europe’s crisis as well as from China, where this year we
have a change of leadership. Although markets have
advanced, we have seen increasing volatility in the region,
and it is true that we saw some deceleration in Hong
Kong retail sales this summer, which is an important barometer. But recent numbers for August are encouraging
and actually pointing to a bottoming out of retail sales.
Isis Ma: Confidence is definitely coming back. We are
monitoring the earnings season very closely. Although we
see a mixed picture across sectors and countries, valuations have not been this attractive for a long time. Some of
the names are trading at historically low price-to-earnings
ratios, which we think offers a great entry opportunity for
investors who do not have any exposure to Asia at this
point in time.
What are clients actually looking for right now when they
invest in Asian equities?
Juan Manuel Mendoza: Given the current volatility, we see
investors focusing on yield – also in the Asian equity markets. Remember, not only do Asian equities offer an
opportunity to benefit from high earnings growth, but in
addition, many companies pay consistent and sustainable
high dividends. In Singapore, for example, we see clients
currently searching for high-yielding securities. In fact, the
average fund in Singapore’s USD 38 billion REIT market
has achieved a double-digit return so far this year.
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
24
Juan Manuel Mendoza is Head of Equities Asia and Fund Manager of the CS Equity Luxury Goods Fund as well as Co-Fund Manager of the CS Equity Asia Consumer Fund.
Isis Ma is Co-Fund Manager of the CS Equity Asia Consumer Fund.
Asia 21 / 70
The average yield in this sector is currently 6.46%. But
other sectors in Singapore such as the telecommunication
sector offer high yields.
In what areas do you see high growth in the future?
Juan Manuel Mendoza: We continue to see strong growth
coming from the emergence of Asia’s new middle class.
Areas that are benefiting from the rising middle class in
Asia continue to generate double-digit sales growth. The
Organization for Economic Cooperation and Development
(OECD) estimates that the Asian middle class will grow
from 325 million in 2009 to 1.7 billion in 2020. That
would outnumber today’s established middle class in Europe
and North America.
Juan, you have been investing in the luxury-goods industry
for a long time. How did Asian consumers and especially
Chinese consumers change the industry?
Juan Manuel Mendoza: I always tell investors the same
thing. The Asian luxury market will be as large as today’s
global luxury market by 2020. For a lot of the leading
luxury brands, ethnic Chinese consumers are already the
largest consumer group globally. Companies such as the
Italian luxury fashion brand Prada have even decided to
come to the market in Hong Kong rather than in Italy
because the revenues coming from Asian consumers
make up more than half of their sales today. In addition,
the market is so large that there is enough space for
Louis Vuitton to be joined by new emerging Asian luxury
brands. Especially in segments such as luxury cosmetics,
luxury hotels and luxury high-heeled shoes, we expect
Asian brands to emerge and compete with the Western
brands.
Isis, where do you see other exciting opportunities
in Asia?
Isis Ma: We have been investing in casino operators in
Asia for a long time because we believe that the gaming
industry in Macau offers investors one of the best consumer
stories in the world. Today, the Macau market in revenue
terms is already four times larger than Las Vegas.
Still, Macau can only capture a fraction of the mainland’s
total gaming potential. Tourists from first-tier cities like
Beijing and Shanghai account for only 5% of the total
mainland tourist arrivals in Macau today. With the continuous expansion of a nationwide transportation network
connecting to Macau, which can significantly shorten
traveling times, we expect that Macau gaming will be a
USD 100 billion market by 2020.
Juan Manuel Mendoza: Investing in Macau’s casino
operators is also very appealing in terms of dividend yield;
the gaming industry already ranks as one of the highestyielding sectors in Asia. In fact, Macau’s casino operators
paid a combined USD 2.9 billion of dividends to their
shareholders in 2011, and we expect them to increase the
total dividend payout to USD 3.3 billion by 2013 (cumulative average growth rate (CAGR) of 6.7%).
Any other areas where you are tapping into the growth
of the Asian middle class?
Isis Ma: We believe that the increasing smartphone penetration in emerging Asia will be a long-term structural growth
story. In these developing countries, mobile phones remain
the easiest way to access the Internet. And yet even today,
two of the most populated countries in Asia, namely China
and Indonesia, have a smartphone penetration rate below
10%. With the rollout of all ranges of smartphone models
from low-cost to high-end, smartphone penetration will
definitely increase. We expect the number of smartphone
users to increase by fivefold between now and 2015,
becoming a market with 1 billion users. Besides the
manufacturers, who will benefit from the increase in sales
volume and operating leverage, the telecom groups are best
positioned to monetize this structural growth story.
Juan Manuel Mendoza: We are also investing in travel
and leisure stocks in the region. We have experienced
tremendous growth in the local tourism industry driven by
Chinese tourists traveling around the world. On top of that,
they also buy luxury goods outside mainland China given
the very high import costs. Last year, 42 million tourists
arrived in Hong Kong alone, two-thirds of whom from
mainland China.
Fixed Income – the Driver of Further Capital Market
Liberalization
Bond Market Development in Asia
Asian bond markets have come a long way since their early
days. It wasn’t until the Asian financial crisis in the late 1990s
that Asia’s policymakers and market participants realized the
importance of having a well-functioning, developed bond
market. Previously, developing Asian economies had primarily
relied on foreign-currency-denominated loans to fund their
long-term investments, which left bond markets lagging
behind in terms of development. This led to a currency and
maturity mismatch, which caused the market to collapse and
Asian currencies to plunge in value when foreign loans could
not be rolled over. After realizing the full effect of the crisis,
Asian policymakers started to recognize the need for better
diversified financial markets that would enhance financial
stability and reduce the concentration of credit and maturity
risks in banks. This required developing a market for Asian
bonds denominated in local currencies, which would enable
the tremendous amount of savings available to be channeled
into long-term investments while avoiding the double
mismatch (currency and maturity) that had aggravated the
1997/1998 crisis.
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
22 / 70
Financial Markets – the Past and Future
Authorities have recognized the importance of these developments and have supported the advancement of Asian bond
markets via measures such as the Asian Bond Markets
Initiative (ABMI) and the Asian Bond Fund (ABF) project.
These policy efforts have made a meaningful contribution
to the expansion of the primary market for government and
quasi-sovereign bonds and at the same time have thus
allowed a benchmark yield curve to develop.
As Figure 19 shows, the market has been dominated by
government bonds, with sovereign issues accounting for
70% of bonds outstanding in 2011 compared to 30% for
corporate bonds.
in USD billion
6000
5000
4000
3000
2000
Government bonds local currency
Total local currency
2011
2010
2008
2009
2006
2007
2004
2005
Corporate bonds local currency
Total foreign currency
Fig. 19. Asian local-currency bonds outstanding (government and corporate bonds),
1995–2011 (last data point: 30 December 2011)
Source: Asian Development Bank, Credit Suisse
Emerging Asia’s local-currency bond market today is by far
the largest in the emerging-market space. Emerging Asia’s
local-currency debt market today accounts for almost 65% of
the overall emerging-market local-currency debt market.
Figure 19 also shows that corporate credit’s share of total
bonds outstanding increased from 27% in 2006 to 30% in
2011. Although lagging behind in development compared to
government bonds, corporate-bond markets have tremendous
future growth potential.26 In the case of China, for example,
the corporate sector has caught up significantly in terms of
issuance volumes, as pictured in Figure 20. Nevertheless,
it is still only one-third the size of the US corporate-bond
market as a percentage of GDP.
400
350
300
250
200
150
100
50
0
1997 1999 2000 2002 2004 2006 2007 2009 2011
China Govt (in USD bn)
Bond Market Growth Mainly on Government Bond Side, But
Corporate Bonds Hold Significant Future Potential
Boosted by increasing spending needs and the enormous
growth of Asian economies, the size of Asia’s local-currency
bond market doubled between 2006 and 2011 and now
amounts to around USD 6.5 trillion, according to data from
the Asian Development Bank.
2002
2003
2000
2001
1998
1999
1997
1996
1995
1000
0
in USD billion
The Importance of Having a Well-Functioning
Bond Market for Asia
According to the 21st Century Public Policy Institute (21PPI;
see footnote 14), there are four other major reasons why
Asian bond markets have recently become increasingly
important.
First, the dynamic growth of Asian economies will create
growing funding needs, thus increasing the relevance of
having a well-developed bond market.
Second, Asian economies are expected to face significant
infrastructure development needs and at the same time
will have to address environmental preservation, energy
conservation and climate change mitigation issues.
According to joint research by the Asian Development Bank
and the Asian Development Bank Institute25, Asia’s demand
for infrastructure investment will exceed USD 8 trillion
between 2010 and 2020. This will include energy, transportation, telecommunications, water, and sanitary systems.
In order to meet those tremendous funding needs, the
Asian Infrastructure Fund (AIF) was launched with the aim of
raising international funds, both public and private, to finance
appropriate infrastructure projects across the region. While
funding from Asian governments and other public institutions
will be essential, the sheer size of the funds needed will
make fundraising from the private sector indispensable.
This means that bond markets will play a key role as a
funding instrument.
Third, for multinational corporations that want to set up
operations in the region, bond markets will provide an
opportunity to raise long-term local-currency funds. Finally,
the increasing prosperity across Asia, which is reflected in
the rise of the Asian middle class, will increase demand for
social security. This, in turn, necessitates the development of
pension systems and will ultimately lead to growing demand
for secure long-term investments from pension funds and
insurance companies.
China Corp (in USD bn)
Fig. 20. China’s issuance volume of local-currency bonds (data from June 1997 to March 2012)
Source: Asian Development Bank
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
25
Asian Development Bank and Asian Development Bank Institute, Infrastructure for a Seamless Asia, 2009
26
Globally, corporate bonds account for 40% of total domestic debt securities outstanding, according to data from the Bank for International Settlements.
Asia 23 / 70
A look a little farther back in time reveals that between 1997
and 2009, the balance of issues in Asian bond markets27
increased by a multiple of 11.28 While government bonds
increased by a factor of 17, corporate bonds (including financial
bonds) increased by a factor of eight. This highlights that
growth in corporate-bond markets is a recent development.
Bank borrowing has long been the major funding source
for Asian corporations. In fact, between 1997 and 2009,
corporate-bond markets were not able to outpace domestic
credit in terms of market growth. Once the relative
importance of corporate-bond markets compared to bank
funding increases, its development will most likely no longer
trail that of government-bond markets.
Korea
d
Bonds outstanding
Private-sector financing
Equity market size
1997
42.5%
54.1%
18.0%
2002
89.4%
84.3%
43.2%
2007
106.9%
100.9%
101.5%
2009
117.5%
116.0%
138.9%
Malaysia
d
Bonds outstanding
Private-sector financing
Equity market size
1997
65.3%
139.5%
201.7%
2002
88.4%
119.5%
128.9%
2007
90.4%
100.7%
156.0%
2009
96.7%
92.9%
210.6%
The increasing number of issues, especially during and after
the 2007/2008 financial crisis, can be attributed to four main
factors, according to a study by Pacific Business and Industries
(see footnote 28). First, in general, government bond issues
increased in step with the economic performance of the
countries in Asia. Second, in order to sterilize capital inflows
and to prevent local currency appreciation, central banks
increased the issuance of bonds. Third, governments and
corporations that had turned to international capital markets
to meet their funding needs returned to domestic markets.
Finally, as already touched upon before, the economic rise
of Asian countries brought with it enormous demand for
infrastructure investment, which needed to be funded partly
via bond markets.
The Philippines
d
Bonds outstanding
Private-sector financing
Equity market size
1997
27.2%
48.7%
68.5%
2002
33.9%
32.8%
52.8%
2007
34.6%
23.3%
59.8%
2009
30.1%
20.9%
98.6%
d
Bonds outstanding
Private-sector financing
Equity market size
1997
9.6%
154.1%
41.2%
2002
32.7%
97.1%
32.7%
2007
50.7%
82.7%
68.9%
2009
63.1%
73.3%
78.6%
Indonesia
d
Bonds outstanding
Private-sector financing
Equity market size
1997
2.6%
53.5%
28.1%
2002
27.6%
17.9%
13.6%
2007
18.9%
22.7%
40.7%
2009
21.1%
23.0%
74.1%
Regional Divergences in the Development of Bond Markets
While the importance of bond markets as a funding source
for Asian corporations has been a development in all Asian
economies, there have been divergences in the growth in
individual markets. The same is true for the development
of equity markets. While both markets have increased
significantly in terms of size, the magnitude of the growth
has varied considerably across markets, as Figure 21 shows.
Thailand
Fig. 21. Bonds outstanding, private-sector financing and equity market size as a % of GDP in
various Asian countries, 1997–2009
Source: World Bank, Financial Development and Structure Dataset, 21PPI (February 2011)
The Korean, Malaysian and Thai bond markets experienced
particularly strong growth between 1997 and 2009,
whereas the bond market in the Philippines barely grew at all.
Altogether, the role of private-sector financing decreased
markedly in the countries’ funding mixes.
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
27
Including China, Hong Kong, Indonesia, South Korea, Malaysia, the Philippines, Singapore and Thailand
28
Pacific Business and Industries Vol. X, 2010 No. 38, The Development of Asian Bond Markets Since the Global Financial Crisis – Significance and Challenges, 2010
24 / 70
Financial Markets – the Past and Future
40%
3,000
2,000
1,000
30%
20%
10%
Government bonds
Financial institutions bonds
2010
2009
2008
2007
2006
2005
2004
2003
0%
2002
0
2001
Japan
Vietnam
4,000
2000
Corporate bonds 2011
60%
50%
1999
Corporate bonds 2006
Government bonds 2011
6,000
5,000
1998
Government bonds 2006
Thailand
Singapore
The Philippines
Malaysia
Korea
India
Hong Kong
China
75%
50%
25%
0%
1997
225%
200%
175%
150%
125%
100%
A mature government-bond market is a prerequisite for the
growth of a corporate-bond market. It facilitates the introduction of new financial products, improves market liquidity
in secondary markets and builds a foundation for market
infrastructure (see footnote 28). Now that government-bond
markets are providing a yield curve benchmark, the Asian
bond market is ready to shift from a phase of growth driven
by government bonds to one driven by corporate bonds.
As Figure 23 confirms, the volume of corporate bonds and
the volume of government bonds outstanding have both
increased significantly over the past decade.
in billion USD
Looking at more recent developments, Figure 22 provides an
illustrative overview of the differences in size between Asian
bond markets in terms of percentage of GDP between the
end of 2006 and the end of 2011.
Corporate bonds
Fig. 22. Local-currency bond market development in Asia, 2006–2011 (last data point
1 December 2011)
Source: AsiaBondsOnline, Credit Suisse
Including the following countries/economies: China, Taiwan, Hong Kong, Korea, Indonesia,
Malaysia, the Philippines, Singapore, Thailand and India.
Including only bonds issued domestically (not including bonds issued offshore).
Including Japan in the analysis reveals that the Japanese
bond market is still by far the largest in Asia, driven by an
enormous government-bond market. Leaving Japan aside,
Korea and Malaysia have the largest bond markets relative to
GDP in Asia; their bond markets have grown the most in the
recent past, together with the Hong Kong, Singapore and
Thai bond markets.
Fig. 23. The volume of Asian bonds outstanding has increased exponentially
(last data point 30 June 2010)
Source: BIS, 21PPI (February 2011)
400
300
in USD billion
Emergence of the Corporate Bond Market
As described above, government bonds tend to drive the
early stages of bond-market development. So it is not
surprising that the growth rate of Asia’s government-bond
markets has outpaced that of the corporate-bond market.
In addition, as pointed out before, the corporate-bond market
in Asia has always had to compete in a system heavily
focused in the past on bank loans as a funding tool. This,
too, has certainly held back corporate-bond market growth.
Moreover, as highlighted by the Bank for International
Settlements,29 corporate bond markets in emerging Asia
continued to grow at a faster pace than those in other
emerging markets between 2005 and 2011 (see Figure 24).
200
100
0
2005
Asia1
2006
2007
Latin America2
2008
2009
Developing Europe3
2010
2011
Africa and Middle East4
Includes bonds issued by non-financial corporates residing in the economies in the respective
regions. Both bonds rated by at least one of the three major international credit-rating agencies and
other bonds either rated by other rating agencies or not rated.
1
Azerbaijan, Bangladesh, China, Chinese Taipei, Hong Kong SAR, India, Indonesia, Korea, Kyrgyz
Republic, Malaysia, Pakistan, the Philippines, Singapore, Thailand, Uzbekistan and Vietnam.
2 Argentina, Brazil. Chile, Colombia, Dominican Republic, Jamaica, Mexico. Peru, Trinidad and
Tobago, Uruguay and Venezuela.
3 Belarus, Bulgaria, the Czech Republic, Croatia, Hungary, Latvia, Lithuania, Poland, Russia,
Turkey and Ukraine
4
Botswana, Egypt, Ghana, Iran, Israel, Liberia, Morocco, Nigeria, Qatar, Saudi Arabia, South
Africa and the United Arab Emirates.
