Going against the tide

Minister’s speech: Finance Minister Lim Guan Eng giving his speech during the opening of Value Partners Group Ltd’s Malaysian office.

Cheah: Malaysian market should have 40%-60% free float

AGAINST a backdrop of a Sino-US trade war, plunging global equity markets and a higher interest rate regime in the US, Hong Kong-based Value Partners Group Ltd is opening shop in Malaysia.

Its co-founder and chairman Datuk Seri Cheah Cheng Hye, also known as the Warren Buffett of the East, feels there isn’t a better time to open its doors for business.

“We are opening the office at a time when things can only get better in Malaysia. After decades of sliding, Malaysia can only go up and we want to be part of that growth story,” Cheah said on Monday after receiving the approval in principle from the Securities Commission for a Capital Market Services Licence for Fund Management.

He intends to make a success of Value Partners Asset Management Malaysia Sdn Bhd, and for now, would look to raise between US$150mil and US$200mil over the next three to five years.

The Malaysian office will be the South-East Asian hub and serve Value Partner’s new markets such as Indonesia, Brunei and Vietnam.

On the product front, the Malaysian office will house Value Partners’ South-East Asia-focused Quantitative Investment Solutions, initiatives such as exchange-traded funds (ETFs) and syariah-compliant funds.

“Globally, Malaysia will be our syariah hub. As you know, Value Partners is strong in China. We hope to eventually sell our syariah products to the Muslim population in China. The Malaysian office will be our investment, manufacturing and distribution hub for South-East Asia.” said Value Partners’ South-East Asia Business managing director Michael William Greenall.

“By next month, we will have five people, including myself. We are looking to double that by the end of next year. That’s the gameplan for now. If we receive more funds from the fund managers or the local GLICs, then we may have to hire more people,” said Greenall.

Only way is up: Cheah says Value Partners Group is opening office at a time when things can only get better in Malaysia.
Only way is up: Cheah says Value Partners Group is opening office at a time when things can only get better in Malaysia.

Value Partners was co-founded in 1993 by Malaysian-born Cheah. It has since grown to become one of the largest independent asset managers in Asia. Besides Hong Kong and Kuala Lumpur, it operates in Shanghai, Shenzhen, Singapore and London. It has assets under management of US$16.6bil as of Aug 31.

Below are excerpts of an interview with Cheah during the press conference after the event.

What is your target allocation for Malaysia in your portfolio?

For the moment, our allocation in Malaysia is very small. In the MSCI Emerging Markets index, Malaysia only occupies less than 3% of the index. In the 1990s, it was some 20%. Malaysia has really shrunk. As an international fund manager that is active, we are not really in a position to go beyond this benchmark – beyond 3%.

So, why are we setting up office here? A large part of our offering is going to be products that we are very strong in. We are a world-class performer in funds related to investing in China. That is one part of the menu.

The second part of the menu is Made in Malaysia for Malaysians.

That part is very much Malaysian assets – fixed income and equities. Part of the logic why we are here is we bring in local manufacturing but we have 25 years experience in Hong Kong. So we can offer that sort of experience here, which will allow us to offer better quality products.

Market rout: Pedestrians stand in front of a stock display board that shows the Hang Seng Index at 25152.97, down 3.97 in Hong Kong on Thursday. Asian markets plunged Thursday morning following the worst session on Wall Street for months, as US President Donald Trump said the Federal Reserve had ‘gone crazy’ with plans for higher interest rates. — AFP
Market rout: Pedestrians stand in front of a stock display board that shows the Hang Seng Index at 25152.97, down 3.97 in Hong Kong on Thursday. Asian markets plunged Thursday morning following the worst session on Wall Street for months, as US President Donald Trump said the Federal Reserve had ‘gone crazy’ with plans for higher interest rates. — AFP

The third and very important part will be sukuk products – Islamic compliant asset management products where Malaysia really is a world-class centre. That part is going to be very important. We are going to marry world class investment technology with offerings suited to the Islamic menu. So we have a three-part menu we are going to offer.

How much funds are you looking to raise here?

If we don’t have the ability to raise at least US$150mil-US$200mil of assets under management (AUM) in Malaysia over the next three to five years, then it may not be so easy to justify why we are here.

