Emerging market funds build up record exposure to Vietnam
A record one-in-five emerging market equity managers now own stocks in Vietnam, even though the south-east Asian country is not even in the widely followed MSCI index.
Fund managers are typically wary of straying far from the weightings of the underlying index they track, limiting appetite for going off piste into non-index countries.
However, 19.7 per cent of EM equity funds now hold Vietnamese stocks, triple the level of early 2014, according to data from Copley Fund Research, which monitors 193 funds with combined assets of $350bn.
The buying spree is the latest sign of foreign enthusiasm for Vietnam, which has arguably been the biggest winner from the US-China trade war, with a flurry of companies relocating to it to escape the ever-deepening trade tariffs.
The country’s trade surplus with the US has risen so rapidly that President Donald Trump has labelled Hanoi as “almost the single worst abuser of everyone” in global trade, “tak[ing] advantage of us even worse than China”.
“From an investor perspective, the one beneficiary of the US-China tensions is Vietnam,” said Steven Holden, chief executive of Copley Fund Research.
Roddy Snell, manager of the Baillie Gifford Pacific Fund, which has an 11.3 per cent weighting to Vietnam, said it was “the best structural growth story of any country in Asia-ex Japan, maybe in emerging markets”.
“It has young demographics, a great location, a cheap workforce — probably half what you pay in China, if not less — and, chiefly, strong single-party rule that can get things done. That has come together to make Vietnam a great export manufacturing base.”
Jorry Noeddekaer, lead fund manager in the global emerging markets and Asia team at Polar Capital, whose EM Stars fund has a 4.2 per cent exposure to Vietnam, said the structural story was “compelling”, with a young, well educated, populace providing “a strong human capital base compared to many other early stage emerging market or frontier economies, high female participation in the labour force, vast resources and relatively good infrastructure. It is clearly open for business”.
This macroeconomic backdrop has steadily drawn ever more fund managers to Vietnam since 2011, with the country now accounting for 0.26 per cent of the average global emerging market fund, according to the Copley data, as seen in the first chart.
Although this might not sound like a huge weighting, it is unusual for EM portfolio managers, in aggregate, to have positions of this size in an emerging or frontier country that is not in the flagship 26-country MSCI index.
Many emerging market funds have long held multinationals with significant EM exposure that are listed on developed stock markets (which are obviously not in the MSCI index, either) such as Unilever, HSBC, Nestlé and Samsonite. However, Vietnam is the largest non-developed market holding, ahead of the likes of Nigeria, Kenya, Romania and Kuwait, which is scheduled to join the MSCI benchmark in May 2020, as illustrated in the second chart.
EM funds’ exposure to Vietnam is also two-and-a-half times that of Saudi Arabia, and above that of the Czech Republic and Pakistan, all of which are in the index.
Vietnam’s unique selling point appears to be its success in attracting large-scale foreign manufacturers, a trend that appears to have accelerated in the wake of the trade tariffs Washington has imposed on China, helping Hanoi build up the fifth-largest bilateral trade surplus with the US, behind only China, Mexico, Japan and Germany.
“Most emerging markets throughout history haven’t emerged. Those that have — Korea, Taiwan, China — have developed a strong export manufacturing base, otherwise you are reliant on volatile commodities,” said Mr Snell.
“Vietnam is the only country that has got that structural export manufacturing base. Most of EM is in a manufacturing recession at the moment. Vietnam is booming. That becomes a self-fulfilling prophecy,” he added, with the growing webs of infrastructure and suppliers luring more companies and deterring those already on board from considering relocating elsewhere.
“We think that makes it a great story for the next 10, 20, 30 years,” Mr Snell added, with Vietnam being in pole position to grab a decent slice of the $2tn of low to mid-end manufacturing he expects China to slew off in the next 20 years or so.
While beneficial for the Vietnamese economy, luring foreign direct investment from multinationals to its shores does not, though, of itself, lead to obvious stock investments within Vietnam.
Of the Baillie Gifford fund’s 11 holdings in the country, only one is an exporter, Vinh Hoan, the world’s largest producer of pangasius, a genus of catfish.
Instead, fund managers are tapping into the domestic stocks and sectors they believe will benefit from the strong consumer spending, investment and economic growth the export boom may bring.
Mr Noeddekaer favours the likes of shopping centre operator Vincom Retail, other property companies such as Vinhomes and Kinh Bac City Development, and financial stocks like Vietnam Technological and Commercial Bank.
Mr Snell is also keen on financials, such as Military Bank, VPBank and HDBank. “Vietnam has a fairly underpenetrated banking system. Loans to GDP are not that high, especially consumer loans, so we think there is a great opportunity there,” he said.
His other holdings include Vingroup, the largest property developer in the country, which he says is replicating the Korean chaebol model by moving to supermarkets and automobiles, and Hoa Phat, the dominant steel company, which is “a play on infrastructure and property”.
Mr Snell says Vietnam has “great companies trading on cheap valuations: for the same growth rates, maybe a 40-50 per cent discount versus the rest of Asia”. Moreover, he argues the low liquidity that once bedevilled the Ho Chi Minh City exchange is no longer a major concern, with turnover now about $300m a day.
Some hurdles remain, however, such as the foreign ownership limits on individual stocks that are the main reason Vietnam has so far failed to gain entry to the MSCI index.
These limits mean that foreign investors often have to pay a premium over and above the price listed on the exchange to access the pool of shares available to foreign investors. Although a foreign buyer might expect to ultimately recoup this premium when it sells, the downside is that an international fund has to take an immediate hit to its net asset value upon buying, as the stock will be marked to market at the price quoted on the exchange.
“That is one of the key reasons we don’t have more invested in the country,” Mr Snell said. “We would like to buy Mobile World [which claims to be the country’s leading retailer by revenues and net earnings] but it’s at a 30 per cent premium at the moment. On day one you are taking a hit to your NAV.”
An emerging risk is that Vietnam’s widening trade surplus with the US ultimately leads to the imposition of US tariffs. In July, the US commerce department slapped duties of more than 400 per cent on steel imports from Vietnam after accusing some companies of shipping steel from South Korea and Taiwan for minor processing, before re-exporting it to the US, in order to evade tariffs.
Hanoi has vowed to crack down on companies that were importing goods from China, then removing or replacing the packaging on goods to describe them as “Made in Vietnam”.
Vietnam has also pledged to import more US goods, including coal, natural gas, meat, fruit and other agricultural products, in order to placate Washington over the ballooning trade surplus and damp down perceptions that it is profiting unfairly from the US-China trade war.
“Mr Trump can be unpredictable. I don’t think any country is immune from being impacted but I think it’s unlikely they would target Vietnam in any serious manner,” said Mr Snell. “It’s fairly small, nowhere near the size of China,” he added, while the US has next to no chance of attracting the low-end manufacturing Vietnam specialises in, even if it did hit the country with tariffs, given America’s high wage levels.
Mr Holden is also upbeat about Vietnam’s fortunes, given scope for it to eventually be added to the MSCI benchmark.
“Although Vietnam remains in the MSCI Frontier Markets Index, there is the possibility that it will be added to the MSCI watchlist for an upgrade to emerging markets status at some point. Expect allocations to rise still further should this happen,” he said.