Fig. 24. Emerging-market corporate bond issuance (USD bn), 2005–2011
(last data point 30 September 2011)
Source: Dealogic DCM Analytics, BIS (January 2012)
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
29
BIS Papers No. 63, Development of Asia-Pacific corporate-bond and securitization markets, January 2012
Asia 25 / 70
Bonds
outstanding
d
China
Hong Kong
Taiwan
Korea
Singapore
Indonesia
Malaysia
The Philippines
Thailand
India
Emerging Asia Total
Japan
The United States
England
d
9%
23%
35%
28%
25%
2%
54%
20%
7%
18%
19%
97%
139%
52%
Dec. 1997
Government
Financial
bonds
institution
bonds
5%
4%
7%
14%
11%
8%
6%
10%
14%
8%
0%
1%
19%
22%
20%
–
1%
0%
18%
0%
8%
6%
54%
33%
53%
63%
34%
15%
Corporate Bonds
bonds outstanding
d
d
–
60%
2%
56%
16%
63%
13%
131%
3%
71%
1%
20%
12%
99%
0%
37%
6%
76%
0%
53%
5%
64%
11%
247%
22%
176%
2%
71%
June 2010
Government
Financial
bonds
institution
bonds
33%
17%
41%
9%
38%
9%
56%
34%
56%
13%
19%
1%
51%
21%
35%
–
54%
1%
45%
6%
38%
15%
209%
22%
72%
83%
56%
14%
Corporate
bonds
d
9%
6%
16%
41%
1%
1%
28%
2%
20%
2%
11%
16%
20%
1%
Fig. 25. Country-by-country bond-market size as percentage of GDP, 1997 vs. 2010
Source: BIS, IMF, 21PPI (February 2011)
At the same time, though, Figure 25 shows that there have
been wide divergences with respect to bond-market size
among Asian nations.
While Japan, China and Korea are the three largest markets
in terms of the absolute amount of corporate bonds outstanding, the three largest markets as a percentage of GDP are
Malaysia, Korea and Thailand. In fact, as of 2010, their
corporate-bond markets were even larger as a percentage of
GDP than those in many developed countries like the USA.
Furthermore, financial institutions have been using the bond
market more extensively for funding. Here again, mainly the
more advanced bond markets in Malaysia and Korea have a
financial-institution bond market of a size comparable to
those in the developed world.
One reason for the slow advancement of the corporate-bond
sector has already been explained above. Compared to the
government sector, which usually raises funds by issuing
government bonds, Asian corporations have predominantly
relied on bank loans instead of capital markets. Only recently
have funding needs for infrastructure projects required the
bond market to step in to raise the necessary funds.
Government Bonds Will Pave the Way for Corporate-Bond
Market Growth
Bond-market growth at this stage will most probably continue
to be driven mainly by the government-bond market, though
there is undoubtedly tremendous growth potential in the
corporate-bond market.
When comparing the size of Asian corporate-bond markets in
2001 to their size in 2009, China serves as a goodexample
of how fast the corporate-bond market can grow once
market participants start to realize its enormous potential.
As Figure 26 shows, the size of the Chinese corporate-bond
market increased by a factor of 22 between 2001 and 2009,
relegating the Indian corporate-bond market to second place
with growth of a mere four times the size of 2001.
It would not be surprising to see similar figures for other
Asian countries when looking at bond-market developments a
couple of years from now.
Bank loans
outstanding
To
To
govts. private
China
Hong
Kong
India
Indonesia
Japan
Korea
Malaysia
The
Philippines
Singapore
Thailand
Bonds
outstanding
Govt. Financial
bonds institution
bonds
2.8
1.9
1.1
1.1
2.5
1.2
0.3
2.1
2.3
1.8
1.1
1.7
1.8
1.1
1.6
0.8
3.5
1.6
0.7
2.5
2.2
1.3
1.1
1.5
1.0
1.0
1.1
0.9
1.1
1.7
2.8
Equity Total
market
Corp.
cap
bonds
21.9
1.7
1.4
0.7
140.5
2.4
0.8
3.1
1.4
1.3
4.4
1.5
1.2
0.9
1.1
3.7
3.4
3.5
1.3
2.9
1.1
2.8
2.4
1.2
1.5
1.9
1.0
N/A
0.9
8.1
2.0
0.3
1.6
2.0
2.3
2.3
1.3
1.7
1.4
Fig. 26. Increase in financial market size between 2001 and 2009 as percentage of GDP
(multiples of 2001)
Source: AsiaBondsOnline, BIS, IMF, SEBI, 21PPI (February 2011)
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
26 / 70
Financial Markets – the Past and Future
This is reflected in the growing issuance of Chinese corporate
bonds in recent years, which has by far outpaced issuance
activity in the rest of the region, as highlighted in Figure 27.
700
600
EM Asia
2012
2011
2010
2009
2008
2007
2006
2005
EM Asia ex-China
Fig. 27. Corporate bond issuance in Asia (last data point 26 March 2012)
Source: Bloomberg, HSBC (Q2 2012)
Forecasts by Barclays30 suggest that the net supply of Asian
credit should continue to grow. This would confirm the trend
that we have seen in recent years and which is highlighted in
Figure 28, namely that gross issuance consistently exceeded
redemptions.
in billion USD
100
80
140
120
100
80
60
40
20
0
1997
1999
Downgrade
2001 2003
2005
2007
2009
2011
Upgrade
Fig. 29. Ratings upgrades and downgrades in Asia
Source: S&P Ratings, Barclays Research (13 July 2012)
In fact, China, India, Korea, Malaysia and Thailand all have
active local credit-rating agencies which, to a large extent,
were set up under government initiatives and in conjunction
with international rating agencies (see footnote 29).
The implementation of a rating system in these markets has
further supported the issuance of corporate bonds across
the region.
60
40
20
0
-20
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012F/E
2013E
2014E
2015E
2016E
-40
-60
Gross supply
Redemption
Net supply
Fig. 28. Net supply in the credit market has been trending upward (note: volumes refer to
SD-denominated bonds issued by corporates, banks and sovereigns in Asia ex-Japan; for 2012
full-year gross issuance is forecasted)
Source: Barclays Research (13 July 2012)
The increasing importance of the corporate-bond market in
Asia is also visible when considering the development of
Asian corporate-bond benchmarks. Since their implementation,
which indicated that Asian credit was about to be established
as an asset class, their market capitalization has surged.
The JP Morgan Asia Credit Index (JACI), for example,
grew from USD 50 billion around 10 years ago to almost
USD 350 billion in July 2012. It encompasses sovereign,
quasi-sovereign31 and corporate credit and has expanded
progressively in the past couple of years, now covering 14
Asian countries with a wide range of credit quality.
Conclusion: Asia’s Credit Market Holds Significant
Growth Potential
In summary, as Figure 30 outlines, the Asian credit market is
still small compared to its counterparts in developed markets.
Number of companies within the respective segment
100
0
2004
300
200
LT Foreign Currency – Yearly Basis
In addition to the global top-tier rating agencies, local rating
agencies helped to reinforce the credit quality of corporate
issues and have become an important keystone for the
development of Asia’s corporate-bond markets.
500
400
2003
billion, USD and local currency
800
Improved Credit Quality Secured by Local Rating Agencies
In terms of credit quality, the Asian credit market has improved
over the past fifteen years, as Figure 29 shows. Except
during the Asian financial crisis and the subprime crisis in the
USA, upgrades have consistently exceeded downgrades in
recent years, according to S&P.
5,000
4,500
4,000
3,500
3,000
2,500
2,000
1,500
1,000
500
0
976
3,765
254
1,425
87
218
203
201
Asia
EM Sov
Investment grade
Europe
US
High yield
Fig. 30. Asia’s corporate-bond market is still small compared to other markets
Source: Barclays Research (22 June 2012)
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
30
Barclays Research, Asia Credit Alpha: Navigating the Ratings Cliff, 13 July 2012
31
Entities majority state-owned
Asia 27 / 70
At the same time, Figure 31 shows that Asian corporate
bonds still offer an attractive spread pickup for investors
compared to global corporate bonds.
7,000
6,000
5,000
in billion USD
Figure 31 shows that spread levels for Asian corporate bonds
have narrowed considerably since the 2008/2009 financial
crisis. This implies that funding costs for corporations in the
corporate-bond market have decreased. This increases the
temptation for corporations in Asia to add leverage, especially
considering the fact that the corporate cost of equity often
exceeds 10%.
4,000
3,000
2,000
1,000
600
0
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
700
500
Total government bonds
400
Fig. 32. Historical growth of Asian local-currency bond market (excluding Japan)
(last data point: March 2012)
Source: AsiaBondsOnline, Credit Suisse
300
200
JP Morgan Asia Credit Index
2012
2011
2010
2009
2008
2007
2006
100
0
Total corporate bonds
Merrill Lynch Global Broad Corporate Index
Among the different Asian markets, local-currency bond markets
have exploded since the turn of the millennium, particularly in
China. Figure 33 highlights the growth of the bond markets in
Indonesia, Korea, Malaysia, the Philippines and Thailand
in comparison to the Chinese market. It shows that the already
stellar growth in the rest of Asia can hardly compare with the
massive growth in China’s local-currency bond market.
Fig. 31. Asian corporates still offer attractive spread levels compared to global corporates
(last data point: 31 July 2012)
Source: Bloomberg, Credit Suisse
2,100
Local-Currency Bond Markets
When looking at Asian bond markets, it is important to
distinguish between local- and hard-currency bonds. The
term “hard currency” usually refers to bonds denominated in
major currencies such as the US dollar, the euro or the
Japanese yen. In the past, foreign investors focused on hardcurrency bonds in order to achieve diversification in terms of
issuer risk while at the same time avoiding currency risk from
a European or American perspective. With the appreciation
potential of emerging-market currencies rising, getting exposure to those currencies has become increasingly appealing
to investors, which is why local-currency bonds have become
more and more attractive as an asset class.
1,300
1,700
900
500
100
2000 2001 2002 2004 2005 2007 2008 2010 2011
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
Financial Markets – the Past and Future
Indonesia
Korea
Malaysia
The Philippines
Thailand
Fig. 33. Indexed size of local-currency bond market in USD (1 January 2000 = 100)
(data as of end-December 2011)
Source: Bloomberg, Asian Development Bank
As Figure 32 shows, the size of Asia’s local-currency bond
market has increased more than sixfold since the beginning
of the 21st century.
28 / 70
China
Foreign investor demand has played a key role with regard
to the growth in the market size of local-currency bonds. In
fact, as highlighted by Figure 34, foreign ownership of localcurrency bonds has surged since 2010 as investors have
been looking for yield and currency appreciation in Asia.
35%
30%
25%
20%
15%
10%
5%
India
Japan
Korea
Malaysia
2012
2011
2010
2009
2008
2007
2006
2005
2004
0%
Thailand
Fig. 34. Foreign ownership of Asian local-currency bonds continues to rise (as % of total localcurrency bonds outstanding) (last data point: 1 December 2011)
Source: AsiaBondsOnline, Credit Suisse
The escalation of the European debt crisis shifted attention
back toward risk aversion and triggered outflows. However, in
countries such as Indonesia and Malaysia, foreign ownership
of local-currency bonds is still above 25%.
IInvestor demand, among other factors, has caused issuance
levels to multiply. This is in part due to issuance coming from
China, Hong Kong and Korea, which together accounted for
67% of Asia ex-Japan bond issuance as of March 2012.32
Limited Access to India’s and China’s Bond Markets
Figure 34 shows that foreign ownership of local-currency
bonds has increased quite significantly in recent years,
especially in the Indian bond market. This observation is far
from self-evident when the stringent restrictions on investors’
market access are taken into consideration. Among Asian
local-currency bond markets, the Indian and Chinese bond
markets in particular are characterized by strict access
limitations.
In India, only certain investors are permitted to invest in Indian
debt securities, stocks and mutual funds. These investments
are limited in terms of volume and type of security. Foreign
institutional investors (FIIs) have to be registered with the
Securities and Exchange Board of India (SEBI). According to
the SEBI and the Reserve Bank of India, current quotas
regulating investment volumes range from USD 10 billion for
government debt to USD 20 billion for corporate debt securities.
Recently, the Qualified Foreign Investor (QFI) scheme was
added, which also allows individuals, groups or associations
to invest in corporate debt securities and infrastructure debt
mutual funds up to an overall limit of USD 1 billion and USD
3 billion, respectively.
Especially in the case of China, accessing the growth potential
means that certain barriers need to be overcome. China has
been protecting itself from outside capital for a long time in
order to avoid appreciation of the renminbi and to prevent
poorly controlled capital in- and outflows. China has only
recently started to gradually allow its financial market to open
the door to outside investors.
For bond investors, the most significant step was taken
with the implementation of the Qualified Foreign Institutional
Investor (QFII) scheme, which since 2007 has enabled
foreign institutional investors that have been granted QFII
status to trade A-shares, government bonds, corporate
bonds, convertible bonds and other financial instruments
approved by the China Securities Regulatory Commission
(CSRC). Since then, access prerequisites for QFIIs have
been lowered, the application procedure has been simplified,
and foreign investors are now also able to access the interbank market, where most of the bond trading takes place.
This has resulted in increasing demand for the quotas.
In April 2012, the CSRC raised the total quota to USD
80 billion, leaving plenty of room for further demand, which
has been accelerating since the start of 2012. The raised
quotas can be viewed as a sign that Chinese regulators are
willing to move forward with opening the domestic securities
market to international investors.33
Onshore vs. Offshore Bond Markets
As emphasized by the Bank for International Settlements
(see footnote 15), bond markets in nearly all currencies are
becoming increasingly internationalized. This implies that
financing options are increasing for borrowers and that the
range of investment opportunities is expanding for investors.
The offshore bond market is a key instrument supporting this
development. It allows governments and corporations to issue
bonds in offshore financial centers34 and brings together
investors and borrowers that, for different reasons, would
otherwise not have a chance to connect, matching funding
supply and demand in international capital markets.
Further motivations for issuing bonds offshore, according to
the BIS, include (1) the benefits of accessing offshore markets
with different characteristics in terms of liquidity, diversity
and risk; (2) accessing non-resident investors; (3) regulatory
barriers to foreign investment in the domestic market and;
(4) funding diversification. Often issuers seem to benefit from
larger, more liquid, diverse and complete offshore markets.
Furthermore, competition from the offshore market may also
lead to improvements in domestic markets by revealing their
weaknesses and thus enabling improvements to domestic
market infrastructure, enhancing investor protection and
removing tax distortions that might prevent domestic markets
from advancing.
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
32
According to data from AsiaBondsOnline
33
The question of how investors can access China’s enormous economic growth potential will be discussed later on in more detail in the chapter titled “Focus: China”.
34
According to the International Monetary Fund, an offshore financial center can be thought of as “a country or jurisdiction that provides financial services to non-residents on a scale that is
incommensurate with the size and the financing of its domestic economy.”
Asia 29 / 70
According to the Bank for International Settlements, Australia,
Hong Kong, New Zealand, the Philippines and Singapore are
countries where a significant proportion of bonds are issued
offshore. China, Indonesia, India, Japan, Korea, Malaysia and
Thailand are countries where offshore bond issuance only
accounts for a small percentage of overall issuance.
In the end, it is the responsibility of the respective countries
to find a balance between on- and offshore market issuance,
and the decision criteria differ significantly across Asian
countries and corporations.
China’s “Dim-Sum” Bond Market as an Example
The new offshore renminbi fixed-income market in Hong
Kong, also known as the CNH market, was established in
2007. It symbolized China’s decision to relax its stance on
foreign-investor flows and its desire to further internationalize
its currency in order to ultimately establish the RMB as one
of the world’s major reserve currencies. The creation of the
so-called “Dim-Sum” bond market is the cornerstone of
China’s development toward an open market economy and is
key to the process of gradual RMB internationalization and
interest-rate liberalization.
While the internationalization of the RMB will be discussed in
more detail later on in this study, we will now take a brief
look at China’s bond market.
4,000
3,500
3,000
2,500
2,000
1,500
1,000
Government bonds
2012
2011
2010
2009
2008
2007
2006
Fig. 35. Outstanding onshore RMB bonds (last data point: June 2012)
Source: Asian Development Bank, Credit Suisse
The market is divided into three main markets: the interbank
bond market, which accounts for 90% of the transactions
and total volume outstanding, the exchange market and the
commercial over-the-counter market. This market structure
is the main reason why China’s offshore bond market in
Hong Kong has recently attracted enormous attention.
The dominant interbank market is very restricted in terms of
market access and limited to a small number of professional
investors. Because of that, the “Dim-Sum” market has turned
out to be the ultimate choice for investors to gain exposure to
Chinese growth and the accompanying appreciation of the
RMB. While the first “Dim-Sum” bond was issued in 2007, it
was one of a number of liberalization measures implemented
in 2010 that rapidly accelerated the growth of the market.
Issuance volumes have been increasing ever since and are
likely to continue to do so in the future.
Issuer Perspective…
Compared to the onshore market, the “Dim-Sum” market is
usually characterized by shorter duration, lower yields and thin
liquidity. Figure 36 shows the maturity profile of the market.
7 yr (2%)
15 yr (1%)
10%
10 yr (2%)
28%
3 yr
9 yr (0%)
1 yr
5 yr
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
Financial Markets – the Past and Future
2005
Corporate bonds
36%
21%
Fig. 36. Maturity profile of the CNH market
Source: Bloomberg, Deutsche Bank (April 2012)
30 / 70
2004
2003
2002
2001
2000
1999
1998
500
0
1997
In addition to the benefits of tapping the offshore markets,
there are a number of risks to be highlighted as well. The
increasing financial openness of bond and currency markets
in the course of capital-market internationalization exposes
the market to abrupt changes in capital flows and to the risk
of offshore markets drawing liquidity away from the domestic
market. In addition, there is the risk of unhedged foreigncurrency borrowing, which aggravated the Asian financial
crisis in the late 1990s. Having learned from their experiences
in the past, most issuers manage to avoid a currency mismatch
by either swapping the bulk of their offshore currency
borrowings into local currencies straightaway by matching
them to foreign-currency income or by holding reserves to
guarantee liquidity.
