An IFA Magazine Supplement - produced in association with Fidelity International

IFA Magazine2 October 2017

A turning point is approaching - Michael Wi lson, Editor- in-Chief, I FA Magazine

What’s consuming Asia? - Teera Chanpongsang, Portfol io Manager, F idel i ty Asia Fund

Investing in innovation - Dhananjay Phadnis , Portfol io Manager, F idel i ty Emerging Asia Fund

Dividends - the next chapter - Jochen Breuer, Portfol io Manager, F idel i ty Asian Div idend Fund

China uncovered - Gary Monaghan, Investment Director, Asian Equit ies

Contents

This supplement is for Investment Professionals only, and should not be rel ied upon by private investors. The value of investments and the income from them can go down as well as up and cl ients may get back less than they invest. Investments should be made on the basis of the current prospectus, which is available along with the Key Investor Information Document, current annual and semi-annual reports free of charge on request by call ing 0800 368 1732. Investments in emerging markets can be more volati le than other, more developed, markets. A lack of l iquidity in these markets may make investments more diff icult to trade and can affect their price. In some emerging markets, custody may not meet recognised international standards. Changes in currency exchange rates may affect the value of an investment in overseas markets. The Fidel ity Asian Dividend Fund can use financial derivative instruments for investment purposes, which may expose the fund to a higher degree of r isk and can cause investments to experience larger than average price fluctuations. The fund takes its annual management charge and expenses from your capital and not from the income generated by the fund. This means that any capital growth in the fund wil l be reduced by the charge. Capital may reduce over t ime if the fund’s growth does not compensate for it. Fidel ity only gives information on products and services and does not give investment advice to retai l cl ients based on individual circumstances. Any comments or statements made are not necessari ly those of Fidel ity. Reference in this document to specif ic securit ies should not be construed as a recommendation to buy or sel l these securit ies, but is included for the purposes of i l lustration only. Investors should also note that the views expressed may no longer be current and may have already been acted upon by Fidel ity.Financial Administration Services Limited is authorised and regulated by the Financial Conduct Authority. Fidel ity, Fidel ity International, their logos and F symbol are trademarks of FI L Limited. UKMM0817/20494/SSO/NA

Past performance is not a rel iable indicator of future returns.

This supplement has been produced by IFA Magazine Publications Ltd. in association with Fidelity International

IFA Magazine 3October 2017

INTRODUCTION

A turning pointis approachingMichael Wilson, Editor- in-Chief at I FA Magazine assesses whether now is the r ight t ime to be taking on Asian equity exposure in cl ients’ portfol ios

Maybe it isn’t so very surprising that the global news media has been fixated on the tussles in the West recently, and less so on the East? I mean, look at it this way. If you were a news editor and you had to choose between President Donald Trump’s domestic battles with his own team and the quiet economic revolution that’s been going on in other parts of the world, which would you put on your front page? The raging cacophony in Washington or Brussels, or the steadily swelling tide of affluence in developing Asia?

Yes, I thought so. Bad news has such a habit of swamping the good things that sometimes we forget that they’re there. So cast your attention away for a moment from this year’s hoo-haa in Washington and in other developed market capitals; forget, if you can, the troubles of Brexit and the awkward plight of

Theresa May; and consider instead what the International Monetary Fund has had to say about the Asia-Pacific region.

Soaring growth, confident markets

Namely, that the region is on course to increase its economic growth rate this year to 5.5% from 5.3% last year, holding firm at 5.4% for 2018; that “the region continues to be the leader of global growth.” (Regional Economic Outlook, May 2017); and that “macroeconomic policies should continue to support growth while boosting resilience, external rebalancing, and inclusiveness.”

Shall we also add that Asian stock affordability has been transformed over the last decade? Back in the balmy months before the 2008 financial crisis struck, forward price/earnings valuations in the

MSCI Asia index (excluding Japan) were running at a pricey 120% of the comparable indices for the developed world; but by mid-2017 they were 20% cheaper than their developed market peers. At the same time, forward price/book ratios moved from 120% ahead of the developed world norms in early 2011 to 30% below in July 2017. See figs 1 and 2.

Valuation - Asia ex-Japan relative to developed markets

Forward PE - Asia ex Japan vs. Developed World10 years to 31 July 20171.30

0.60

July 2007 July 2017

With valuations in the US now looking stretched relative

to history, Asia appears ever more attractive from both a fundamental and valuation standpoint

Figure 1

Source : Thomson Reuters Datastream as at 31.07.2017 using MSCI Indices.

