Vietnam: the new China

By Leonora Walters, 15 November 2010

The Interview

"Vietnam is poised to catch up with the rest of the region when foreign investors spot how cheap the market is and look at the shares on a fundamental basis," says Kevin Snowball, fund manager of the PXP Vietnam Fund, a London-listed investment trust.

"The index is set to rise because we think it is at the beginning of its next run, driven by a structural change in the investor base – foreigners will take the lead. Vietnam selectively presents investors with perhaps the most compelling value proposition in emerging Asia."

Mr Snowball says there has been a recent increase in the market's daily turnover driven by foreign investors, who could boost both the market and the country’s currency. "We think the index could get to 1000 in two years (in early November it was around 450) and we are fully invested," he says.

Despite the cheapness of the market (in early November, Vietnam was on a price-earnings ratio of 10.6x compared to 13.5x for MSCI Asia) Vietnamese companies seem to be in good health. In 2009, they enjoyed one of the highest rates of operating earnings and revenue growth in emerging Asia, argues Mr Snowball, while net earnings increased an impressive 90 per cent.

The underlying fundamentals for the country are also strong. Mr Snowball likens Vietnam to China, "but around 15 years behind." He says exports are in Vietnam's favour because it makes much of what China does and like China, is effectively pegged to the weak US dollar, placing it at an advantage against some other Asian countries. Labour costs are also much cheaper than in China. The average monthly wage is $101 in contrast to $244 in China.

"Vietnam has a strong exporting and domestic economy," adds Mr Snowball. "In 2008 14 per cent of the population lived below the poverty line in contrast to more than half the population a few years earlier."

Market opportunities

The market is not badly diversified in terms of sectors, according to Mr Snowball, of which the biggest is financials, while consumer discretionary, staples and industrials are also examples. There are nearly 600 companies listed on two exchanges in Vietnam, in contrast to 22 eight years ago when Mr Snowball set up PXP Vietnam Asset Management.

However, as with a number of emerging and developing markets, not all of Vietnam's strong economic fundamentals are reflected in its stock markets. Its main export, for example, is garments but this is not well represented. "The best way to play GDP is by investing in bank stocks," says Mr Snowball. "Exporters are not well represented but you can access in them other ways, for example by investing in logistics companies and ports."

Rubber is one of Vietnam's many abundant natural resources and a number of producers are listed. Mr Snowball favours these because their valuations are very cheap – an important consideration for the inclusion of a stock in the fund. Top ten holdings include Dong Phu Rubber, 4.2 per cent of assets at the end of July.

However, Mr Snowball asserts that he and his team are bottom-up stock pickers and their collection of chosen stocks drives the eventual asset allocation. "We are very underweight financials because we do not hold insurers or state-owned banks, and we are very overweight the stocks we do like," he says. "We run a very narrowly focused portfolio with high-conviction holdings."

Mr Snowball believes that stock selection and idea generation are very important because stocks which have generated above average operating earnings growth out performed the overall market by an average 26 per cent, while the remainder underperformed by 17 per cent. Mr Snowball and his investment team look for attributes including strengthening competitive relevance in a company’s sector such as market share gains, rising returns on capital and free cash flow profiles, reasonable levels of debt, sustainable earnings and cash flow growth, and management quality.

Risks

As with other frontier markets, potential rewards do not come without their due levels of risk. "Risks are as extreme as they get, because Vietnam is a frontier market," says Mr Snowball. His main concerns include high inflation, a weak currency and Vietnam's trade deficit. But he is thinks that even these issues are improving, and says the trade deficit is down to the country's heavy imports of capital goods. "The biggest single inward investment is machinery - Vietnam's imports largely relate to its industrialisation."

Inflation, he argues, is under control. Policy action is addressing the problem while the central bank is starting to gain more independence. Part of the reason for high inflation in Vietnam is because the composition basket for calculating the inflation rate is particularly focused on food.

Mr Snowball says corporate governance is "mixed". "This is an area we focus on via our stock selection approach. We look at how a company treats minority shareholders," he says. "We can compensate for the lack of legal enforcement by familiarity with the company, and if we see certain 'errors' we won't own it. We know what they should be doing, and if they stop we won't invest in them."

However, he says that some companies also have excellent corporate governance, for example, Vinamilk. This dairy producer is the fund's largest holding, accounting for nearly 17 per cent of assets.

Company visits are an important part of PXP's research process. So far this year, it has visited more than 60 and saw around 100 companies last year.

"We build up a profile of a company via their twice yearly earnings releases and then spend as much time as possible digging deeper," says Mr Snowball. "It can be hard to get access beyond the most popular companies but we do quite well because we have been around for a relatively long time. If my analysts can't get in then I will go and meet their chief executive officer. Vietnam is a hierarchical society."

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