Figure 35 shows that China’s onshore bond market has
increased at a tremendous pace in the past decade and
today is the largest bond market in Asia ex-Japan with an
outstanding amount of almost USD 3.5 trillion.
in billion USD
Accordingly, many firms in Asia have access to both domestic
and offshore markets, which essentially offers them the
choice of currency denomination and investor base when
tapping the bond market for funding. In the end, their choice
is influenced by funding costs in both markets and by their
ability to hedge and manage currency risk (see footnote 29).
2 yr
Another reason why an increasing number of international
corporations have been trying to issue in the “Dim-Sum”
market is that more and more corporations are now manufacturing on mainland China. They are thus interested in
funding their RMB investments in the matching currency.37
In general, the RMB offers a natural hedge for companies
that buy and sell goods in China.
Investor Perspective…
Besides the potential for RMB appreciation and their limited
access to the onshore market, investors are attracted by
the diversification potential that these bonds provide in a
global bond portfolio. Furthermore, as Figure 38 shows,
the average yield offered for RMB bonds has increased lately,
reflecting the increasing supply of new bonds.
Average yield in %
The short maturity allows Chinese borrowers to refinance via
low-cost structures, acknowledging that investors are mainly
looking for currency gains instead of high yields.35 According
to Deutsche Bank research,36 as of 31 March 2012 a
Chinese borrower would have to pay 5.99% on an onshore
loan, compared with a 3.69% average yield on bonds rated
BBB and better.
Air Liquide, Tesco, Volkswagen and BP are just a few
examples of companies that have issued on the CNH market
recently. Figure 37 breaks down the distribution of different
issuers in the “Dim-Sum” market.
5%
4.5%
4%
3.5%
3%
2.5%
2%
1.5%
1%
0.5%
0%
2011
2012
Deutsche Bank Offshore Renminbi Yield Index (in %)
60
Fig. 38. Average yield on CNH bonds (last data point: 27 July 2012)
Source: Bloomberg, Credit Suisse
50
Performance Is Only One of Many Reasons Why
Investors Are Coming to Asia
The rapid growth of Asia’s emerging bond markets was
stimulated by their stellar performance in recent years.
Figure 39 shows that Asian bonds,39 in line with global
emerging-market bonds, outperformed equities.
2009
2010
2011
Foreign banks
China corporates
Foreign corporates
Policy bank
Sovereign
YTD 2012
Fig. 37. Issuers in the Chinese offshore RMB bond market
Source: Bloomberg, Deutsche Bank (April 2012)
2005
The sum of these factors has already attracted issuers from
more than sixteen different countries38 (see footnote 36),
and a number of global conglomerates have further issues in
the pipeline.
180
160
140
120
100
80
60
40
S&P 500 INDEX
JPMorgan GBI-EM Broad USD Unhedged
MSCI WOLRD
HSBC Asian Local Bond Index
2011
2008
China banks
2010
0
While Asian local-currency bonds returned an annualized
7.4% between September 2005 and July 2012, equities
disappointed with a return of just 0.1% (MSCI World Index)
and 1.5% (S&P 500 Index).
2009
10
2008
20
2007
30
2006
40
Fig. 39. Asian bond performance in USD compared to global equities (30 September 2005 = 100)
(last data point: 31 July 2012)
Source: Bloomberg, Credit Suisse
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
And investors still get more interest than on offshore RMB deposits, for example.
Deutsche Bank, At the center of RMB internationalization, April 2012
37
It should be noted that if the issuer wants to bring the proceeds of a “Dim-Sum” issue to mainland China, approval from China’s State Administration of Foreign Exchange (SAFE) is necessary.
38
Excluding China, Hong Kong and Macau
39
Asian bonds are represented by the HSBC Asian Local Bond Index (HSLIALBI Index), which consists of liquid local-currency-denominated investment-grade bonds in Asia ex-Japan.
35
36
Asia 31 / 70
Moreover, as Figure 40 shows, Asian bonds delivered a
considerable excess return of 17 percentage points over
global core-market bonds40 between September 2005 and
July 2012. On an annualized basis, this amounts to an
excess return of over 1.6%.
180
170
160
150
Apart from the performance potential and higher yields
compared to core markets, there is another factor that makes
Asian bonds appealing to investors. As is true for emergingmarket local-currency bonds in general, Asian local-currency
bonds often show a low correlation to core government
bonds. In addition, despite being considered risky assets,
they tend to show a low correlation to other risky assets as
well. Hence, in a portfolio context, they offer significant
diversification benefits.
The Investor Base is Broadening
As outlined above, there are a number of reasons why
investors are attracted by Asian bond markets. As a result,
we have seen increasing foreign ownership of Asian
local-currency bonds.
The investor base is expanding regionally and structurally.
2011
6
JPMorgan GBI-EM Broad USD Unhedged
Barclays GlobalAgg Treasuries – Unhedged
5
4.96
HSBC Asian Local Bond Index
4
Fig. 40. Asian bond performance compared to global bonds (30 September 2005 = 100)
(last data point 31 July 2012)
Source: Bloomberg, Credit Suisse
The breakdown of returns across Asian bond markets varies.
As it turns out, in contrast to the general market perception,
the stellar bond performance in 2011 was not fueled just
by currency gains.41 As return volatility has decreased, risk
profiles for Asian bonds have improved (see Figure 41).
in %
Barclays GlobalAgg Total Return
2010
2009
2008
2007
2006
2005
140
130
120
110
100
90
80
3.95
3.38
3
2.79
2
2.19
2.22
1
1.19
Volatility
Asian bonds
Asian local
govt. bonds
Global IG
credit
Global
bonds
US bonds represented by the Barclays US Aggregate Index; US Treasurys represented by the
Barclays US Treasury Index; US mortgages represented by the Barclays US MBS Fixed Rate
Index; global bonds represented by the Barclays Global Aggregate Bond Index; global IG credit
represented by the Barclays Global Corporate Index; Asian local-currency bonds represented by the
HSBC Asian Local Bond Index and Asian external bonds represented by the JP Morgan Asia Credit
Index.
10%
5%
2009
THB
TWD
SGD
PHP
MYR
KRW
IDR
INR
HKD
CNY
0%
2011
Fig. 41. HSBC Asia Local Bond Index return volatility (2009 vs. 2011)
Source: Bloomberg, HSBC Global Research (December 2011)
At the same time, Asian bonds remain attractive when their
absolute yield levels are compared to those on other bond
markets, as Figure 42 shows.
Fig. 42. Yields across fixed-income markets (as of 31 March 2012)
Source: Bloomberg, PIMCO (May 2012)
Historically, banks have acted as the main institutional investors.
However, their share of the Asian cash-rich investor base has
been declining. As highlighted by the IMF42, supported by
demographic changes and pension reforms, the emergence
of domestic institutional investors such as pension funds and
insurance companies has given rise to an investor group with
huge amounts of capital to invest in fixed-income markets.
Across emerging markets, these investors tend to invest a
sizable amount of their funds in safe securities such as
government bonds. While banks are unlikely to invest their
funds for the long term due to their short-term liabilities,
pension funds show a stronger need for investments in bonds
with longer maturities.
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
40
Global bonds are represented by the Barclays Global Aggregate Index (LEGATRUU Index).
41
Admittedly, back in 2010, FX returns actually accounted for a larger share of total bond returns.
42
IMF working paper, The Development of Local Debt Markets in Asia, June 2011
32 / 70
US
mortgages
15%
US
Treasuries
US bonds
0
20%
Financial Markets – the Past and Future
This means that demand for post-retirement income security
is likely to surge. HSBC44 expects the accompanying growth
in pension-fund assets to be a continuing source of demand
for local bond markets. Regulatory reasons such as the
asset-liability matching45 needs of insurers and pension funds
will lead to demand for long-term nominal issues on the part
of both local and foreign pension funds and insurance
companies.
50,000
in million USD
40,000
30,000
20,000
10,000
0
2006
2007
2008
2009
2010
2011
Fig. 43. Assets under management in emerging-market local-currency bond funds
Source: Bloomberg, Morgan Stanley (March 2012)
More importantly, constrained by their mandate, these investors
do not constantly shift their money from one investment to
another. If anything, in times of stress, they tend to alter their
asset allocation by shifting risky investments such as equities
into low-risk investments such as government bonds. This
explains the significant inflows that emerging-market localcurrency bond funds have experienced in the recent past.
Figure 43 shows that assets under management by these
funds have more than doubled since 2009.
HSBC also points out that in the process of shifting demand
from exports toward domestic consumption, pensions will play
an essential role in encouraging consumption and improving
social welfare. They can help bring down savings rates, which
as Figure 45 shows, rank among the highest globally in
China and India. This would further support the rebalancing
toward domestic consumption.
Risks
The higher returns of local-currency bonds of course come at
a price. The risks start with interest-rate and default risks and
extend to currency and liquidity risks.
50
% of GDP
40
30
20
10
China
India
Japan
LatAm
Euro Area
Advance
CEE
UK
0
US
Considering the demographic challenges that Asia will face in
the future, investment demand from institutional investors will
continue to expand. For the Asian bond market, this means
that investor-base diversification will continue and secondarymarket liquidity will improve. HSBC43 emphasizes that the
shifting demographic environment and the rebalancing efforts
toward local demand naturally create increasing future
demand for bonds in the region. Figure 44 illustrates a United
Nations forecast that the population aged 65 and above will
increase faster in the Asia-Pacific region than anywhere else
in the world.
Gross national savings (% of GDP)
2.5
Fig. 45. Comparison of savings rates across global economies
Source: IIF, IMF, HSBC (November 2011)
Growth rate (%)
2.0
1.5
1.0
0.5
0
Developed regions
World
Growth in 65+ age group by 2050
Fig. 44. Aging population in Asia-Pacific region
Source: United Nations, HSBC (November 2011)
Asia
Liquidity
Liquidity is a particularly important factor for investors in
developing markets. Liquidity is also a cornerstone for the
future development of Asian bond markets. Bond-market
liquidity in Asia is generally lower than in developed nations.
The lack of secondary-market liquidity leads to difficulties
in absorbing supply and can therefore become a potential
impediment to bond trading in the short term and to bond
market growth in the long term (see footnote 14). While
corporate-bond market liquidity still lags behind, according
to 21PPI, government-bond liquidity has improved.
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
HSBC Global Research, Inflation-Linked Bonds: Blossoming Markets, November 2011
44
HSBC Global Research, Asia-Pacific Rates Guide 2012, December 2011
45
Investors such as pension funds and insurance companies need to hold long-term assets to match future liabilities.
43
Asia 33 / 70
As analyzed in a recent Credit Suisse study46, government
bond turnover has increased across major Asian bond
markets, as Figure 46 shows.
Government Bonds Turnover
Thailand
The Philippines
Malaysia
Korea
Indonesia
China
0
0.2
2005
0.4
0.6
0.8
1
1.2
Apart from the pitfalls, such as limited liquidity and capital
flow volatility, this involves, for example, enhancing crossborder transactions within Asia. Despite experiencing
remarkable growth of 176% between 2001 and 2009
(see footnote 14), Asian cross-border transactions are still
extremely low. According to the Asian Development Bank,
East Asian cross-border investments at the end of 2009
accounted for just 15.9% of total outstanding investments in
Asia. 21PPI (see footnote 14) highlights that in 2008, 53%
of investor capital in cross-border transactions flowed into
US and European bond markets. In Europe, in contrast,
as much as 73% of cross-border investment is made in
European bonds, highlighting the intraregional links in bond
markets.47 Japan, the largest investor in the region, bears a
share of responsibility for that. According to the ADB, at
the end of 2009 the total outstanding investments in East
Asian bonds held by Japanese investors amounted to
USD 21.2 billion, or only 1% of their foreign-bond portfolios.
2011
Fig. 46. Increased liquidity in Asian bond markets (last data point: 31 December 2011)
Source: Bloomberg, Credit Suisse
Corporate-bond liquidity has fallen short of government-bond
market liquidity historically. This is partly because corporate
bond issues in the past have often been too small to attract
large real-money investors. But as more issuance comes
to the market, liquidity is likely to improve. In addition, the
increasing openness toward foreign investors will attract more
capital from abroad.
Capital Flows Cause Volatility to Remain High
Capital flows pose a major challenge to Asian bond markets.
Local-currency bonds are still considered a risky asset
class. This implies that during periods of heightened risk
aversion, local-currency bonds will fall victim to capital flight.
The sensitivity to these flows is heightened by the currency
exposure, which creates additional volatility.
While foreign investors still tend to try to get out of the
market as soon as risk aversion around the world increases,
local-currency bond markets can increasingly rely on the
support of domestic capital. As highlighted by the aforementioned Credit Suisse study, even during times of market
stress, the growing pool of domestic capital has shown a
home bias and has helped to stabilize capital outflows
triggered by foreign investors.
Intraregional Integration as the Major Development Objective
We have highlighted plenty of reasons why Asian bond
markets are appealing for investors. However, to maintain the
attractiveness of Asian bonds as an asset class, the Asian
bond market has to move forward in its development.
The Japanese reluctance is largely a result of the conservative
investment stance of institutional investors and strict investment
criteria set by authorities. In the future, Japan will have a big
responsibility in intraregional integration. It will have to find a
balance between competition and cooperation. In general, for
Asian bond markets’ future development it is essential that
intraregional links are improved and expanded; especially
when developed economies are struggling, Asian economies
have to be able to rely on regional demand. Having broadly
integrated Asian financial markets would also help to
keep Asian capital within the region instead of leaving for
developed markets and then returning to the region, often
as hot investor money. As a result, volatile capital flows could
be avoided, providing the system with more stability, which it
needs to tackle further development.
Authorities have acknowledged this issue and have come up
with interesting ideas. In early 2012, for example, the finance
ministers of the ASEAN+3 nations (i.e. the 10 members of
the Association of Southeast Asian Nations plus China,
Japan and South Korea) met to discuss a potential PanAsian bond market with the aim of promoting the allocation
of regional resources to appropriate investments within the
region and thereby fostering sustained economic growth.
It goes without saying that an improvement of the regional
integration of Asian bond markets requires the liberalization
of cross-border capital flows, i.e. the relaxation of capital flow
regulations and foreign-exchange controls.
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
46
Credit Suisse Asset Management, White Paper, Going native with emerging-market local-currency bonds, July 2012
47
Admittedly, European intraregional investment is attractive for European investors in the sense that they do not have to take currency risks for those investments.
34 / 70
Financial Markets – the Past and Future
Asian Bond Markets – Investors’ Safe Haven for the Future?
Ultimately, the fiscal improvement associated with a deeper
bond market will help to improve macroeconomic stability.
This has already led to local rates trading more like their
Western counterparts – as a defensive asset. We expect Asia
to be able to cope with differences of market scale and
development in its bond markets and to be able to foster
growth in the corporate-bond market, improve market liquidity
and transparency, and mitigate the number of risk factors
highlighted above. Then Asian bond markets will have the
potential to offer an interesting investment opportunity for
carry and currency appreciation reasons, and to serve as a
new alternative reserve asset for investors.
This is confirmed by the HSBC Pan-Asian FX index,49 which
tracks the South Korean won, the Chinese renminbi, the
Taiwan dollar, the Singapore dollar and the Indian rupee.
According to the index, Asian currencies appreciated versus
the US dollar by 5.6% between September 2006 and August
2012.50
70
300
75
250
80
85
200
90
95
150
Currencies – Long-Term Appreciation Despite
Short-Term Setbacks
100
105
100
110
Investor demand for Asian local-currency bonds has surged
in recent years. We identified a number of factors that are
responsible for their appeal, one of which was the opportunity
for investors to gain exposure to local-currency appreciation.
Looking at the performance of Asian currencies versus
the US dollar, it is possible to gain a better picture of why
investors want to hold this exposure in their portfolios.
Figure 47 shows that while some Asian currencies
depreciated versus the US dollar between 2000 and 2009,
they have appreciated significantly since then.48
60
80
100
120
140
160
Thai bath
Indonesian rupiah
Indian rupee
China renminbi
South Korean won
Malaysian ringgit
2012
2011
2010
2009
2008
2007
2006
2005
2004
2003
2002
2001
2000
180
Fig. 47. Development of Asian currencies vs. the USD (inverted) (01 January 2000 = 100)
(last data point: 31 July 2012)
Source: Bloomberg, Credit Suisse
115
50
2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
HSBC Asia Local Bond Index (LHS)
HSBC Pan Asia FX Index – USD/Asia (Inverted) (RHS)
Fig. 48. Asian local-currency bond returns vs. Asian currencies (last data point: 31 August 2012)
Source: Bloomberg, Credit Suisse
Comparing the appreciation of Asian currencies since 2009
to the increasing outstanding volumes in Asian bond markets
reveals that investors were clearly looking for a way to tap
currency-appreciation potential in the region and found it in
local-currency bond markets.
Across Asia, there is evidence of a positive relationship
between foreign-exchange (FX) gains and local-currency
bond returns; during periods of currency appreciation, capital
gains on local-currency bonds as measured by the HSBC
Asia Local Bond Index appear to track currency gains, as
Figure 48 shows.