3

5

7

9

11

IFA Magazine4 October 2017

What does that valuation shift tell us? Mainly, that the US equity market has eaten all the cream during the post-crash decade. But nowadays, with valuations in the US now looking stretched relative to history, Asia appears ever more attractive from both a fundamental and valuation standpoint, with regional markets continuing to transition towards a more sustainable economic model where consumption dominates.

Challenges remain

It would be foolish, of course, to completely overlook the challenges that the region still faces. The IMF certainly acknowledges that China has still to fully deal with its credit build-up, or that Hong Kong’s election of its new chief executive in July did not pass without dissent about the Beijing-backed Carrie Lam. We should add that President Trump’s increasingly strident war of words with North Korea might yet spill over into tougher relations with other regional nations such as China which maintain relatively close ties with Pyongyang. Meanwhile, South Korea’s otherwise vibrant economy, the fourth largest in Asia, has been under something of a cloud recently - not just because of domestic political upheavals but also because of worries about its difficult northern neighbour. Its economic growth rate projection for 2017 has been raised to an unimpressive 3%, from 2.8% in 2016; but on the positive side, all eyes are currently focused instead on major structural reform. This

aims to shift the centre of gravity away from the dominant chaebol industrial groups and to improve social cohesion in the aftermath of a string of scandals that ultimately led to the impeachment of former President Park Geun-hye, with a new administration under President Moon Jae-in now in place.

And so to China’s upcoming 19th Communist Party Congress, which is to be held in Beijing this autumn and which is expected to introduce important new elements to the management of the economy. Xi Jinping and Li Keqiang are expected to stress their commitment to broadly doubling the country’s GDP by 2020 from its 2010 level – an ambition which currently requires the economy to grow at an average rate of 6.5% during the current five-year period. Can it do that? On current performance, absolutely it can, but what is more important for investors is that the quality of that growth continues to improve, with domestic demand - rather than exports and infrastructure investment - playing an increasingly prominent role.

At the same time, Xi will need to stand firm against the twin pressures coming both from domestic opponents and from the very explicit Trump Administration, which has vowed to launch a trade and tariff war against what it insists is “a currency manipulator”. So far, markets are largely taking Trump’s position as simple bluster; but clearly

this is an area which needs to be monitored closely.

The case for acting now

Should we take all these worries seriously? On the clear understanding that it would be foolish to ignore them, the balanced view is still that Asia has the momentum to resolve all of these issues. “Accommodative policies will underpin domestic demand, offsetting tighter global financial conditions,” says the IMF. And it adds: “Despite volatile capital flows, Asian financial markets have been resilient, reflecting strong fundamentals.”

That’s a good place to start. So, to return to our opening question, is this the right moment for taking on Asian equity exposure in clients’ portfolios?

On the clear understanding that short-term political and economic volatility is always higher than would be standard for a developed market – but that the long-term future of this vast market is far too big to ignore – a carefully-managed Asian portfolio run by an experienced investment team should unquestionably form part of any well diversified investment portfolio. The fact that many of the major markets are currently trading below their historical peaks means that the present seems like an excellent moment.

Forward PB - Asia ex Japan vs. Developed World10 years to 31 July 2017

1.30

0.60

July 2007 July 2017

INTRODUCTION

Figure 2

IFA Magazine 5October 2017

There’s no denying that the Asia of the last couple of decades was a place that made things for the western world. However, rising income levels and a fast-growing middle class is changing Asia for good, with regional markets moving towards a more sustainable economic model where consumption rather than exports dominates.

This trend has accelerated in recent years and while it is most evident and advanced in large markets such as China and India, it can also be observed - albeit at an earlier stage of development - in smaller ASEAN economies like the Philippines and Indonesia.

Demographic change

In 2009, the size of Asia’s middle class stood at 500m people. Interestingly, in just over 10 years’ time, this figure is predicted to rise to 3.2bn. In other

words, by 2030 Asia’s middle class will be more than triple the size of US and Europe combined.

Many categories of consumer goods and services across Asia remain underpenetrated relative to developed markets and there remains significant growth potential in companies related to consumption and the changing ways in which people consume. The Asia of the coming decades will be a place that increasingly makes things for its own consumers. In other words, it is moving from white t-shirt to white collar.

Consumption is reshaping the investment landscape

The investment opportunities that this is creating are as numerous as they are significant. However, there is no single way to effectively capitalise on this theme. The size

and diversity of Asia means that the consumption theme is reshaping the landscape in different markets in quite different ways.

