Matthews Asian Growth and Income Fund
Period ended December 31, 2019
For the year ending December 31, 2019, the Matthews Asian Growth and Income Fund returned 17.26% (Investor Class), while its benchmark, the MSCI All Country Asia ex Japan Index, returned 18.52%. For the fourth quarter of the year, the Fund returned 8.02% (Investor Class) versus 11.85% for the Index.
2018's concerns over tightening monetary policy and reducing U.S. dollar liquidity were swiftly reversed in 2019 as central banks committed to returning to an easing path as inflation remained elusive and growth was patchy. Asian equities were volatile through the first nine months of the year, however, as this central bank largesse was offset by the U.S.–China trade war. Tensions stopped escalating in the fourth quarter as a “phase one” trade deal was agreed upon in principal and appears likely to be signed in January 2020. This created a significantly more constructive environment for risk assets, leading to strong performance for Asia in the fourth quarter and for the full year.
The North Asian markets of Taiwan and China were particularly strong. Taiwan benefited from a major rally in information technology stocks, while China saw relief from easing trade tensions. Elsewhere, India struggled to keep pace with the rest of the region as GDP growth came in weaker than expected and Southeast Asia lagged.
Performance Contributors and Detractors:
Although the portfolio marginally underperformed its benchmark for the full year, absolute performance was robust. We view this as a solid outcome given the Strategy's more conservative investment approach.
The largest contributors to performance for both the quarter and the year came from the information technology sector, although an underweight here also caused it to be a drag on the portfolio's relative performance. Taiwan Semiconductor Manufacturing gained significantly as it solidified its position as the outright leader in leading-edge technology. Growth is expected to return to double-digit levels as silicon content demand should remain strong due to the major secular trends of 5G and high-performance computing. Shares of fellow chipmaker Samsung Electronics also rose as earnings are expected to improve in 2020 with memory prices bouncing back and 5G phone shipments increasing. Further, the company has been enhancing its corporate governance with much-improved dividends.
Similarly, the consumer discretionary sector helped absolute performance but was mildly negative for relative performance over both time periods. Appliance companies Midea Group and Zhejiang Supor in China's A-share market delivered strong performance as stock prices moved up alongside impressive fundamentals. The former gained on rising market share and strong operational efficiency, while the latter continued to deliver double-digit sales growth through online sales and an increased product offering. Additionally, the financial sector contributed to returns, with AIA Group notably strong. Shares of the company gained over the year despite protests in Hong Kong weighing on the near-term value of new business growth. The market appeared to be looking through this and toward AIA's continued growth in a liberalized Chinese insurance market, particularly given its new CEO and his experience in China.
The portfolio suffered a relative performance drag through the year from a decision not to invest in major benchmark constituent Alibaba, which gained rapidly. Although the decision impacted near-term relative performance, we remain far more focused on the Fund's absolute risk adjusted returns over the medium term. More notably, detractors to performance came largely from Hong Kong. Industrial conglomerate Jardine Matheson was the largest of these, dropping as earnings disappointed with subsidiaries such as Mandarin Oriental, Dairy Farm and Astra sputtering on weak consumer sentiment. Shares of Pacific Textiles also declined as a warm winter led to poor orders from a major customer, causing sales and earnings to contract. Within the financial sector, Thailand's leading small and medium-sized enterprise-focused lender Kasikornbank struggled with poor earnings as most major metrics such as margins, loans and fee income disappointed.
Notable Portfolio Changes:
After what was a reasonably active year for the portfolio, including increasing our weighting within China and India, the fourth quarter saw significantly fewer changes and no new additions. We did decide to exit three holdings, however, including two convertible bonds.
One of these was our holding in Chinese social network site Weibo. The bond gained from spread tightening after issuing U.S. dollar notes that garnered it a rating from the major credit-rating agencies. This left little room for additional upside. We exited fellow convertible bond China Overseas Land & Investment to fund higher-conviction ideas. Within equities, we exited Indian tower company Bharti Infratel. Although we like the business model, the Indian telecom market's weak operators may weigh on tenancy ratios—a key driver of profitability. Despite the stock's attractive 6% dividend yield, we believe growth may remain elusive and that there are superior holdings available for the portfolio.
The backdrop for Asian equities appears reasonable as we look to 2020. Although there are differing political and economic ideologies between the U.S. and China, the recent trade deal is an important step to, at a minimum, pause the proposed dismantling of global supply chains that has been mooted for the past two years. Further, monetary policy is unlikely to create a headwind for asset values as recent behavior suggests that the central bank put is still very much in place. Fiscal policy is also a potential support as stimulus measures remain possibilities in countries such as China. Added to this is a returning growth gap between emerging and developed markets. These factors may help limit U.S. dollar strength.
If these are reasons to be constructive, one should also be cognizant of forces that are prospective volatility generators. U.S. elections, rising geopolitical tensions in the Middle East, high debt levels, the sheer length of the economic expansion and relatively high valuations all pose threats. For Asian equities, the market is currently trading at a relatively rich 14.1x P/E. High-growth companies are at even loftier valuations, suggesting that the rebound in EPS growth to around 14% that is expected this year is largely priced in.
Against this backdrop, it remains the Strategy's central case that volatility may remain elevated and returns less spectacular than in prior periods unless there is further valuation multiple expansion. We view this as somewhat favorable for investors such as ourselves. A focus on owning quality companies that are trading at attractive valuations and can deliver a balance of both growth and income should be well-placed to deliver for our clients over the medium term.
As of 12/31/2019, the securities mentioned comprised the Matthews Asian Growth and Income Fund in the following percentages: Taiwan Semiconductor Manufacturing Co., Ltd. 4.6%; Samsung Electronics Co., Ltd. 2.8%; Midea Group Co., Ltd. 1.7%; Zhejiang Supor Co., Ltd. 1.4%; AIA Group, Ltd. 3.6%; Jardine Matheson Holdings, Ltd. 1.3%; Pacific Textiles Holdings, Ltd. 1.2%; Kasikornbank Public Co., Ltd. 1.2%. The Fund held no positions in Alibaba Group Holding, Ltd.; Weibo Corp.; China Overseas Land & Investment, Ltd.; Bharti Infratel, Ltd. There are no guarantees that any company will increase or continue to pay a dividend. Current and future portfolio holdings are subject to change and risk.
Visit our Glossary of Terms
page for definitions and additional information.
The views and opinions in this commentary were as of the report date, subject to change and may not reflect current views. They are not guarantees of performance or investment results and should not be taken as investment advice. Investment decisions reflect a variety of factors, and the managers reserve the right to change their views about individual stocks, sectors, and the markets at any time. As a result, the views expressed should not be relied upon as a forecast of the Fund's future investment intent. It should not be assumed that any investment will be profitable or will equal the performance of any securities or any sectors mentioned herein. The information does not constitute a recommendation to buy or sell any securities mentioned.
The information contained herein has been derived from sources believed to be reliable and accurate at the time of compilation, but no representation or warranty (express or implied) is made as to the accuracy or completeness of any of this information. Neither the funds nor the Investment Advisor accept any liability for losses either direct or consequential caused by the use of this information.