According to JP Morgan research, the appreciation of
emerging-market currencies has accounted for 40% of the
JP Morgan GBI-EM Index total return over the past decade
despite the fact that country-specific contributions can vary
considerably. When investing in local-currency bond markets,
investors tend to look increasingly for currency returns
because most emerging bond markets are short duration and
therefore often only provide little carry return. While some
investors are eager to bear the currency risks in the hopes of
Asian currencies appreciating, for others hedging is simply
too expensive.
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
48
Except for the Indian rupee
49
The HSBC Pan-Asian FX index is an equally weighted index composed of the South Korean won, the Chinese renminbi, the Taiwan dollar, the Singapore dollar and the Indian rupee.
50
It needs to be remarked that the above graphs also show that Asian currencies tumbled significantly during the market turmoil surrounding the 2008/2009 financial crisis, clearly indicating their sensitivity to investor sentiment.
Asia 35 / 70
Have Asian Currencies Run Out of Ammunition,
or Are They Reloading?
Admittedly there has been some concern lately about a possible
depreciation of Asian currencies as economic momentum has
slowed across the region. And as Figure 47 shows, Asian
currencies weakened slightly against the US dollar. In the
future, however, Asia’s economies, thanks to their healthy
fiscal and monetary positions, should be able to absorb any
shocks that may spill over from the developed countries.
Furthermore, as long as the US Federal Reserve is committed
to holding rates close to zero for the foreseeable future and
other major central banks in developed nations are forced to
do so as well due to recessionary pressures, the need to seek
higher-yielding currencies is likely to continue.
Percent deviation from fair value in Real Effective Exchange Rate (REER) terms
in%
“Expensive”
Brazil
Egypt
Venezuela
Colombia
The Philippines
Czech Rep.
Russia
Singapore
Argentina
Indonesia
Israel
Thailand
Nigeria
Hungary
Chile
Turkey
Romania
Kazakhstan
S. Africa
S. Arabia
Ukraine
Malaysia
India
China
Mexico
Korea
Peru
Taiwan
Poland
Hong Kong
“Cheap”
Fig. 49. Appreciation and depreciation potential for emerging-market currencies
Source: Credit Suisse (September 2011)
With this outlook in mind, Asian authorities are likely to allow
further nominal appreciation of their currencies given their
primary intention of controlling inflation.
Real Estate – Structural Demand for Asian Property
Real estate has established itself as a core investment
opportunity for investors around the world. It offers investors
long-term capital appreciation on the one hand and attractive
cash flows on the other, appealing to investors seeking
regular distributions from their investments (e.g. pension
funds) and those interested in long-term wealth preservation
(e.g. sovereign wealth funds).52
As highlighted by the European Public Real Estate Association,
compared to other investments, real estate investment
distinguishes itself in terms of how income is sourced,
generated and secured. Income return on real estate
investments is mainly derived from rental income. Contractually
agreed tenant obligations such as a minimum rental period
and termination penalties guarantee a high level of visibility
and predictability of investment returns.
The Asian Real Estate Market is Attracting Attention
According to Jones Lang LaSalle, in 2011 five of the world’s
top ten most-traded real estate markets in terms of transaction
volumes were Asian cities. As Figure 50 shows, Asian real
estate markets have become increasingly interesting for
global investors over the course of the past decade.
100%
80%
40%
20%
North America
Europe
Asia and Rest of World
Fig. 50. Destination of real estate fund investments by geographical region
Source: Prequin, PricewaterhouseCoopers (2011)
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
51
Credit Suisse Asset Management, White Paper, The Way Forward: Measuring the Impact of Short-Term and Structural Growth Drivers on Emerging Market Investing, September 2011
52
European Public Real Estate Association (EPRA), News (Issue 40) – Sustainability reporting in the real estate sector, November/December 2011
36 / 70
Financial Markets – the Past and Future
2010
2009
2008
2007
2006
2005
2004
2003
0%
2002
Continued appreciation of Asian currencies seems likely.
China and other Asian countries have realized that they need
to rebalance their economies from exports toward domestic
consumption in order to maintain their current pace of
economic growth. This may create inflationary pressures.
In order to cope with those pressures, many central banks
have allowed their currency exchange rates to appreciate.
Some have shifted away from monetary policies that tie
their currencies to the US dollar and have adopted a float or
quasi-float. At the time of the 1998 financial crisis in Asia,
70% of the developing countries pegged their currencies
to the US dollar, whereas today more than 80% of all
emerging-market countries allow their currencies to
float, albeit sometimes with a certain degree of control
(see footnote 51).
60%
2001
This view is supported by a Credit Suisse study51 that claims
that based on real effective exchange rates, the bulk of Asian
countries appear to have undervalued currencies, as Figure
49 shows.
In fact, rental yield gaps53 in the Asia-Pacific region currently
range between 179 basis points in Mumbai and 380 basis
points in Sydney, according to Jones Lang LaSalle.54 This
trend has caused Asian real estate to advance considerably,
making it a major growth engine for the region. Established
markets such as Japan, Hong Kong and Singapore are
the building blocks of the market, which also has a lot of
development potential through countries such as China,
India and Vietnam.
Financing of Real Estate Across the Region
Private debt and equity funding, i.e. bank loans and private
equity real estate funds, outnumber public funding instruments
such as securitized financing and Real Estate Investment
Trusts (REITs) as the key sources of capital for real estate in
Asia. In fact, real estate funds55 remain the dominant source
of real estate financing in Asia. According to Towers Watson,
the majority of the “top 30 real estate funds” are present in
the region.
Figure 51 shows the different forms of financing that are
common in Asian real estate markets. Although real estate
financing largely remains privately driven fostered by the
globalization of real estate, public financing instruments such
as REITs have attracted increasing attention in the market.56
Debt
Equity
Private
Public
Bank loans:
Debt financing is still
a popular form of financing
Securitized financing:
Still relatively rare in Asia
Private Equity
real estate funds:
Majority of real estate
financing in Asia
Real Estate
Investment Trusts:
REITs have garnered
increasing attention
The Development of REITs as an Example of the Growing
Appeal of Asian Real Estate
REITs are investment structures that collect money from
investors and invest it in real estate. They have certain tax
advantages and usually distribute high payouts to investors,
which makes them an attractive vehicle both for property
managers and investors.
While REITs have been around for some time in the USA
and Australia, it was not until recently that they became a
financing alternative to the long-established private financing
channels in Asia. REITs allow investors to achieve a large
degree of diversification and high liquidity due to low transaction
and holding costs (especially compared to direct investments
in real estate).
16
USD billions
Western institutional investors have increased their allocation
to real estate markets in the Asia-Pacific region, aiming to
tap the region’s growth. Diversification potential also plays a
major role. Large Asian sovereign wealth funds and national
pension funds have mainly been attracted to this asset class
because of the higher yields compared to equity or fixedincome investments. Especially those institutions that have to
pay a defined minimum return on the products they offer
have been forced to rethink their investment strategies and to
replace low-yielding fixed-income investments with higheryielding real estate ventures in order to generate sufficient
cash flows.
14
12
10
8
6
4
2
0
2005
Foreign
2006
2007
2008
2009
2010
2011
Local
Note: Based on investment transactions over USD 10 million;
may include acquisitions of seed assets at listing.
Fig. 52. REIT acquisition volume, 2005–2011
Source: CBRE (February 2012)
As Figure 52 shows, real estate acquisitions by REITs
have increased in the past two years. In fact, they grew from
less than USD 8 billion in 2005 to almost USD 16 billion in
2011.57
Fig. 51. Major forms of real estate financing in the Asia-Pacific region
Source: KPMG (May 2008), Credit Suisse
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
53
The rental yield gap describes the number of basis points that prime office yields are above or below 10-year government bond yields. Data as of Q2 2012.
54
Jones Lang LaSalle, Global Market Perspective – Third Quarter 2012
55
These funds usually differ by investment approach. Opportunistic funds typically look for high capital growth while long-term funds usually aim for steady, long-term returns from rental properties.
56
KPMG, The Risks of Investing in APAC Real Estate – Migrating Capital, May 2008
57
CBRE Asia REIT View Point, Asian REITs return to acquisition mode, but 2012 brings new challenges, February 2012
Asia 37 / 70
Market
Japan
Singapore
Hong Kong
Malaysia
Thailand
Taiwan
South Korea
Total
No. of listed REITs
34
26
9
15
35
8
7
134
Average dividend yield* 10-year government-bond yield
6.33%
0.99%
7.10%
1.62%
5.58%
1.47%
6.45%
3.71%
6.71%
3.32%
3.06%
1.28%
8.79%
3.78%
6.37%
N/A
REIT market capitalization (USD million)
38,239
27,535
14,923
5,134
3,091
2,426
195
91,543
* Weighted by market capitalization
Fig. 53. Listed REITs in Asia as of end-2011
Source: Bloomberg, CBRE (February 2012)
Figure 53 indicates that Asian REITs invested mainly in
Japan and Singapore, which can be seen by their market
capitalization. By comparing the average dividend yield
of Asian REITs to government bond yields, Figure 53 also
explains why Asian REITs have become increasingly
appealing for investors around the world and why the
number of Asian REITs has been surging in recent years.
Transaction Volume Increasing Again
Global real estate transactions rose 14% in 2011 to USD
727 billion, an 83% increase compared to the 2009 lows.58
Asia was the largest investment region overall, with a share
of about 50% of global transactions in 2011. Commercial
properties accounted for more than 70% of those transactions
in 2011 and volumes have been increasing after having
collapsed in light of the US real estate crisis in 2008/2009.
25
10%
0
0%
Domestic
2011
20%
2010
50
2009
30%
2008
75
2007
40%
2006
100
2005
50%
2004
125
2003
in billion USD
Total volume, 2003–2011
Cross-Border
Cross-Border %
As Figure 54 shows, Japan, China and Australia accounted
for almost 50% of all commercial real estate transactions in
the Asia-Pacific region between 2003 and 2011.
Domestic capital remains the main driver in the market.
After taking an enormous hit in 2008 and 2009, crossborder investments have been increasing again to over 30%
of total transaction volume. This implies that after suffering
significantly during the financial crisis (cross-border transactions fell by about 20 percentage points), investments by
international investors have picked up again. It should be
noted that a large share of the cross-border transactions
is actually coming from within the region. Among the nonAPAC (non-Asia Pacific) investors, Australia remained the
preferred destination, accounting for 94% of transactions.59
Transaction volume by markets in the AP region, 2011
Japan
China
Australia
Hong Kong
South Korea
Singapore
Taiwan
Thailand
India
Malaysia
Other
USD bn
19.2
17.3
12.5
11.0
10.0
9.1
5.4
1.7
1.7
1.3
1.7
0
5
10
15
20
Fig. 54. Asia-Pacific commercial real estate investments, 2003–2011
Source: Jones Lang LaSalle, RREEF Real Estate (March 2012)
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
58
According to Cushman & Wakefield, International Investment Atlas Summary, 2012
59
According to CBRE Market View, Asia Pacific Capital Markets, Q1 2012
38 / 70
Financial Markets – the Past and Future
As Figure 55 shows, net cross-border acquisitions by nonAPAC investors have actually been negative since late 2009,
which is a reflection of the economic weakness in Europe
and the USA.
14
12
USD billions
10
8
Is There a Risk of a Property Price Correction in China?
Some of the world’s finest economists are occupied with the
question of whether China is in the midst of a property price
correction. We will analyze in more detail whether a property
price correction could potentially destabilize the banking
system and the economy overall later on in this study when
we focus on China.
Outlook
In an uncertain economic environment, many investors
will focus on low-risk markets and will be very picky about
the assets they choose. At the same time, they expect
medium-term growth potential, which, considering the current
low interest-rate environment, will ultimately require them to
accept more risk.
6
4
2
0
–2
–4
Asia-Pacific-based investors
Q4 2011
Q1 2012
Q3 2011
Q2 2011
Q1 2011
Q4 2010
Q3 2010
Q2 2010
Q1 2010
Q4 2009
Q3 2009
Q2 2009
Q1 2009
Q4 2008
Q3 2008
Q2 2008
Q1 2008
Q4 2007
Q3 2007
Q2 2007
Q1 2007
–6
Non-Asia-Pacific investors
Fig. 55. Net cross-border acquisitions in Asia-Pacific region (rolling 4 quarters)
Source: CBRE (February 2012)
Performance
Real estate as an asset class has shown a strong performance
over the past decade compared to equities and government
bonds. Asian real estate in particular has proven resilient to
the credit crunch in the USA, and capital flows have remained
strong. With rents increasing and house price growth
slowing recently, it is mainly rental returns rather than price
appreciation that will form the basis of returns in future. In
spite of the weak investment environment, Asian real estate
capital values have remained firm thanks to the ongoing
interest from wealthy private individuals. Figure 56 shows
that capital values as of end-2011 are back at their 2007
pre-subprime-crisis levels.
Capital Value Indices (Q4 2005 = 100)
200
180
160
With real yields slipping into negative territory in markets such
as Hong Kong and Singapore, Asia’s property sector will
continue to benefit from strong demand backed by a banking
sector that is carrying far less bad real estate debt than most
other regions (see footnote 58).
Since residential markets are still stagnating in some countries
(e.g. China), it will most likely be commercial real estate that
will balance this out and ultimately bring real estate markets
back on track.
Demand from a range of international investors is increasing,
as is intraregional and domestic buying. The institutional
market is sitting on high liquidity backed by high economic
growth and savings levels, which, thanks to changing
regulations, can now be increasingly invested in real estate.
Investment volumes are likely to increase, and CBRE
(see footnote 59) expects to see renewed interest from
foreign buyers for real estate in Japan, while China and
Australia should be able to maintain their status as preferred
destinations for investors wanting to tap the market.
Domestic capital is expected to account for most of the
transactions while, with interest rates at or even below
zero in Europe and the USA, international investors could
be increasingly attracted by the return potential of Asia’s
property market in the future.
140
120
100
80
2006
Retail
2007
Industrial
2008
2009
2010
2011
Office
Fig. 56. Office, retail and industrial capital value indices (Q4 2005 = 100)
Source: CBRE (Q1 2012)
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
Asia 39 / 70
In the course of the preparations for the Chinese Year of the Dragon, the streets of Hong Kong were decorated with big
wooden dragons. In ancient times the dragon was a symbol reserved for the Chinese emperor and is considered to be an
extremely auspicious sign.
40 / 70
Focus: Infrastructure and Consumption
Focus: Infrastructure and Consumption
Asia’s future path of economic growth is going to be determined by how well the region can manage the transition
from export-based growth to growth that is powered by internal forces such as increased domestic demand.
Domestic demand expansion can be achieved when consumption and investment increase and the savings surplus
is reduced. This section highlights the importance of infrastructure investments for further economic growth in Asia
and explains how it will integrate with the development of the Asian consumer.
Rapid Urbanization Raises Demand for Further Investment
 In spite of Asia’s bright economic prospects, most emerging Asian countries have an underdeveloped infrastructure.
In view of the fast pace of urbanization, significant infrastructure spending will be required in order to fund projects
targeting clean-energy technologies, transportation, housing, communications and water facilities, and to ensure
that the region achieves its full growth potential.
 China, Asia’s economic powerhouse, is a good example of a country that has been experiencing increasing
investment expenditures over the past decade, which have laid the groundwork for rapid industrialization and
urbanization. China’s economy is far from facing overinvestment, and investment spending as a percentage of GDP
is still at sustainable levels given the high savings ratio.
 We believe that Asia’s economic future will largely depend on infrastructure buildouts in the big urban centers and
that the accompanying funding needs bring opportunities for investors.
Appetite for Consumption – Asia Grows, Asia Spends
 Investment has historically outpaced consumption as the main driver of growth in Asia, but the rise of the
Asian consumer could turn out to be the next megatrend in the global economy and is likely to create a new
engine of growth, not only for Asian economies, but globally.
 Asia’s new middle class will play the key role in this transition. It is growing at impressive rates and experiencing
increasing prosperity. Consumers are moving up the value chain, from branded goods to luxury goods and beyond.
 Since discretionary consumption is experiencing a boost, higher-end product markets along with healthcare will be
potential outperformers in the future.
Asia 41 / 70
In one of its recent studies, McKinsey60 claims that despite
Asia’s bright economic prospects, most emerging Asian
countries have an underdeveloped infrastructure. The study
estimates that due to underinvestment and poor maintenance
in India, electricity generation there is up to 20% short
of what is needed to meet peak demand. In Indonesia,
infrastructure investment declined from about 6% of GDP in
the 1990s to only 3% of GDP during the past 10 years.
The resulting deterioration in energy, transportation, housing,
communications and water facilities has reduced economic
growth by three to four percentage points.
Further Infrastructure Investment Needed to Support
Urbanization
However, Figure 57 shows that this is likely to change in the
future. McKinsey estimates that about USD 8 trillion will be
allocated to infrastructure projects over the next 10 years to
make up for the underinvestment; and investments particularly
in clean-energy projects are expected to surge, growing by
almost 19% annually until 2018.
To cite another number on this, the World Bank estimates
that over the next decade, 7.5% GDP growth in South Asia
would require increased demand for infrastructure investment
amounting to about 5% of GDP in order to meet the needs
of the regional economy.
61
According to the ADB,62 cities generate more than 80% of
GDP in many countries in Asia and are the dominant engine
of economic growth. Asian cities will grow rapidly and will be
home to another 1.1 billion people in the next two decades
as people move to urban areas in search of economic
opportunities. It will be of utmost importance to Asia’s future
how the countries will be able to provide the infrastructure
needed to manage such migration to the cities.