As a result, you really have to take time to understand the local dynamics in each individual market. A few years ago, for example, the best way to access the Chinese consumer was through department

WHAT’S CONSUMING AS IA?

What’s consuming Asia?Teera Chanpongsang , Portfol io Manager, Fidel ity Asia Fund, comments on how the r ise of the middle classes across Asia is providing genuine investment opportunit ies

The Asia of the coming decades

will be a place that increasingly makes things for its own

consumers. In other words, it is moving from white t-shirt to

white collar

Source : Thomson Reuters Datastream as at 31.07.2017 using MSCI Indices.

WHAT’S CONSUMING AS IA?

IFA Magazine6 October 2017

Teera Chanpongsang is a portfol io manager covering both emerging Asia and South East Asia markets. He looks after portfol ios for both inst itutional and retai l cl ients. Teera joined Fidel ity in 1994 as a research analyst and has covered Thailand, regional banks and regional telecommunication stocks. In 1998, he was made country fund manager of the Fidel ity Thailand Fund, which he managed unti l September 2004 when he moved to London to manage the Fidel ity Global Telecommunication Fund. Pr ior to joining Fidel ity, Teera was general manager at Chi Cha Group, Bangkok from 1988 to 1992 and staff auditor at Coopers & Lybrand, Bangkok from 1987 to 1988. Teera graduated from University of Chulalongkorn University, Thai land, with a Bachelor of Art (Accounting). He also holds an MBA degree from University of California, Berkeley, in the US.

stores and consumer products. But with the younger generation growing up in a technological and mobile-centric world, it is the delivery mechanisms that are now the key areas of opportunity, not physical infrastructure.

At the individual company level, I have been an early advocate of solid businesses such as Tencent and Alibaba. Both stocks are very well-managed and have a track record of capitalising on China’s shifting consumption patterns and delivering impressive operational performance.

Alibaba is often referred to as China’s Amazon as its platform allows buyers and sellers to exchange goods across the country. But it has also innovated beyond this; setting up its own payment system (AliPay) due

to limited credit card ownership in China. This has helped increase traffic to Alibaba’s websites, while providing the company with more data that it can use for advertising and ultimately help drive future growth.

A consistent approach

However, the developments we’ve seen in ecommerce across China aren’t necessarily evident to the same extent in other regional economies. In fact, in ASEAN markets we are still seeing physical retailers perform well as the shift to online there is at a much earlier stage of development.

This underlines the fact that there are many different faces to Asia’s evolving consumption story. I believe that the key to identifying winners ahead of the market is to have a consistent

approach. In this regard, I continue to look for undervalued businesses that have a strong franchise, structural growth prospects and good management teams, wherever they may be found.

I believe that the key to identifying winners ahead of the market is to

have a consistent approach

Investing in innovation is not easy. Indeed, Warren Buffet famously likened technology sectors to “seven-foot hurdles” where incumbents are particularly vulnerable to waves of technological change and disruption. This unpredictability can make forecasting and valuing a business challenging as new winners and losers regularly emerge.

The US - and most notably Silicon Valley - has traditionally been

viewed as the home of innovation, but Asia is quietly rising to become a key hub in its own right. For example, in 2015 over 60% of the 2.9m patent applications worldwide were filed in Asia, with the majority coming from China.

In many ways, what we are seeing in Asia is a natural progression. As economies develop, education standards improve; and a higher skilled workforce brings greater

emphasis on research and development. At the same time, Asia also benefits from a young population that is growing up in a mobile and technology-centric world.

A new online landscape

Many Asian IT companies have been quick to respond to the move online and the associated changes in consumer behaviour and preferences. Messaging platforms such as Wechat, Line and Kakao Talk have innovated well beyond plain vanilla services like Whatsapp and now offer users a comprehensive range of social and e-commerce experiences. This is driving enormous value creation for parent companies such as Tencent and Naver.

IFA Magazine October 2017

INVESTING IN INNOVATION

Investing in innovation - getting over the seven foot hurdleDhananjay Phadnis , Portfol io Manager, Fidel ity Emerging Asia Fund on how increasing automation and innovation is driving opportunit ies across Asian markets

7

The US - and most notably Silicon Valley - has traditionally been viewed as the home

of innovation, but Asia is quietly rising to become a key hub in

its own right

Similarly, payment platforms such as Alipay have innovated beyond core payment services offered by developed market payment systems and now provide a variety of financial services such as investments and insurance.