In the meantime, the free float of Malaysia is one of the lowest in Asia – 30%-35%. It is not easy to put money to work here. So much of the stocks is held by a number of government-related institutions, such as Khazanah Nasional Bhd, the Employees Provident Fund (EPF), Permodalan Nasional Bhd (PNB), Retirement Fund Inc (KWAP) and The Armed Forces Fund Board (LTAT).

These guys have bought a lot of Malaysian stocks and they are frozen in their portfolios. Its not available for purchase anymore. This is one of the structural problems in the Malaysian equity markets that we can identify.

On the structural problem you mentioned – the low free float, what is your suggestion to overcome this problem?

The problem is very simple. This started when the New Economic Policy (NEP) was introduced after the riots of 1969. This affirmative policy requires that more emphasis be given to bumiputras for stake ownerships.

The result of this has been that government-linked corporations such as PNB, accumulate shares on behalf of bumis. This has shrunk the size of the free market for investors.

Thus now Malaysia only has a weightage of 3% in the MSCI EE Index which is a very important benchmark for international investors like us.

This means that Malaysia is almost off the radar of investors. Going forward, if we want to reactivate capital markets here, we have to think of ways to increase the free float and liquidity of Bursa Malaysia. Today, Bursa’s average daily turnover is just US$600mil per day. This is very unsatisfactory for investors. In comparison, the average daily turnover of the HKSE is 25 times larger than the Malaysian market. So what HK trades in one day, will take Malaysia 25 days to achieve. We have a big mountain to climb. There is no magic solutions.

Some ideas would be to do what HK did in 1998 – the Tracker Fund. the First ETF – very successfully. This boosted the liquidity of the Hong Kong market and allowed investors to instantly own a basket of HK shares.

The other way is for the GLCs to sell down their holdings. Everytime I come to Malaysia I feel there is a certain crowding out effect for the private sector. The government is too active, too involved, too big in activities that are best left to a free market to operate.

Another example is that the civil service in Malaysia is one of the highest proportions in the world. Too many people are on the public payroll at a time when the national debt is around RM1 trillion.

We come to a point where the NEP is not necessarily benefitting the most deserving bumiputras who are disadvantaged or in the lower income sector. So we probably have to review the whole situation carefully, to achieve a more stable, harmonious and equitable society in a multi-racial country.

We want all communities to have a sustainable fairness in terms of income distribution. So it’s quite a struggle.

What sort of free float would be suitable for a market like Malaysia to attract more investors?

A market like Malaysia ought to have a minimum float of 40% to 60% free float to make it interesting. These are achieveable targets.

Free float wise, Malaysia is now the worst in Asean. This also means that the Malaysian market PE of 18x is not nescesarily the result of free market operations but is a result of the government institutions being constant buyers whether the market is good or bad.

I am more of a free market guy so i would like to see more free market activities.

Its also not nescessarily good for the country’s institutional and social money to be so focused on the domestic market at a time when the world is changing so fast. I would prefer to see a greater diversifation.

What are some of the other major negatives you see about the Malaysian stock market?

With specific regard to Bursa Malaysia, there are a few factors. For one, it is not a cheap market. 18x PE for 2018 and 16.1 for 2019 on a projection basis. This is one of the more expensive markets in Asia right now. It is not easy to justify why I should put more money in this market. On the other hand, I am not seeing any reason why we should also forecast a major decline in the market either. Everytime the market declines, there are these big brothers ready to buy on an almost daily or monthly basis. I am referring to EPF, PNB, Khazanah, KWAP and LTAT that are a major support.

So the market is not really being allowed to clear in a normal sense of a free market. There are almost mandatory buyers out there. However there are also not enough bullish factors for outside investors to say “Thats a real bargain” and jump in to buy. So, if you accept that these factors are roughly correct, then we actually have abit of a stable situation, not very exciting.

The other factor of Malaysia which is quite irritating is that it is still an old economy market. I am not seeing the kind of portfolio listings here that are innovative such as technology, mediciine, tourism, education, there is not enough of that kind of listings here in Malaysia. That will inspire younger and more adventourous fund managers to say Wow and put money here.

We are still predominantly in plantation, real estate and some oil and gas. We have to do something about this. We need more new economy listings.

Considering all the negatives you mentioned, then what is the attractiveness of Malaysian stocks? What made you set up office here?

For Value Partners, our corporate ambition is we want to be a world class asset management house. So a lot of focus is on China because we think the China story is going to get stronger and stronger. We believe China remains on track to become the world’s largest economy probably over the next 10 years. For Malaysia though, I don’t want to underestimate its attractiveness.