McKinsey & Company, Asia’s USD 1 trillion infrastructure opportunity, March 2011
The World Bank, Estimation of Infrastructure Investment Needs in the South Asia Region
62
See http://www.adb.org/themes/urban-development/overview
60
61
42 / 70
Focus: Infrastructure and Consumption
8.1
Water and
Total
1.1
4.1
Energy
Telecom
Transport
sanitation
Fig. 57. Investment needs for Asian infrastructure projects (2010–2020; in USD trillion)
Source: ADB, Clean Edge, World Bank Private Participation in Infrastructure (PPI) Database,
McKinsey & Company (March 2011)
When an economy tries to expand domestic demand and
boost economic growth, infrastructure investment is one of
the key factors for success. McKinsey underscores that, on
the one hand, infrastructure investment sustains economic
growth momentum and, on the other hand, allows the benefits
of growth to be shared across the population, reducing
income inequalities and improving economic competitiveness.
In Asia, the majority of those expenditures will be required
for energy and transportation. While the former aims at the
adoption of clean-energy technologies from developed
economies, the latter mainly implies an enlargement of the
road network.
How Is Further Infrastructure Spending Going to Be
Financed?
Figure 58 shows that countries such as China and Malaysia
are well equipped to fund their infrastructure projects with
private capital.
9.0
5.0
4.5
4.0
3.5
3.0
2.5
2.0
1.5
1.0
0.5
0
Foreign capital
required
The Philippines
Thailand
Indonesia
Vietnam
Brazil
Turkey
Pakistan
Egypt
Russia
Argentina
Mexico
Colombia
Tunisia
India
Malaysia
Hungary
Funding can be largely
sourced domestically
Peru
Nigeria Slovakia
Romania
Bulgaria
South Africa
Chile
Morocco
Croatia
China
0
20
40
60
80
100
120
140
160
180
200
220
240
260
280
300
320
340
360
Rapid Urbanization Raises Demand for
Further Investment
0.4
2.5
Gap in infrastructure spending,1 %
Asia’s future growth is likely to be determined by how well
Asia can manage the transition from export-based growth
to self-generated growth such as increased domestic
demand. Domestic demand expansion can be achieved when
consumption and investment increase and the savings surplus
is reduced. To achieve this expansion, policymakers need
to encourage investment, reduce barriers to consumption
growth and introduce supportive measures. The improvement
of the investment environment, the allocation of government
expenditures to infrastructure development and the
development of social safety nets such as health, education
and pension systems will encourage consumption and reduce
the savings ratio.
Financial depth,2 %
1
2
Gap in needed vs. actual infrastructure spending as % of GDP, 2009
Value of bank deposits, bonds and equity as % of GDP, 2009
Fig. 58. Private capital needed in order to fill gap in infrastructure spending
Source: McKinsey & Company (March 2011)
China’s investment contribution to GDP growth exploded
from below 35% in the 1990s to over 45% in 2011.63
Contribution to growth in %
The astonishing growth in investment spending has laid the
groundwork for rapid industrialization and urbanization. This is
mirrored in the development of the country’s highway system
(which quadrupled in length between 1980 and 2010) and
railway network (which almost doubled in length between
1980 and 2010), as shown in Figure 60.
9%
6%
3%
0%
1985
Consumption
1990
1995
Investment
2000
2005
Net exports
China’s GDP growth. % increase on year ago
Fig. 59. Structural decomposition of Chinese growth
Source: CEIC, The Economist (25 May 2012)
63
4,000
90
3,000
80
2,000
70
1,000
60
Highway length (LHS)
50
Railway length (RHS)
Fig. 60. Infrastructure development in China
Source: CEIC, HSBC (February 2012)
On the same note, Figure 61 reveals that China’s automobile
market has recently overtaken the USA as the world’s largest,
and the trend still has momentum.
18
16
14
12
10
8
6
4
2
0
1998
2000
2002
2004
EU 25
USA
Japan
China
Brazil
India
2006
2008
2010
Fig. 61. China: The world’s largest car market. (last data point: February 2012)
Source: Datastream, Credit Suisse
Overinvestment vs. Further Investment Needs
Is there room for further investment without stretching
government finances? China plans to shift its economy to
prioritize domestic consumption. Is a hike in investment
consistent with this goal?
18%
15%
12%
–3%
1980
100
0
1980 1984 1988 1992 1996 2000 2004 2008
Units (in millions, 12-month rolling)
China as a Benchmark
Infrastructure development is important for the region as a
whole. Outside China, it is believed that China’s growth is
almost entirely driven by its export industry. This is not true.
As pictured in Figure 59, the main growth driver for China
has been the high level of investment, which has far exceeded
the levels of previous growth exemplars such as Japan and
Korea.
5,000
km in thousands
Traditionally, the bulk of infrastructure projects have been
financed by governments or domestic banks. Regulatory
restrictions, political interference and capital controls have
historically scared away foreign investment. There are signs
that restrictions on foreign investment are being relaxed and
that foreign capital is increasingly welcome. For global
investors, this means there is an opportunity to plug the gap.
Project bonds issued by infrastructure developers, for example,
offer an opportunity for developers to diversify their funding
sources and for investors to diversify their investments. In the
end, the development of the corporate bond market will
especially play an essential role, enabling long-term funds to
be channeled into infrastructure investment and at the same
time allowing investment risk to be spread across capital
markets.
km in thousands
Countries such as India, Thailand, Indonesia and the Philippines,
on the other hand, require external capital because their
financial markets have less capacity.
2011
While personal consumption will certainly be of greater
importance for China’s growth story in the future, HSBC
(see footnote 63) argues that China’s economy is far from
experiencing overinvestment. Compared to its savingsto-GDP ratio, its investment-to-GDP ratio of 46% (which
by itself might be considered high in other countries) is still
low. China’s high savings ratio, driven by a tradition of saving
in response to inadequate social security and a lack of
investment channels, implies that there is still enough capital
locked up in savings accounts.
HSBC Global Research, China Inside-Out – What overinvestment?, February 2012
Asia 43 / 70
Given the right opportunity, these funds are ready to be
invested, and capital controls will probably ensure that the
money stays in China and does not flow overseas.
China is not yet at the end of urbanization and industrialization.
As of end-2011, China still had over 650 million people,
or 48.7% of its population, living in rural areas.64 This rural
population is steadily migrating to cities all over mainland
China. Today, more than 39 cities in China are larger than
Hong Kong.
This gathering of people in Chinese megacities has created
huge demand for transportation, hospitals and factories, and
has been the foundation for the recent infrastructure boom.
But there is still scope for further development; it is worth
noting that China’s railway network is still shorter than the
USA’s was in the year 1880. In 2009, the US railway
network extended over 200,000 km, more than double
China’s railway network65 (see footnote 63). Also, 80 of
the nearly 100 Chinese cities with a population larger than
5 million do not have a subway system. Of the 20 that do
have subway systems, most are still under construction and
require further investment.
USD in thousands, 2005 prices
In terms of capital stock per worker, China lags far behind
the USA and Korea (see Figure 62). China’s capital stock
per worker is only about 8% of that of the USA and 15% of
that of Korea, which can be interpreted as a sign that China’s
capital accumulation is far from leveling off. According to
HSBC, China should even invest more money rather than less.
140
120
100
80
60
40
20
0
1995
China
2000
USA
Japan
2005
2010
S. Korea
Fig. 62. China’s capital stock per capita
Source: CEIC, BEA, Japan’s Cabinet Office, HSBC (February 2012)
Infrastructure Investments Continue to Rise
Although demand is strong, global investors have to be aware
of the pitfalls and challenges of infrastructure investment.
McKinsey (see footnote 60) notes that due to political
interests and environmental considerations, for example,
infrastructure projects usually involve large amounts of
capital, have long periods of time or delays between planning
and final approval, and may require investors to lock up
their capital for long periods of time. There are also political,
legal and regulatory uncertainties.
In spite of these challenges, Asia’s infrastructure investment
needs over the coming decade will offer interesting
opportunities to global investors who, thanks to relaxed entry
barriers and capital controls, will enjoy easier access to these
opportunities than in the past. The challenge for investors is
to identify the opportunities, mitigate the risks and develop
an appropriate entry strategy.
Appetite for Consumption – Asia Grows, Asia Spends
In the past decade, fixed-asset investments have outpaced
consumption as the main driver of growth in Asia. But this
has now come to a turning point. Long-term observers of
Asian economies believe that the rise of the Asian consumer
is going to be the next megatrend in the global economy.
Experts compare the impact that this will have on the world
to the rise of the American consumer in the 1950s postWorld War era and expect it to have considerable implications
for companies, investors and governments across Asia and
the rest of the world.
Focus Shifting to Domestic Demand
The rise of Asian economies that started in Japan half a
century ago has heretofore been a story of production.
Led by China, Asia became the world’s biggest factory for
electronic goods, toys and automobiles. So far it has mainly
been the USA that has purchased Asian products, causing
Asian countries to run permanent trade and current-account
surpluses. The USA, on the other hand, has had to deal with
ever-increasing current-account deficits. Almost half of the
US deficit (which averaged out at about USD 700 billion, or
around 5% of GDP, between 2003 and 2008)66 has been
with Asian countries.
In other words, the US consumption engine was the main
driver for Asia’s production engine. In the past decade, rising
wealth particularly in China has created a new consumer
for the region’s goods. This has made China’s economy
increasingly less reliant on exports; low wages and cheap
currencies are no longer the primary focus.
Unsurprisingly, boosting domestic consumption is the key
theme of China’s twelfth five-year plan (for the 2011–2015
period). In fact, if Asian countries manage to shift from being
export-driven economies to ones powered by domestic
demand, Asian currencies will have plenty of room to
appreciate from here, thus simultaneously increasing Asian
consumers’ purchasing power.
National Bureau of Statistics of China, www.stats.gov.cn, Jan. 2012 (accessed on 5 September 2012)
We must not forget, however, that while only representing about 6% of the global railway network, it accounts for almost a quarter of cargo carried.
66
Asian Conversations, Size counts: China and India flex their consumer muscle, 2011
64
65
44 / 70
Focus: Infrastructure and Consumption
The Rise of the Asian Consumer
Today, US consumers have to deal with high unemployment and have seen their
capital evaporate due to collapsing house prices. European consumers are in no
position to fill this gap because they are struggling with the consequences of
over-indebted countries that require fiscal and monetary support measures to avoid
a breakdown of the European monetary union. This leaves three-and-a-half billion
consumers in developing Asia. The Asian consumer has tremendous development
potential. While accounting for half of the world’s population, developing Asia only
produces 30% of global GDP. Chinese consumption only accounts for 35% of
the country’s GDP, compared to 65% in the USA. In 2008, Asia’s population of
3.5 billion people spent less than USD 7 trillion while the USA’s population of only
0.3 billion people spent USD 10 trillion.67
Previously held back by high savings rates, there are signs of a cultural shift
among Asian consumers. China is already the world’s largest market for many
household products such as TVs, refrigerators and air conditioners. China has
surpassed the USA as the world’s largest automobile market. Companies like
Volkswagen and GM as well as premium brands such as BMW and Mercedes Benz
are earning an increasing portion of their revenues in the Chinese market.
Although lagging behind a couple of years, India’s consumer market is already
seeing similar signs of development. India is already the world's fastest-growing
cellphone market.
Asia’s Middle Class to Become the Centerpiece of Asia’s Economic Future
A large part of consumption growth in Asia is expected to come from Asia’s new
middle class.68 Today, Asia accounts for 28% of the global middle class in terms
of number of people (see footnote 67). This share could double by 2020. By that
time, China’s middle class alone would be bigger than the entire residential
population of the European Union. By 2030, two billion people are expected to
belong to this bracket.69 The growing affluence goes hand in hand with rapid
urbanization. Middle-class consumers mostly live in urban areas, which is why
Asian cities have been the fastest-growing cities since the turn of the millennium.
Consequently, the urban Asian-Pacific population will grow by over 21% over the
next decade.70
North America
Europe
Central and
South America
Asia Pacific
Sub-Sahara Africa
Middle East and
North Africa
World
2009
Millions
338
664
181
Share
18%
36%
10%
2020
Millions
333
703
251
Share
10%
22%
8%
2030
Millions
322
680
313
Share
7%
14%
6%
525
32
105
28%
2%
6%
1,740
57
165
54%
2%
5%
3,228
107
234
66%
2%
5%
1,845
100%
3,249
100%
4,884
100%
The OECD71 estimates that Asia’s
middle class accounts for 23% of
today’s total consumer spending. As
Figure 63 shows, it will be 54% by
2020 and could easily reach 66% by
2030.
Eighty percent of global middle-class
spending growth will come from Asia
and is expected to reach USD 56 trillion
by 2030. According to the Economist
Intelligence Unit, by 2030 more than
eight out of ten cellphones will be
owned by people living in emergingmarket countries.
A Different Hierarchy of Needs
The era when investors believed that
emerging markets would be a key source
of demand for almost any consumer
product is largely over. Today, investors
need to be far more discriminating in
selecting consumer niches that could
hold particular investment potential.
According to Credit Suisse research,72
particularly APAC’s rapid progression
through income brackets73 as well as
significant improvements in the quality
of both infrastructure and human
capital will ultimately alter its pattern of
consumption. As a result, demand for
most of the basic products is declining
and holds only limited medium-term
growth potential. Experience from
developed economies shows that as
income increases, people tend to spend
proportionally less of it on necessities
such as food. On the other hand,
consumption of higher-end products
is experiencing a boost, making those
markets potential outperformers in the
future. Figure 64 illustrates the
assessed opportunity of different
consumer goods across Asia in terms
of future growth potential.
Fig. 63. Projections of the global middle class
Source: OECD, Deutsche Bank (23 July 2012)
McKinsey Quarterly, Think regionally, act globally – Four steps to reaching the Asian consumer, 2009
It is difficult to accurately define the middle class. Homi Kharas, in a study published by the OECD in 2010, defines middle class households as those that live with daily per capita incomes between USD 10 and USD 100 in purchasing power parity terms. The Chinese Academy of Social Sciences, a state research institution, sets the yardstick at around USD 7,300 in annual income
(as of 2009). Other international market researchers set the threshold at USD 10,000 or more.
69
According to Goldman Sachs
70
Singapore Economic Development Board, Future Ready Today – Understanding the psychology of the new-Asia consumers, http://www.edb.gov.sg/future_ready/future_ready_today.html
71
OECD, The Emerging Middle Class in Developing Countries, 2010
72
Credit Suisse, Asia Pacific Equity Research – APAC: Consumption S curve, 2012
73
The region is expected to reach a PPP-adjusted per capita GDP of USD 12,000 by 2020, compared to less than USD 2,500 in 2000.
67
68
Asia 45 / 70
Basics: Food and Beverages
Cereals
Rice
Sugar
Fruits
Vegetable Oils
Beverages
Wine
Beer
Stimulants
Red Meat
White Meat
Milk
Discretionary Spending
Apparel
Appliances
Auto
Two Wheelers
Consumer Loans
Education
Healthcare
PC/Laptop
Tourism/Travel
China
India
Korea
Indonesia
Malaysia
Thailand
The Philippines
low
low
high
low
medium
medium
high
low
high
low
low
low
medium
low
high
low
high
medium
low
low
low
low
low
low
high
medium
high
low
low
medium
low
medium
low
low
low
low
low
low
low
medium
low
low
low
low
medium
low
low
low
low
medium
low
high
medium
high
low
low
low
low
medium
medium
high
medium
low
medium
low
high
low
high
low
medium
low
high
high
high
high
high
low
high
high
medium
high
medium
low
high
high
high
high
high
high
high
high
high
high
medium
high
low
high
medium
medium
high
high
high
low
medium
low
low
medium
medium
medium
low
medium
high
high
medium
low
medium
low
high
high
medium
low
medium
high
medium
low
medium
high
high
high
low
high
low
high
high
high
high
high
low
high
high
medium
high
high
high
high
high
Fig. 64. APAC Industry Heat map
Source: Credit Suisse (6 August 2012)
Product spending
APAC over the past ten years has recorded not just higherthan-average income growth rates, but has also experienced
higher levels of education compared to the emergingmarket average. Moreover, it has benefited from the widerspread availability of modern infrastructure. As a result,
APAC countries are rapidly moving along the S-curve74
(see footnote 72).
Some products are already approaching saturation levels
while others still have considerable growth potential. For
some products, there are both growth and significant
“catch-up” opportunities.75
As shown in Figure 65, the greatest acceleration in personal
consumption takes place in the per capita GDP bracket
between USD 5,000 and USD 15,000. Beyond that level,
growth rates tend to slow and consumer demand tends to
shift from more basic products toward higher-value-added
services.
Korea
Taiwan
Malaysia
China
Thailand
Indonesia
The Philippines
India
1995
11,778
12,865
4,358
600
2,825
1,035
1,200
390
2000
11,346
14,641
4,030
946
1,983
800
1,055
465
2005
17,550
16,022
5,210
1,726
2,825
1,290
1,208
729
2010
20,764
18,572
8,417
4,421
4,992
2,980
2,133
1,342
2017F
33,000
29,000
14,193
9,152
7,868
6,905
2,985
2,040
Fig. 66. Estimates of per capita GDP (USD) for Asia-Pacific region
Source: IMF, Credit Suisse (6 August 2012)
Acceleration
0
10,000
20,000
30,000
40,000
GDP per capita
Fig. 65. Typical product S-curve showing product spending vs. per capita GDP (USD)
Source: Credit Suisse (6 August 2012)
Assuming that the global environment stabilizes and that
trade-dependent APAC countries continue to grow at the
pace predicted by the IMF and detailed in Figure 66,
countries like China, Thailand and Indonesia will particularly
experience rapidly accelerating product consumption for at
least another decade.
