A new investment cycle in Thailand begins...
Newton Asia-Pacific equities
September 2010
Over the year to date, Thailand has been one of the best performing markets in the Asian region, despite the political uncertainty that has recently plagued the country. Reflecting on this achievement, we believe that the Thai market could be following Indonesia in embarking on a new post-Asian crisis private investment cycle. As ASEAN1 economies slowly gain competitiveness from China, we could potentially see a broadening of the investment cycle across the region, which would be extremely positive for the ASEAN markets. We believe that we are, possibly, in a positive self-reinforcing cycle, whereby better economic growth reduces political tensions, further allowing much-needed privateinvestment to increase. We would, therefore, recommend adding selective exposure to the Thai market, as a non-correlated complement to exposure elsewhere in the world.
In light of recent events, political unrest and violence may be some of the first images that spring to mind in relation to Thailand. However, history shows that the market does have the ability to concentrate on underlying economics rather than politics when an economy demonstrates favorable trends. Indeed, amid Thailand's political turbulence, strong export growth served to offset losses from falling tourist levels, and manufacturing and industrial production exceeded consensus forecasts during June. Hence we believe that the unresolved political situation will not necessarily hamper the return of domestic confidence, or stop companies from increasing their borrowing and spending activities; as the political backdrop improves, confidence in the economy should strengthen in tandem.
Despite the current ambiguity of the political situation, there are signs of improvement. The protests this year of the 'Red Shirts', supporters of the exiled former prime minister Thaksin Shinawatra, against the current Democratic Party government, caused much domestic disruption and attracted global media attention. Thaksin, who was in power from 2001 to 2006, did much to alleviate rural poverty in the country, but his government was beset by allegations of corruption, and Thaksin was eventually deposed by a military coup. Although a state of emergency still exists in Bangkok as well as in ten other provinces, the closure of access to financial accounts which had been used to incentivise workers to join the protests should serve to diminish the disruptiveness of activity. Against this backdrop, the Democratic Party is considering calling an election as early as 2011, and could conceivably form a government without the need for smaller parties, which are currently stalling progress and suffocating economic development.
We are positive that the strengthening economic situation will further support political reconciliation. Chart 2 shows the significant improvement in Thailand's terms of trade since 2003, driven largely by the rise in agricultural prices. This trend has led to a significant increase in the wealth levels of the rural population compared with Bangkok, which, over time, should mitigate both economic and political tensions.
Thailand's investment-to-GDP ratio has remained subdued since the 1997 Asian financial crisis, recovering only timidly from its lows in 1999 and 2000 (see Chart 3). Thus economic growth has remained at 3-4% below the long-term potential of the economy. Hence it is interesting to see Indonesia, which experienced similar problems in the Asian crisis, demonstrate a sharp increase in its investment-to-GDP ratio over the last two years. It is quite possible, although by no means certain, that we could be entering a prolonged period of higher growth for both Thailand and the ASEAN region as private investment returns.
As wages in China increase, the relative attractiveness of south-east Asia as an outsourcing centre has improved, catching the eye of companies. Thailand can reasonably expect to be a beneficiary of this trend, alongside Indonesia. Indeed, several automobile companies have recently announced their intentions to build factories in Thailand.
Thai banks are well-positioned to take advantage of these new economic and industrial opportunities, particularly in light of the government's ongoing infrastructure development.Countrywide, development spending of approximately US$64 billion has been pledged. Furthermore, we are finally witnessing earnings upgrades supported by margin expansion and further loan growth, after a long period of underestimation of banks' earnings by analysts. It is notable that for the last decade, loan growth has not surpassed GDP growth within the banking sector. Now that the government is forecasting GDP growth of 7.5% (the highest since 1995), we believe loan growth could potentially grow at near double this rate. As the banks are, on the whole, already highly capitalised, there should be sufficient funds for such expansion.
Clearly there are risks in this picture. In terms of political risks, the indifferent health of King Bhumibol of Thailand has brought succession issues to the fore in recent months. While there is potential in these events for national political consolidation, uncertainty could rock the market.
The Thai market is not as attractively valued as it has been in the past, although it is still trading at a discount to Asian markets, on a price to equity ratio of 12.8 for 2010 and 11.0 for 2011 (see Chart 4).
If GDP growth remains strong and exports continue to increase, consumer confidence should build gradually, leading to an investment cycle, especially in automobiles and electronics. Both the Thailand industrial capacity utilization index (a production indicator of the manufacturing sector which compares production level with full capacity level) and incomes have risen, and Thailand is one of the fastest growing Asian economies. Although a full recovery following the financial crisis of 2007 would probably take a further 12 months, we believe that the Thai market has the potential to rise and outperform the rest of the region.
EXPLANATION OF INDICES
Charts 1 and 4: MSCI Country Indices. To construct a country index, every listed security in the market is identified. Securities are free float adjusted, classified in accordance with the Global Industry Classification Standard (GICS®), and screened by size, liquidity and minimum free float. (source: MSCI)
Chart 2: Internal terms of trade. Two series derive the internal terms of trade. We use supply side GDP data.
1) Agriculture GDP (nominal) divided by agriculture GDP real provides the deflator index.
2) For the rest of the economy it is (nominal GDP-agriculture GDP)/(real GDP-real agriculture GDP).
The series is rebased to a common data and then divide 1)/2) and multiply by 100. This gives the relative price movement between agriculture and the non-agriculture sectors.(source: Mirae Asset Research)
Chart 5: Capacity Utilization Index. Capacity utilization is a production indicator of the manufacturing sector which compares production level with full capacity level. The index represents Total Capacity Utilization. The index is subject to a 1-month time lag. Data for at least last 2 years can be adjusted when the central bank obtains numbers from more contributors (source: Bloomberg).
1 The Association of South-East Asian Nations: Indonesia, Malaysia, the Philippines, Singapore, Thailand, Brunei, Burma (Myanmar), Cambodia, Laos, Vietnam
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