So far I have been talking about some of its negatives because I think there is no point talking about its achievements. You want to improve, focus on your problems, then you will be motivated to do a better job. But Malaysia has its own share of positive factors, which includes its connectivity not just in Asean, but also to the Middle East.

I think it remains one of the most advanced countries in the Asean region. Its number of educated people, its brains and now we have a very proactive government that is trying its best to transform the country and bring it to a higher level.

I think Malaysia has reached a point where it can only go up from here. How are supposed to go down further from where we are? You don’t tell me you are going to completely disappear from the MSCI Index altogether? Its already 3%, how much lower can it go. My thinking is that I am coming here at a good time when there has been decades of sliding, so maybe from here on, we can only go up, and I want to be part of that story.

I was born in Penang and grew up in Malaysia. So culturally, emotionally and character-wise, I consider myself to be Malaysian. So I have a strong emotional and sentimental reason, now that my company is big and successful in Hong Kong, I would want to return to the country that I was born. And I do intend to make it succeed here.

Whither China

There has been much negative news coming out from China, particularly in its trade war with the US. The Chinese stock market has also been one of the worst performers of the world. What is your call on China?

What happened in China is a mini crash, not a major crash. It is now trading at an average PE of 11.5 times which is quite abit below its historical average. Chinese stocks now have become quite cheap.

The Chinese government is announcing various measures, for example they announced a cut in the reserve requirement ratio for banks, and this will release more liquidity to the economy. Oveall though, one of the things you learn as a professional investor is this - don’t overreact to headline news. All these (recent news) are headline news that are occupying people’s attention. It is true that the underlying reality is not great, but its still quite ok.

For example even if the US government were to proceed to impose a levy on all shipments of Chinese products to the US, the impact on chinese GDP growth is just one percentage point. This still means that next year, the Chinese economy can still grow by roughly 5% to 6%. This year it is growing at roughly 6.5%. Thus we still have an economy that is growing at moderately high speed.

Under President Xi Jinping, the economy is moving very quickly to make the country much more self reliant, rather than depending on exports from other countries. The main driver of the Chinese economy today is domestic consumption and fixed asset investments within their own country.

Things have slowed down somewhat, but its still in the growth territoru. The Chinese government will engage in stimulus measures that will try to sustain this kind of growth.

I am seeing a setback in China, but not one that will make me lose too much sleep at night. Also, although debts in China are quite high, most of the debt is concentrated in the state owned enterprise and is financed domestically by domestic savings. So, Chinese owing money to Chinese within China, thats not so dangerous. If you owe money to foreigners, then that can be dangerous.

The overall picture I have is that I am still bullish on Chinese investment opportunities over the medium term. In th short term, I am cautious but I haven’t stopped investing.

I am actually quite worried of the American market which has been outperforming the rest of the world and now the S&P 500 is at the level where it is 40% above its historical level. That is a little bit harder to justify. Irrespective of the positive growth. So I would probably be an “installment plan buyer” of China, and a seller of US stocks right now.

I really hope the Sino-US trade war will not deteriorate into a Cold War situation, then that will start to make countries such as Malaysia, to take sides. It will not be very pleasant because we won’t know which side to join. Hopefully it doesn’t come to that.

You mentioned you are a net seller of US stocks. Do you foresee a crash or a correction happening, taking into account the strong US economy?

The stockmarket is a discounting mechanism. It is not interested in what has happened and what is happening now. It tries to look at the future and discount the future. When I was much younger, someone once told me that the stockmarket is a mirror of society. It moves as a response to expectations of the future.

So if they think expectation is good, prices will go up, if not, prices will go down. So I see the stock market having to discount a potential US recession, a huge increase in interest rates, (10-year treasuries are now trading at 3.2% and it won’t be surprising if it passes 4% by next year).

We are also seeing many stocks in America priced to perfection, which in the real world will not happen. So, we are also seeing some indicators of US economy operating at a full production capacity frontier. That means all the available resources and capacity are being put to good use.

This is usually followed by a period of inflation that will then force interest rates to go up. So if you accept this line of thinking, then you really shouldn’t be buying US stocks.

There is no need to panic or overreact, I am not forecasting any kind of crash, I am just saying that maybe the best has already happened. And the stockmarket guy usually wants to go to a place where the best hasn’t happened yet.

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