74
The S-curve attempts to capture the fact that at early stages of evolution, growth and consumption of certain products tend to have a very steep slope (or in other words, an accelerated surge in consumption after a certain level of income has been reached). Subsequently, the pace of expansion slows and is replaced by other sets of products and services as the economy matures.
75
A more detailed analysis can be found in Credit Suisse’s publication titled Consumption Patterns and Emerging Markets (2010) by Mary Curtis and Richard Kersley.
46 / 70
Focus: Infrastructure and Consumption
202
217
2014F
2013F
2012F
153
0x
4.0x
5.5x
0.5x
3.2x
7.1x
6.2x
3.6x
2.9x
3.1x
2.6x
3.3x
2.6x
5.7x
3.7x
2.7x
3.1x
3.2x
1.8x
2.0x
2.8x
2.7x
1.5x
1.5x
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012E
2013E
8x
7x
6x
5x
4x
3x
2x
1x
Luxury goods organic sales growth as a multiple of sector-weighted real GDP growth
Long Term Average
+/- SDT
Fig. 68. Global luxury sales growth vs. GDP growth. Data for 2012 and 2013 are analyst
consensus estimates.
Source: Company data, Bloomberg
By 2020, Asia’s luxury market alone will be as large as the
global luxury market is today.
173
2011
2010
2009
170
159
147
136
167
2008
2007
2006
2005
2004
133
128
2003
133
2002
128
108
2001
96
1999
2000
92
1998
85
1997
1996
1995
77
191
238
Differing Consumer Priorities and Increasing Prosperity
Raise Demand for Luxury
In general, it is important to recognize that consumer priorities
differ in Asia. Interpersonal relationships, social interactions
and, most importantly, status are much more highly valued
than in the Western world (see footnote 70). This leads to a
widespread obsession for international brand-name goods,
electronic gadgets, beauty products and, last but particularly
noteworthy, luxury goods such as jewelry and fashion apparel.
Displaying success is much more common in Asia than it is
in Europe or the USA, and wealthy consumers of luxury
goods brands are often much younger than in the “old” world.
Moreover, due to the one-child policy in mainland China, this
wealth is often concentrated in a single individual.
Fig. 67. Worldwide personal luxury-goods market trend (1995–2011, EUR billions)
Source: Worldwide Markets Monitor by Bain & Co. and Fondazione Altagamma, 17 October 2011
China is a receptive market for luxury goods, with a lot of
millionaires and a prospering middle class. It is emerging
to become the world’s leading market for luxury goods.
According to Capgemini,76 the Asia-Pacific region is now
home to slightly more millionaires than any other region.
As shown in Figure 69, the number of Asia-Pacific highnet-worth individuals (HNWIs)77 hit 3.37 million in 2011,
compared to 3.35 million in North America and 3.17 million
in Europe.
In fact, the luxury industry is growing at three times the GDP
growth rate on average, as highlighted by Figure 68.
Number of HNWIs Worldwide in millions
12
Luxury goods in particular have experienced astonishing
growth in Asia in recent years. Figure 67 displays the
tremendous growth of the segment and shows how well it
recovered from the 2008/2009 financial crisis. Global luxurygoods sales are growing at a double-digit annual rate, and
this long-term structural trend is well established.
10
0.1
0.4
0.4
8
6
0.1
0.4
0.5
0.1
0.5
0.5
3.1
3.2
3.1
3.4
3.4
3.3
3.4
2010
2011
0.1
0.4
0.5
0.1
0.4
0.4
3.0
3.1
2.6
4
3.3
2.7
2
0
2.8
2.4
3.0
2007
2008
2009
Asia Pacific
North America
Europe
Latin America
Middle East
Africa
Note: Chart numbers and quoted percentages may not add up due to rounding.
Fig. 69. Global breakdown of high-net-worth individuals, 2007–2011
Source: Capgemini (2012)
76
77
Capgemini, 16th Annual World Wealth Report, 2012
Those with USD 1 million or more at their disposal for investing.
Asia 47 / 70
Macau – the City of Dreams
A 100-Billion-Dollar Market by 2020
Rooted in a strong belief in luck and a passion for the
excitement of winning, Chinese’s love of gambling has made
the Macau gaming sector one of the most exciting
consumption-growth stories in Asia.
Lower Affluent: 100 – 200
20%
53
34
17%
Middle Class: 60 –100
26%
69
61
30%
Emerging Middle: 40– 60
25%
66
57
28%
Aspirant: 25 – 40
15%
39
36
18%
Poor: < 25
9%
23
Fig. 70. Significant expected increase in the affluent and middle classes in China
Source: Capgemini (2012)
Many European manufacturers of luxury goods have dispatched
teams to Asia to gain a better understanding of Asian
consumers’ tastes with the aim of incorporating these in their
product designs. The increasing demand for luxury goods
has also brought forth Asian manufacturers of such goods.
Particularly in areas such as luxury resorts, fashion and
cosmetics, Asian names can now compete on a level playing
field with top international brands. This development will
ultimately force European and American luxury brands to
increase their presence onsite by opening additional stores in
the booming urban centers. In the future these brands will
compete to meet clients’ main demands, which are exemplary
quality, high standards of craftsmanship, timelessness and
genuine tradition. With the Asian middle class continuously
growing and the number of Asian millionaires on the rise,
the demand for handbags, shoes, watches and cosmetics will
certainly not abate. This outlook should put the luxury-goods
segment in a solid position for future success.
In the end, along with consumer preferences, investment
strategies need to evolve away from basic needs toward
categories that will attract more attention from Asia’s population,
such as education, travel, healthcare, apparel and retail
financial services.
78
According to the State Gaming Control Board and CLSA Asia-Pacific Markets, July 2012
48 / 70
Focus: Infrastructure and Consumption
Nevertheless, per capita casino spending in China is still
seven times lower than in the United States. Coming from
such a low penetration level, we are convinced that spending
on destination gaming and leisure activities will enjoy a longterm structural growth trend. Our conviction is supported by
the continuing infrastructure buildout giving Macau greater
accessibility and by the increasing penetration of gaming and
leisure activities among the mass market.
120
100
80
60
40
20
0
Macau gaming industry
Fig. 71. Macau gaming revenue projection through 2020
Source: DICJ (Gaming Inspection and Coordination Bureau) Macau, CLSA Asia-Pacific
Markets, Credit Suisse estimates, July 2012
2020
6%
2019
13
2018
12
2017
5%
2016
Upper Affluent: > 200
2015
0%
2014
1
2013
# Household in mn
2012
# Household in mn
Since the granting of new casino operator licenses in
2002, Macau has emerged as one of the world’s largest
gaming markets in less than a decade. In 2011, Macau’s
gaming revenue was already more than half of that of
Las Vegas, with gross gaming revenue amounting to over
USD 34 billion.78 When looking at the gaming revenue
forecasts shown in Figure 71, it is not surprising that
observers estimate that it will not be long before Macau
surpasses Las Vegas.
2011
2020 distribution
Household annual
income (RMB 1000s)
2010
2010 distribution
USD billions
Besides Japan and China, countries such as South Korea,
Taiwan, Thailand, Indonesia, Malaysia, the Philippines
and Vietnam have growing numbers of people with high
purchasing power. Figure 70 shows the expected shift in
the wealth distribution of China’s population between
2010 and 2020.
All Roads Lead to Macau
Although Macau has gained popularity as “the” gaming
destination of China, its popularity mainly remains based in the
Guangdong area for the moment. Visitors from Guangdong
province can reach Macau in a few hours by road transportation
and now account for half of the total mainland Chinese
tourist arrivals. Yet Guangdong province, with a population
of 104 million, is only 10% of the total population in China.
Visitors from the first-tier cities of Beijing and Shanghai
only account for around 5% of the mainland tourist arrivals.
Together with the tight supply of hotel rooms, with the
occupancy rates of integrated resorts standing at nearly 90%
all year round, Macau can only serve a limited portion of
mainland Chinese tourists.
In view of this, a number of transportation infrastructure
projects are now under construction. All aim to shorten the
travel distance between Macau, Hong Kong, Guangzhou
and the rest of mainland China. The completion of the Hong
Kong-Zhuhai-Macau Bridge by 2015 will allow visitors to
travel from Guangdong to Macau in less than an hour. The
extension of the Guangzhou-Shenzhen-Hong Kong Express
Rail Link connecting to the national high-speed train network
will greatly enhance the accessibility of Macau and Hong Kong.
With the improved transportation network, non-Guangdong
visitors can reach Macau much more comfortably and quickly.
Furthermore, the USD 13 billion that the Macau casino
operators have invested in new hotel properties and casinos
in the past five years is now bearing fruit, as evidenced by
the aforementioned hotel occupancy rate.
In summary, the Macau gaming sector finds itself in a sweet
spot of having high earnings growth and very strong cashflow generation in this decade. It will thus be one of the
sectors that are likely to capture the Asia consumption growth
story especially well and offer an attractive investment return
in the long run.
Asia 49 / 70
The fish is considered to be a lucky Chinese New Year symbol and is the most popular dish served during the occasion.
50 / 70
Focus: China
Focus: China
When assessing Asia’s future development, it is almost impossible to overstate the importance of China.
In fact, China has been the most important engine of global economic growth over the past decade.
China as the Leader of the World Economy
 Looking forward, China will not only be the powerhouse of Asia’s future, but is also expected to soon attain global
economic leadership and become the world’s largest economy. On its path, China can rely on the following:
 Ample liquidity: China’s currency reserves amount to over USD 3 trillion.
 Prudent budgeting: The government’s balance sheet remains solid. In terms of sovereign debt levels,
China ranks far behind the highly indebted developed economies in Europe, the USA and Japan.
 Rapid urbanization: Migration to urban areas and increasing workforce productivity support economic growth.
 Capital-market liberalization: China has increasingly opened up to the rest of the world, which particularly allows
capital to flow to where it can be best used.
 At the same time, China has to cope with challenges such as increasing inflation and worsening demographics.
A topic widely discussed recently has been whether or not China is in the midst of a property price correction.
This section weighs up the arguments.
Investors’ Perspective: Access Is Key
 China has long been prudent with regard to outside capital in order to protect the renminbi (RMB). However,
in order to stay on its current growth path, China might change its stance and open up its capital markets to
outside investors.
 With the onshore market largely closed to international investors, the offshore market for RMB can play a pivotal
role in enabling investors to gain exposure to the renminbi and at the same time ensuring that the liberalization of
China’s capital account does not lag behind other developments.
 While offshore deposits are still surging, investors are slowly but surely aiming to access the mainland, i.e. the
onshore market. China has implemented different schemes that allow certain investors to tap the onshore market.
 Just recently, quotas regulating foreign-capital access to the onshore market have been raised again. This shows
that China is discovering more and more opportunities in granting foreign investors access to the local capital
markets. Accordingly, China seems to be willing to open up its capital account more rapidly than just a couple of
years ago.
Asia 51 / 70
China
United States
Euro zone
6.6
01
3.3
Beer consumption
02
2.1
Copper consumption
02
4.1
03
*
06
1.4
07
1.3
10 1.1
Car sales
10 1.2
Patent granted to residents
10 1.1
Retail sales
0.7
14
Imports
0.8
14
Firms in fortune Global 500
0.5
16
DGP at PPP1
0.8
16
GDP at market exchange rates
0.5
Stock market capitalization
0.3
Oil consumption
0.5
Consumer spending
0.2
Defense spending
0.2
18
20
21
23
2025
2017
2015
25
2013
2011
10 1.1
Energy consumption
2009
Manufacturing output
2007
09 1.4
2023
Exports
Fixed investment
2021
CO2 emission
2019
Net foreign assets
2005
2015
2011
2007
2003
1999
1995
1991
1987
15
10
5
0
Mobile phones
2003
25
20
1983
in mn % of world GDP
(PPP-weights)
Figure 72 shows that according to Credit Suisse forecasts,
China’s share of global GDP will soon be larger than that of
the euro zone.
Steel consumption 99
2001
Life in the Fast Lane
China has been the most important engine of global and
intra-Asian economic growth over the past decade. In 2007,
China’s per capita GDP in current USD terms reached
the USA’s 1960 level of per capita GDP. In 2011, it was
roughly the same as US per capita GDP in 1972. China thus
experienced the equivalent of almost 12 years of US growth
in just four years.79 In 2010, China’s GDP grew by 10.3%,
compared to a developed-market average of around 2.6%.
Looking ahead, China will therefore not only be the powerhouse of Asia’s future, but will also soon assume global
economic leadership.
Figure 74 is based on estimates by The Economist80 and
compares China’s development status to that of the United
States.
1999
China as the Leader of the World Economy
Year in which China overtook
Year in which China overtakes the United States
Fig. 72. China is about to surpass the euro zone to become the second-largest contributor to
world GDP (last data point: 19 September 2012)
Source: Bloomberg, IMF, Credit Suisse
current USD in trillions
Several economic analyses suggest that China will overtake
the USA as the world’s largest economy within the next
fifteen years (see Figure 73).
50
40
30
20
10
0
1990
China/US ratio
* China net foreign asset USD 2 tn; US net foreign
debt USD 2.5 tn
1 Purchasing-power parity
Fig. 74. China vs. the USA – There can only be one
Source: The Economist ( 27 December 2011)
It vividly illustrates in which areas China has already overtaken
the USA and how long it is likely to take China to catch up and
overtake the USA in areas where the USA is still in the lead.
The chart also shows that it is not a question of whether China
will be able to outrun the USA. It is just a question of when!
2000
China
2010
US
2020
2030
India
Germany
2040
2050
Japan
Fig. 73. China’s way to the top (last data point: February 2012)
Source: Bloomberg, Credit Suisse
79
80
According to data from the World Bank.
The Economist, The dating game, 27 December 2011, http://www.economist.com/blogs/dailychart/2010/12/save_date (accessed 5 September 2012)
52 / 70
Focus: China
Japan FX reserves
2011
2009
2007
2005
2003
2001
3,500
3,000
2,500
2,000
1,500
1,000
500
0
1999
FX reserves in billions
China FX reserves
Fig. 75. China’s FX reserves compared to those of Japan (last data point: February 2012)
Source: Bloomberg, Datastream, Credit Suisse
The magnitude of China’s extraordinary liquidity is illustrated
by Figure 76, which shows that China’s FX reserves can
easily cover its demand for external goods and services.
At current levels, China’s FX reserves could finance, for
example, over 20 months of imports compared to between
five and ten months for other Asian countries. This
underscores China’s economic flexibility and independence
from the rest of the world.
Asia currency reserves, import-coverage ratio in months
30
25
20
15
10
5
2011
2010
2009
2008
2007
2006
2005
2004
2003
0
2002
Ample Liquidity Fosters Independence
With more than USD 3 trillion of foreign-exchange reserves
held by the Chinese government, a cash-rich corporate
sector and a significant household savings rate, China finds
itself in a situation where it should be able to steer through a
global economic growth slowdown without suffering a hard
landing. Figure 75 shows that China’s FX reserves are now
about three times larger than those of Japan. Overall they
account for about a third of global FX reserves.
China
South Korea
Malaysia
Indonesia
The Philippines
Singapore
Thailand
India
Fig. 76. Import coverage ratio of Asian currency reserves (last data point: February 2012)
Source: Datastream, Credit Suisse
Solid Budgeting as a Foundation
Besides having access to ample liquidity, the government’s
balance sheet remains solid. Outstanding debt amounts to
only 19% of GDP,81 which ranks China far behind the highly
indebted developed economies in Europe, the USA and
Japan. As Figure 77 shows, even after adding contingent
liabilities such as local government debt, Barclays finds that
China’s overall contingent liabilities would range somewhere
between 80% and 90% of GDP, which is still low compared
to its global competitors. Taking into consideration the rapid
growth of government revenues and the value of assets
owned by the government,82 the risk that these contingent
liabilities pose to China’s future path toward becoming the
global economic superpower seems to be manageable.
100%
90%
80%
70%
% of GDP
Today China’s population is already double that of the United
States and the European Union combined. Although a large
part of its population is still rural as we have discussed earlier
in this paper, China has tremendous development potential
when it comes to infrastructure projects that will ultimately
encourage urbanization and industrialization of the “Middle
Kingdom”. On top of that, China’s rapidly growing middle
class will soon become larger than that of Europe, the USA
and Japan combined.
60%
50%
40%
30%
20%
10%
0%
Local government debt
China Development Bank
SOE debt (loan default est.)
Bank NPLs
Ministry of rail debt
Official public debt
Fig. 77. Chinese government’s estimated contingent liabilities
Source: Barclays Capital (December 2011)
Barclays Capital, Asia Local Markets Guide 2012, December 2011
According to data from the International Monetary Fund (IMF), China’s net foreign asset position (converted into current USD) was USD 3.839 trillion in 2011. At the same time, the USA ran a net foreign debt position of USD 96 billion.
81
82
Asia 53 / 70
Rapid Urbanization as a Main Driving Force
The rapid urbanization over the past two decades has certainly
been a major success factor. People leaving their rural homes
and moving into the urban centers caused China’s workforce
to grow by about 145 million people between 1990 and
2008.83 At the same time, workforce productivity increased by
an annual rate of 9%, meaning that output that required
100 people’s work in 1990 was done by 20 in 2008.84
Risks on the Way
What’s true for the Asian economies in general also applies
to China: double-digit economic growth does not come without
risks and challenges. The path to becoming the world’s
preeminent economy is unlikely to be smooth.
% of GDP
% yr, 3 mma
1952
1955
1958
1961
1964
1967
1970
1973
1976
1979
1982
1985
1988
1991
1994
1997
2000
2003
2006
2009
Investment
Fig. 78. Household consumption’s contribution to GDP growth (last data point: February 2012)
Source: CEIC, Credit Suisse
85
HSBC Global Research, Asia Equity Insights, 26 March 2012
According to the Asian Productivity Organization (APO)
China Securities Regulatory Commission, China Capital Markets Development Report, January 2008
54 / 70
8%
20%
15%
4%
10%
2%
5%
0%
0%
–2%
–5%
CPI (LHS)
Non-food (LHS)
2012
2011
2010
2009
2008
2007
2006
2005
2004
2003
2002
2001
2000
–4%
Food (RHS)
Fig. 79. China’s inflation levels have been volatile
Source: CEIC, HSBC (Q2 2012).
90%
80%
70%
60%
50%
40%
30%
20%
10%
0%
Consumption
84
25%
6%
Investment versus Consumption, or Rather Investment and
Consumption Joining Forces
As highlighted earlier in this paper, it wasn’t exports but rather
mostly investments in infrastructure in response to rapid
urbanization that boosted economic growth to these levels.
Spending on plant, buildings and other infrastructure projects
has accounted for almost 50% of GDP of late. Figure 78
indicates that due to a high savings rate, household
consumption’s contribution to GDP growth has been decreasing
over recent decades.
83
10%
%y r, 3 mma
The Development of Capital Markets and Decreasing
Reticence toward Outside Influence
The reforms and liberalization that were initiated in the
1970s have laid the groundwork for China’s evolution from
a centrally-planned to a more market-oriented economy.
As highlighted by the CSRC,85 the increasing sophistication
of the Chinese economy together with the reform of stateowned enterprises has encouraged the development of
accommodative financial systems. Capital markets have
become one of the animating spirits behind a number of
economic and social reforms, and their contribution to
economic development is increasing steadily.
China has increasingly opened up to the rest of the world
and has become part of the international community. Its
growing receptiveness to new ideas and its willingness to
start allowing foreign capital to access local markets have led
to improved know-how and massive capital flows that, when
coupled with low labor costs, have caused economic growth
to surge.
For many experts, the imbalance between investment and
consumption makes China’s economic situation look precarious.
However, the increasing wealth of China’s rising middle
class is likely to give consumption a tremendous boost in the
future. In addition, the government’s aim of shifting the
economy’s focus from exports toward internal demand should
also be positive for consumption. Rising consumption will
most likely go hand in hand with an appreciation of the
renminbi after capital markets are further internationalized.
At the same time, though, a slowdown in investment spending
is nowhere near, especially when taking into account the
considerable infrastructure spending that will be required to
match the pace of urbanization.
Focus: China
Inflation
First and foremost, as discussed earlier in this study, inflation
will be a factor to watch out for in the future. Although
currently depressed by restrained Chinese growth due to the
global economic slowdown, once growth picks up again,
inflation will become an issue once more, especially if there is
rapid and undisciplined credit growth. As Figure 79 shows,
this will most likely cause the inflation rate to remain volatile
in the future.
Cumulative Labor Force
Growth, Ages 15–64
Shifting Demographics
Unfavorable demographic trends have also already been
highlighted as one of the major challenges facing many Asian
countries. China added more than 100 million people to its
workforce over the past decade, but is projected to add only
another 20 million over the next one.86 Labor force growth,
as pictured in Figure 80, is clearly turning less favorable in
the future.
30%
20%
10%
0%
–10%
–20%
–30%
–40%
2000
China
2010
Japan
2020
2030
US
2040
2050
Europe (ex-Eastern Europe)
Fig. 80. China’s labor force is set to shrink in the coming decades
Source: Deutsche Bank, BlackRock (October 2011)
Property Price Bubble?
An often-discussed risk to China’s growth story is a sharp
correction of property prices. This is a highly controversial
topic. As BCA Research87 highlights, there is clear evidence
of speculative excess in specific regions and certain segments
of the housing market. However, it sees little evidence of a
nationwide housing bubble. When looking at house-price
increases, many observers focus on the large urban centers
where property prices have indeed increased, as Figure 81
shows. Viewed in isolation, this could indeed lead some to
conclude that overheating is a risk.
RMB in thousands per sqm
25
20
15
10
5
0
1995
1998
Shanghai
2001
Beijing
2004
2007
2010
National
Fig. 81. China nominal house prices by city (index) (last data point: 31 December 2010)
Source: Bloomberg, Credit Suisse
However, there is more to this that needs to be taken into
account. First of all, the regions still only make up a small
part of China. There are significant differences in standards
of living and economic growth across the different regions in
China and also in the development of property prices.
Furthermore, BCA Research (see footnote 87)
acknowledges that affordability is poor in some areas.
However, as highlighted by Figure 82, it ascribes this to
the fact that housing-supply growth has been insufficient to
support the country’s rapid urbanization.
It further outlines that, compared to US investment in real
estate between the Second World War and the 1990s and to
Korea’s investment spending in the 1990s, China’s capital
spending on housing is not excessive. Furthermore, it appears
that the rumor of empty apartment buildings is exaggerated,
and Chinese households have much less mortgage debt than
their counterparts in the developed markets.88
9
Units in millions
New Sources of Growth Needed
To date, China’s growth has been powered by investment
spending, which has made it the most investment-intensive
country in the world. We have seen that this growth has been
matched by a decrease in household spending, an overall
trend that may need to be reversed if economic growth is to
be sustained in the long term. We have also highlighted why
consumption should gain importance as a driver of future
economic growth in China. To avoid a “growth trap”, however,
Chinese authorities may need to further promote domestic
demand over the next few decades.
8
7
6
5
2000
2005
2010
Net annual increasing in urban housing stock (BCA estimate)
Urban household formation
Fig. 82. Annual increase in housing stock compared to urban-household formation
Source: BCA Research, 20 June 2012
86
87
88
The Economist, Pedaling prosperity, 26 May 2012, http://www.economist.com/node/21555762 (accessed 5 September 2012)
BCA Research, China Investment Strategy Weekly Report: China – Housing Recovery under way?, 20 June 2012
BlackRock Investment Institute; A Rapidly Changing Order – The Rising Prominence of Asian Debt Markets, October 2011
Asia 55 / 70
Last but not least, the ongoing correction in China’s property
market due to a slowing Chinese economy in recent months
is likely to cool the market.
As PricewaterhouseCoopers (see footnote 12) emphasizes,
the commercial sector should remain strong once the
economy picks up pace. Backed by increasing investment
from insurance companies and developers who, due to
government restrictions, are forced to invest more and more
in commercial property rather than residential projects, there
is significant potential in this segment. China’s emerging
corporate giants want trophy office sites. This will drive
capital into those projects and will help to support the
Chinese property market in the future.
In summary, the prevailing housing-construction boom in
China needs to be put in proper context. One cannot rule out
misallocations and excesses in certain areas. But the overall
picture argues against an unsustainable house-price
correction.
Internationalization as the Key to the Future
In order to stay on its current growth path, China is likely to
decide to continue to open up its capital markets to outside
investors. This will provide the necessary funds to support
urbanization and at the same time improve market efficiency,
liquidity and transparency. With the internationalization of the
renminbi and the interest-rate liberalization in progress, China
appears to have recognized the ultimate benefits of these
developments.
In the end, for China and its huge and growing population,
creating employment and avoiding social unrest might turn out
to become a key goal for the future. If this can be achieved
and growth momentum can be sustained, particularly in the
emerging regions, on balance China should be able to sustain
a high level of growth.
Investor’s Perspective: Access Is Key
Investors around the globe are currently facing a difficult
situation. Europe is experiencing a full-blown sovereign debt
crisis, and the USA is close to reaching its debt ceiling with
no definitive plans to drive down the budget deficit. Naturally,
when thinking about where to put their money, investors
look at places where there is economic growth potential and
where they see sound economic and monetary policies in
place to promote growth. Asia looks strong on those metrics.
We have highlighted a number of reasons why much of the
world’s future economic growth will take place in Asia.
For investors, this raises the question of how to capture
this growth.
89
90
Especially in the case of China, accessing the growth potential
means that certain barriers need to be overcome. China has
long protected itself from outside capital in order to avoid
appreciation of the renminbi and to prevent poorly controlled
capital in- and outflows.
The Internationalization of the Renminbi
Recently, China has started to allow its financial market to
open the door to outside investors. The internationalization of
the RMB and the simultaneous opening of the capital
account could be the most important cornerstones of China’s
financial development.
More precisely, China has started to internationalize the RMB
before completely liberalizing its capital account. In fact, the
RMB is already crossing Chinese borders via the offshore
market while in China’s banking system the net interest
margin89 is still regulated and foreign banks are still limited to
playing a minor role.
The Role of the Offshore Market
The offshore market for RMB can play a pivotal role in
ensuring that the capital-account liberalization does not lag
behind going forward.
RMB reserves accumulate offshore when RMB payments for
Chinese imports exceed RMB receipts for Chinese exports or
when Hong Kong residents acquire a certain amount of RMB
against, for example, US dollars.90 With these funds, banks
essentially create offshore foreign exchange, money and
bond markets. Since Chinese authorities only permit limited
transfer of these funds back onshore, offshore price signals
start to deviate from those onshore. Chinese authorities are
well aware that price signals from offshore markets will
sooner or later put pressure on onshore markets and on the
still regulated banking system and ultimately force prices to
adjust. Thus, within limits, Chinese authorities welcome the
pressure that it puts on domestic currency, money and bond
markets because this serves to promote future capitalaccount liberalization.
The offshore market was explicitly built to allow RMB to
begin to develop international characteristics while at the
same time guarding domestic markets from the influence of
global markets. Allowing further development of the offshore
RMB market thus provides China with a perfect opportunity
to gradually open up its capital markets to the outside world.
At the same time, due to limited access to onshore markets,
the offshore market enables large and long-term investors
to gain exposure to RMB and benefit from the country’s vast
trade links and significant economic weight in the global
economy.
The difference between what banks earn on the loans they provide and what they pay on the deposits they take.
Bank for International Settlements, RMB internationalization and China’s financial development, December 2011
56 / 70
Focus: China
With strict capital controls in place, savers have no way to
shift their capital abroad where it could earn sound returns.
Instead, foreign-currency reserves have piled higher, most of
which have been placed in US Treasury bonds and now
expose China to significant exchange-rate risk. While China,
in contrast to other emerging economies, does not depend
on foreign capital, loosening capital controls would encourage
more productive investments for onshore capital and at the
same time enable China to diversify its funding mix. In order
to keep Chinese savers from shifting all their money abroad
and thus causing a huge capital flight, it may become
essential for China to first liberalize interest rates within the
country to provide savers with interesting investment
opportunities onshore.
Last but not least, having a dominant, internationalized currency
is a standard attribute of a growing global power.92 However,
unless China opens up its borders to allow foreigners to buy
and sell Chinese assets, the RMB is unlikely to become the
long-desired international reserve currency and a powerful
geopolitical tool.
The Implications of Capital Controls for Currency,
Bond and Stock Markets
The imposition of capital controls has implications not only for
the value of the RMB, but also for prices of Chinese stocks
and government bonds, which deviate between the offshore
and onshore markets.
On the currency side, the internationalization of the RMB has
brought a second exchange rate for the RMB offshore, called
the CNH. The CNH is traded outside mainland China (to a
large extent in Hong Kong) and determines the delivery of
RMB against USD. Due to capital controls limiting the flow of
RMB back to the mainland, the CNH exchange rate differs
from the RMB exchange rate traded onshore in Shanghai
(called CNY). After being implemented in July 2010, the
CNH traded at an average premium of 0.2% over the CNY
until late 2011, as pictured in Figure 83 (see footnote 90).
6.8
6.7
Spot Rates
The Arduous Path to Interest Rate Liberalization
There are further reasons for China to reconsider its reluctance
toward an open capital account. China’s rise has predominantly
been financed by using cheap money raised from depositors,
which has been channeled into investments. Here, the
controlled net interest-rate margin basically represents a tax
on depositors that may lead to a suppression of consumption,
services and private business in order to subsidize investments,
industry and the state.91
6.6
6.5
6.4
6.3
Q3 2010 Q4 2010 Q1 2011 Q2 2011 Q3 2011 Q4 2011
CNY onshore
CNH
Fig. 83. Offshore vs. onshore RMB
Source: Bloomberg, HSBC, Bank for International Settlements (December 2011)
Barred from gaining direct exposure to the CNY, investors
tried to get their hands on CNH, driving up the relative
exchange rate of CNH versus CNY. As investors moved back
into “risk-off” mode at the end of 2011 and Asian currencies
started to weaken, the RMB then traded much more cheaply
in Hong Kong than onshore.
Before the implementation of the CNH in 2010, the
RMB was first traded offshore via “non-deliverable forwards”
(NDFs)93 for almost 10 years. After the RMB was
unpegged94 from the USD in 2005, an onshore deliverable
forward began to trade. From then onward, both traded
simultaneously, but at noticeably different rates. The implementation of the CNH created further arbitrage opportunities,
but stringent capital controls caused price differences across
these markets to remain.
The implementation of the offshore bond market has provided
further evidence of the segmentation of onshore and offshore
markets. When China issued government bonds in Hong
Kong for the first time in 2007, they paid a higher yield than
onshore. However, when the government came back to the
market in 2010 and 2011, yields ranged way below those
offered on domestic issues. This reflects investors’ lack of
access to the mainland bond market. To get exposure to the
RMB, investors are willing to pay a premium in the offshore
market by accepting lower yields.
The discrepancy in Chinese share prices between the mainland
and the offshore market in Hong Kong reveals again that
Chinese capital controls remain effective. As Figure 84 shows,
prices of so-called A-shares (shares that are listed onshore)
and those of H-shares (shares that trade offshore) have
deviated considerably, with the price of mainland shares rising
to almost twice the price of offshore shares back in 2007.
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
The Economist, China’s capital controls: Set the money free, 3 March 2012, http://www.economist.com/node/21548943 (accessed 5 September 2012)
Council on Foreign Relations, What Drives CNH Market Equilibrium?, November 2011
93
Non-deliverable forwards (NDFs) are forward transactions used to hedge non-convertible currencies. Under an NDF, a currency that is not freely convertible is specified against a freely convertible currency (typically the USD). The contract is for a fixed amount (of the non-convertible currency) on a specific due date and at an agreed forward rate. At maturity, the daily rate (reference rate) is compared with the NDF rate. The difference must be paid in the convertible currency on the value date.
94
The renminbi today is still closely linked to the USD. However, instead of a direct currency peg, China is steering the RMB’s value indirectly via capital controls.
91
92
Asia 57 / 70
In 2007, authorities allowed the offshore sale of RMBdenominated bonds. Investors were now provided with an
investment alternative offering higher yields than deposits.
The first RMB-denominated bond issued outside mainland
China was the CNY 5 billion issue by the China Development
Bank followed by the Export-Import Bank of China (CNY
2 billion), the Bank of China (CNY 3 billion) and the Bank of
Communications (CNY 5 billion).95 According to HSBC
(see footnote 44), Baosteel Group was the first non-financial
state-owned enterprise to tap the CNH market in Hong Kong
after obtaining approval in October 2011.
200
175
150
125
100
75
2007
2008
2009
2010
2011
Hang Seng AH Premium Index (Index is the ratio of onshore to offshore prices for a
basket of cross-listed Chinese equities.)
Fig. 84. Chinese firms’ stock prices, onshore relative to offshore
Source: Bloomberg, Bank for International Settlements (December 2011)
Since then, premiums have decreased, so mainland and offshore shares have traded almost at parity. Only recently have
mainland shares started trading at premiums again on the
back of “risk-off” sentiment among investors.
300
700
600
250
500
200
400
150
300
200
100
0
100
0
2010
2011
HK – China Cross-Border Settlement
RMB Deposit Base
Fig. 85. CNH deposits and cross-border trade on the rise
Source: HKMA, Deutsche Bank (April 2012)
As displayed in Figure 85, deposit volumes have surged
ever since, reaching CNH 576 billion as of January 2012.
Simultaneously, this caused an increase in net foreigncurrency assets in the Chinese banking system and led to
a surge in foreign-exchange reserves.
RMB Deposit Base in billions
Cross-border Settlement in billions
Capital Flows between Mainland China and Offshore
Since February 2004, when 32 licensed banks started offering
RMB deposit accounts, currency exchange and remittance
services, Hong Kong residents have been allowed to buy
limited amounts of RMB and hold them in deposits offshore.
In 2009, China’s government started to encourage Chinese
companies to invoice and settle international exports and
imports in RMB. These developments have led to tremendous
growth of the offshore market in Hong Kong. Since then,
RMB trade settlements rose from RMB 3 billion in 2009 to
RMB 535 billion in 2010 and are expected to reach RMB
2.1 trillion in 2015.96
A large majority of those transactions have involved Chinese
imports. Apparently, more than 10% of Chinese imports are
now settled offshore, giving foreign investors an excellent
opportunity to get their hands on RMB and thus boosting
RMB-denominated deposits in Hong Kong.
RMB Deposits Rising Further
On the back of an increasing volume of RMB cross-border
trade and the growing use of bank deposits for RMB lending
and bond purchases, CNH deposits are expected to reach
CNH 1.25 billion by 2012 (see footnote 36).
As Figure 86 shows, in the coming years these levels are
expected to surge further and eventually reach more than
CNH 4 billion in 2015, according to Deutsche Bank and the
Hong Kong Monetary Authority (HKMA).
CNH in millions
2006
4,500
4,000
3,500
3,000
2,500
2,000
1,500
1,000
500
0
Focus: China
2012F
2013F
Fig. 86. Estimates of future RMB deposits in Hong Kong
Source: HKMA, Deutsche Bank (April 2012)
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
95
Bank for International Settlements, The internationalization of the RMB, 2011
96
Deutsche Bank, Global Economic Perspectives: China’s Financial Revolution, 20 April 2012
58 / 70
2011
2014F
2015F
Investors Aiming for Access to the Mainland
Today, investors are reaching out for more: they want to gain
access to China’s onshore market, i.e. they want to bring
their CNH onshore and convert them into onshore CNY.
Introducing convertibility of CNH and CNY would essentially
imply opening China’s capital account, which Chinese
authorities are still trying to avoid or at least defer.
Nevertheless, over time Chinese authorities seem to be
weighing the opportunities of foreign capital against its pitfalls
more than they did until just recently.
Although foreign direct investment flows were already allowed
into mainland China in the 1970s, securities flows are still
tightly restricted.
In 1991, the Shanghai and Shenzhen Stock Exchanges
started offering so-called B-shares to foreign investors for
the purpose of attracting foreign capital to the securities
market. These shares are domestically listed and denominated
in RMB, but are traded in USD or Hong Kong dollars by
overseas investors.
Several other measures that opened opportunities to tap the
Chinese equity market followed, but the most significant step
was taken in 2002 with the implementation of the Qualified
Foreign Institutional Investor (QFII) scheme. According to the
China Securities Regulatory Commission (CSRC; see footnote 85), the goal of the QFII scheme was to allow licensed
foreign institutional investors to trade Chinese A-shares on
the secondary market. At the same time, this would allow
domestic institutions to benefit from international financial
institutions’ experience in a global financial market. By the
end of 2007, 52 foreign institutional investors had been
granted QFII status97 to trade A-shares, government bonds,
corporate bonds, convertible bonds and other financial
instruments approved by the CSRC. The QFII scheme was
an important step in the process of internationalizing China’s
capital market and had tremendous implications for the fund
industry, which was competing for quotas to invest in the
onshore market.
Since 2007, the additional implementation of the Qualified
Domestic Institutional Investor (QDII) scheme has also
allowed domestic institutional investors to transfer their
money out of mainland China and invest it in global capital
markets. According to the Bank for International Settlements
(see footnote 95), the QDII scheme was a reaction to large
foreign-exchange reserves that had accumulated and needed
to be allocated across capital markets.
The Renminbi Qualified Foreign Institutional Investor (RQFII)
scheme enacted in 2011 is a new Chinese policy initiative
that allows RQFIIs to channel RMB funds raised in Hong
Kong to investments in the mainland securities markets.
The major difference between the RQFII scheme and the
QFII scheme of 2007 is that within the 2007 QFII framework, foreign investors were only allowed to participate in the
exchange-traded market while under the RQFII regulation,
they are also able to access the interbank market, where
most of the bond trading takes place (see footnote 44).
Certainly the most significant limitation of the RQFII scheme
is that under the current pilot program, only Hong Kong
subsidiaries of onshore fund managers and securities firms
are allowed to participate.
China Keeping Things Firmly in Hand
Via these quotas, mainland China is hoping to be able to
control foreign capital in- and outflows and limit the impact
of capital-flow volatility on, for example, the value of the
RMB. The State Administration of Foreign Exchange (SAFE),
China’s foreign-exchange regulator, has particularly restricted
financial institutions’ short-term overseas borrowing quotas as
well as the trading of foreign-exchange derivatives in order to
control hot money flows attracted by RMB appreciation
(see footnote 44).
Nevertheless, since China is discovering that there are more
and more opportunities in granting foreign investors access
to the local capital markets, it seems to be willing to open up
its capital account more rapidly than it did just a couple of
years ago.
Recent Developments
On July 27, 2012, the CSRC announced official new rules
governing the QFII scheme that came into effect immediately.
The amendments enlarge the investment opportunities
because, most importantly, they include the interbank bond
market.98 China’s interbank bond market is the world’s
fourth-largest today after the USA, Japan and France, with
a volume outstanding of CNY 21.2 trillion.99 At the same
time, access prerequisites for QFIIs have been lowered and
the application procedure has been simplified substantially.
By allowing investors to tap the interbank bond market, the
new scheme removes major pitfalls of the old QFII program,
which was mainly focused on equities and only allowed fixedincome investments in listed securities.100
As Figure 87 shows, the total QFII quota approved as of July
20, 2012, amounted to USD 28.5 billion and was allocated
to 149 institutions.101
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
97
Forty-nine of the 52 had been allocated a total of almost USD 10 billion to invest onshore, according to the China Securities Regulatory Commission.
98
Which until then had only been accessible to a very limited number of investors under the RQFII scheme.
99
JP Morgan, Asia Local Markets Research – Investing in Chinese interbank bond market will soon be reality for foreign investors, 2 August 2012
100
According to Bank of America Merrill Lynch research, fixed-income products traded on exchanges only account for 2% of total fixed-income securities outstanding.
101
Bank of America Merrill Lynch, Asia Strategy Watch – China: Interbank bond market officially opened to QFIIs, 30 July 2012
Asia 59 / 70
Jul 12
Apr 12
Jan 12
Jul 11
10
Oct 11
5
Apr 11
40
Oct 10
10
Jan 11
70
Jul 10
15
Apr 10
100
Jan 10
20
Oct 09
130
Jul 09
25
Apr 09
160
Jan 09
30
Approved OFII quota (USD in bn)
# of QFII (RHS)
Fig. 87. Approval of QFII quota and number of QFIIs
Source: CEIC, Bank of America Merrill Lynch (30 July 2012)
In April 2012, the CSRC raised the total quota to
USD 80 billion, leaving plenty of room for further demand,
which has been accelerating since the beginning of 2012.
The amendments to the QFII program highlighted above are a
clear indication that Chinese regulators are willing to move
forward with opening the domestic securities market to
international investors.
In response to offshore RMB deposits dropping by
CNH 35 billion to CNH 554 billion in the first five months
of 2012,102 in July 2012 Hong Kong started to allow nonresidents to purchase an unlimited amount of RMB.
Apparently it was Hong Kong’s big banks that had witnessed
subdued appetite for RMB deposits in light of a faltering
appreciation of the RMB, and that had prompted Chinese
authorities to expand regulations from 2004 that allowed only
Hong Kong residents to hold RMB deposits offshore.
Authorities want to defend Hong Kong’s position as the
global center for international RMB trade.
Potential and Pitfalls of Further Internationalization
Ultimately, the development of the RMB offshore market is
crucial to China’s broader plans of turning the RMB into a
recognized reserve currency. On the way there, China will
have to overcome two major hurdles.
Significant Exposure to Potential Selloff of the USD
First and foremost, the internationalization of the RMB
has already resulted in a dramatic surge in official foreignexchange reserves. China is holding a huge long position in
foreign-exchange reserves, which exposes it to valuation
risks. A substantial selloff of the USD could potentially hit
China’s FX position hard. In addition, any funds that flow
back to China’s mainland from the offshore market in Hong
Kong have to be sterilized by the PBoC in order to control
the amount of money that is available in the system.
Offshore Bond Market Gaining International Attention from
Investors and Issuers
An integral role in the internationalization of the RMB will be
played by the offshore bond market. Having a deep and liquid
bond market is closely linked to the overall supply of currency
in the market and is thus a prerequisite for having an internationalized reserve currency (see footnote 44). One can
therefore expect the CNH offshore market to grow in lockstep with the underlying currency market. While the offshore
bond market is attractive to China as an issuer as well as for
international investors, it also presents China with a challenge
that needs to be taken seriously. Since Chinese companies
have the opportunity to fund themselves offshore by selling
“Dim-Sum” bonds in Hong Kong, the importance of domestic
bond market access may decrease and cause large Chinese
firms to leave the local banking system. Chinese companies
may borrow from non-Chinese banks outside mainland China,
which could not only challenge China’s monetary and credit
control, but also the dominance of Chinese banks.
Another interesting development that China may have to deal
with is that the offshore bond market is diversifying away
from Chinese issuers to issuers from all around the world.
Today, almost 80% of RMB issuers in the offshore market
are of Chinese nationality, compared to 30%–60% in other
offshore markets (see footnote 90). The majority of the
Chinese issuers of RMB bonds offshore intend to use the
funds raised on the mainland to benefit from the lower
interest rates offshore. As it turns out, though, RMB bonds
issued by non-Chinese companies have increased
substantially and a number of leading global conglomerates
such as Air Liquide, British Petroleum, Volkswagen and
Tesco have tapped the RMB market.
The attractiveness of issuing RMB-denominated bonds had
been limited in the past by the widespread appreciation
expectations for the RMB. On top of that, until recently,
global companies that are now tapping the market did
not produce within China. Recently, however, the situation
has changed. Many large corporations now have factories in
China (e.g. BMW), which makes refinancing in RMB a
viable means of funding foreign direct investments. Furthermore, the recent weakness of the RMB has caused issuers
to become less risk averse when it comes to raising money
in RMB.
The increasing appeal of the RMB market for issuers around
the world poses the risk that weak credits might also be
attracted, harming the market’s overall credit quality. On
the other hand, one of the payoffs of internationalization that
China could cash in on is that, with more non-Chinese
issuers participating in the offshore market, China would be
able to share its foreign-exchange rate risk.
Historical performance indications and financial-market scenarios are no guarantee for current or future performance.
102
According to Bloomberg data
60 / 70
Focus: China
In addition, besides reducing foreign-exchange risk by
invoicing and settling trade in the same currency, progressive
internationalization of the RMB would improve the funding
efficiency of Chinese financial institutions and boost crossborder transactions.
Internationalization Expected to Be Supported by Authorities,
but at a Pace Determined Mainly by China
Looking ahead, the Chinese banking system may have to
face competition from offshore. Today, RMB held at Hong
Kong banks can only flow back to the mainland via trade
channels (i.e. as payments for exports from onshore) or
via capital account channels (i.e. when a mainland issuer
redeems an offshore “Dim-Sum” bond). As internationalization
of the RMB progresses, though, cross-border markets are
likely to reinforce the links between on- and offshore banks.
As soon as offshore banks are able to bypass domestic
banks and provide credit directly to onshore companies,
Chinese authorities are likely to face the decision of whether
to pull back on internationalization or to follow through on it.
At this point, though, regulatory restrictions regarding RMB
internationalization are likely to be just a means of keeping
the pace of opening up the capital market in check rather
than reversing the market development.
Asia 61 / 70
Hongan-ji temple pagoda in Japan. Hongan-ji is the collective name of the largest school of Jodo Shinshu Buddhism.
62 / 70
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Today – Understanding the psychology of the new-Asia consumers, http://www.edb.gov.sg/future_ready/future_ready_
today.html (accessed 05 Spetember 2012)
The 21st Century Public Policy Institute, Asian Bond Markets
Development and Regional Financial Cooperation,
February 2011
Tokyo Club Foundation for Global Studies, Capital Markets in
Asia: Changing Roles of Economic Development,
edited by Donna Vandenbrink and Denis Hew, 2005
The World Bank, Estimation of Infrastructure Investment
Needs in the South Asia Region
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Credit Suisse
Investment Professionals Asia
66 / 70
Juan Manuel Mendoza, Head of
Equities Asia
Juan Manuel Mendoza, Director, started
his career in 1997 as an equity broker
in the Institutional Equity Division of
Salomon Smith Barney, Zurich and
New York. Thereafter, he worked at
Bank Julius Bar in Zurich. During
2006, he joined Credit Suisse (formerly
Clariden Leu) and has been the fund
manager of the Credit Suisse SICAV
(Lux) Equity Luxury Goods Fund
from 2008 onwards. He won three
Lipper Fund Awards in France,
Germany and Austria in 2011. Since
2011, Juan has been the co-manager
of the Credit Suisse SICAV (Lux) Equity
Asia Consumer.
Juan holds an MBA in Corporate
Finance from the Goizueta Business
School at Emory University in Atlanta
(US).
Isis Ma, Senior Equity Portfolio
Manager
Isis Ma, Vice President, joined Credit
Suisse (formerly Clariden Leu) in June
2010. Isis is an equity specialist in the
consumer, real estate and financial
sectors. Since joining Credit Suisse,
Isis has been the co-manager of the
Credit Suisse SICAV (Lux) Equity Asia
Consumer and the deputy manager
of the Credit Suisse SICAV (Lux) Equity
Luxury Goods Fund. Prior to that, Isis
worked in the investment banking
division at Macquarie International
Capital Markets in Hong Kong, as well
as in the Capital Markets division at
Jones Lang LaSalle MENA in Dubai.
Isis graduated from the Chinese
University of Hong Kong with a major
in accountancy. She is a Chartered
Accountant.
Alexandre Bouchardy, Head of
Fixed Income Asia
Alexandre Bouchardy, Director, manages
Global Fixed Income IG portfolios for
European and Swiss pension funds as
well as Asian Central Banks for which
he is responsible. From 2005 to 2012,
he was responsible for inflation-linked
solutions and won several Lipper Fund
Awards in various European countries.
Before joining Credit Suisse in 2002,
Alexandre worked for Pictet & Cie
Banquiers and JP Morgan in Geneva,
Switzerland, and Paris, France. Alexandre
has more than 12 years of investment
experience in fixed income.
He is a CFA charter-holder and holds
a Master in Economics from the
University of Lausanne (HEC),
Switzerland.
Adrian Chee, Head of Credit Asia
Adrian Chee, Director, manages
Emerging Market and Asian corporate
portfolios and funds. Before joining
Credit Suisse, Adrian worked for
Western Asset Management in Singapore, managing Asian hard and local
currency IG and non-IG corporates.
Prior, he worked for Standard & Poor’s
Infrastructure and Financial Services
Ratings unit as a credit analyst for
corporates and financial institutions in
South East Asia and South Asia.
Before, Adrian was risk manager at
Standard Chartered Bank, Singapore.
Adrian has more than 20 years of
investment experience in Asian fixedincome and credit markets.
He holds a Bachelor of Economics
from La Trobe University, Australia,
where he focused on banking and
finance.
Credit Suisse Investment Professionals Asia
Zhu Lei, Senior Fixed Income
Portfolio Manager
Zhu Lei, Vice President, manages
emerging market and Asian fixedincome portfolios and funds with a
focus on China CNH and CNY. Before
joining Credit Suisse, Lei worked for
DBS Bank in Singapore, managing
fixed-income portfolios of Asian
sovereigns and corporates, specializing
in Asian IG and high-yield issuers.
In particular, she used to manage CNH
bond investment portfolios and USD
global credit funds. Lei has more
than eight years of investment
experience in Asian fixed-income and
credit markets.
She is a CFA charter-holder and holds
a Master of Science in Business
Administration from the University of
British Columbia in Vancouver, Canada.
Warren Hastings, Head of MultiAsset Class Solutions Asia
Warren Hastings, Director, manages
Asia multi-asset class mandates with a
focus on equities. He started his career
in 1995 in London at Schroder Investment Management Ltd to become an
Asian equity portfolio manager. Warren
relocated to Singapore with Schroders
in 2006, where he concurrently joined
the regionally based Institutional Pacific
Ex-Japan Equity Team as an SE Asian
equity market specialist and also
managed the Schroder Pan-Asia Fund.
He departed Schroders in 2009 to join
Standard Chartered Bank as Head of
Portfolio Management. Warren has
more than 16 years of investment
management experience.
He holds a BA in Accountancy and
Finance and is a Chartered Financial
Analyst (CFA Institute).
Stuart Goh, Senior Fixed Income
Portfolio Manager
Stuart Goh, Director, manages global
multi-asset class mandates with a focus
on fixed-income and currency
strategies. He has over 15 years of
experience in investment banking and
asset management and looks back
on a 10-year career as an Investment
Manager for Asian fixed-income and
currencies products for Pacific Asset
Management. Besides his experience
as a PM, Stuart also worked as a
Senior Dealer for various institutions
for over four years.
Stuart holds a Bachelor of Science
(Economics) from the National
University of Singapore and is a
Chartered Financial Analyst (CFA
Institute).
Ong Seow Beng, Senior Portfolio
Manager
Ong Seow Beng, Director, manages
global multi-asset class mandates with
a focus on equities.
He has over 25 years of experience,
of which 20 years have been with the
Government of Singapore Investment
Corp., specializing in equities. At the
GIC, Seow Beng was Head of North
American Equities and the Global
Financial Sector. In addition, he also
managed Global Equity portfolios.
He was the CIO of Fortis Private Bank
from 2005 to 2007.
Seow Beng holds a master’s degree
from the University of Georgia (US),
a BA in Estate Management from the
National University of Singapore and is
a Chartered Financial Analyst (CFA
Institute).
Asia 67 / 70
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Asia 69 / 70
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