This, however, could be just the start as advancements in artificial intelligence (AI), virtual reality and augmented reality may all change our world beyond recognition in the next few years.

Automation - the next big area of innovation?

Automation brings tremendous operational and cost efficiencies. In Asia, this is most evident in China, where companies are responding to a peaking working population and rising labour costs by investing in

automation to boost productivity and maintain competitiveness.

At the same time, the cost of installing a robot continues to fall. For instance, at Foxconn, the world’s largest contract electronics manufacturer assembler based in Taiwan, the cost of installing a robot is now less than two years of wages paid to a factory worker.

This trend will also benefit companies such as Midea Group - a major Chinese small appliances and white goods manufacturer - which recently acquired German robot-maker Kuka AG and an arm of Toshiba to expand into the fast-growing automation segment.

We are now on a path to a future where machines will be able to do things that humans are unable to do

by using their capacity to analyse enormous volumes of data. Going forward it will become impossible for investors to ignore rapid changes in technology and the disruptive impact this is having on a wider set of industries. In other words, Buffet’s “seven-foot hurdle” must not only be faced, but overcome.

Dhananjay Phadnis has over 14 years of experience in researching companies in Asia. He joined Fidel ity in 2004 as an investment analyst and was init ial ly based in India then was transferred to Hong Kong. From 2004-2009, he covered the telecommunications, consumer discretionary, industr ials and materials sectors from FI L’s India and Hong Kong off ices. He was also a sector leader for the cycl icals team and subsequently for the telecoms and uti l i t ies team in the region. He started managing the Fidel ity Funds Indonesia Fund in 2008. He was promoted to Director of Research in 2009 and Portfol io Manager in 2011. Dhananjay started his investment management career in 2001 as an Equity Research Associate at JP Morgan India. Dhananjay holds a Bachelor of Commerce degree from Pune University in India and a post graduate diploma in Management (Finance) from Indian Institute of Management, Bangalore. He is also a Chartered Accountant and a CFA Charterholder.

Going forward it will become impossible

for investors to ignore rapid chages in

technology and the disruptive impact this is having on a wider

set of industries.

IFA Magazine8 October 2017 IFA Magazine October 2017 9

Dividends - the next chapter of Asia’s growth story?

Jochen Breuer , Portfol io Manager, Fidel ity Asian Dividend Fund highl ights the strong dividend growth opportunit ies which are attracting investors in Asian markets

Asia’s emergence over the last decade has clearly had a major impact on the global investment landscape. An interesting - but perhaps underappreciated - development has been the change in the investor base of Asian companies. Not only are a greater number of international investors now recognising the region’s favourable long-term prospects, but rising wealth levels across Asia means more individuals are also investing their own money in equity markets.

The net result of this has been a significant improvement in corporate governance standards as investors demand that companies move to higher international standards, with greater transparency and better capital allocation. In short, we are seeing more emphasis on minority shareholders.

Paying a dividend is a prime example of this. Over the last 15 years, Asia has shown the strongest dividend growth globally and today offers very attractive headline dividend yields. In fact, the dividend yield for the overall market is higher than the US and only marginally below Europe.

The future’s bright

I would argue that the outlook for further dividend growth in Asia is equally positive. Corporate balance sheets are

generally in good health after years of deleveraging and payout ratios are still low at around 35%. This is materially lower than the equivalent levels in the Europe, US and Japan and provides ample room to increase from here.

Low payout ratios in Asia suggest more growth potential

Source: CLSA, January 2017

80

2503 16

Div

idend

payo

ut ratio

(%

)

MSCI AsiaxJ MSCI Europe MSCI US

INCOME OPPORTUNITI ESINVESTING IN INNOVATION

An example of a company improving shareholder returns through dividends is Taiwan Semiconductor Manufacturing Company (TSMC). The company is the largest semiconductor foundry business globally and has introduced a progressive dividend policy.

In June, TSMC paid out over US$5bn to shareholders making it one of the largest dividend payers globally. It now pays out more than 50% of earnings to shareholders and provides an attractive headline yield with significant prospects to grow the dividend stream to investors.

Government support

Encouragingly we are also seeing governments across the region implement reforms to encourage companies to return more cash to shareholders via higher dividends, particularly among Chinese state-owned enterprises.

Elsewhere, we see positive signals around capital allocation in Korea, where the authorities have pushed through reforms to make it more tax efficient for companies to return cash to shareholders than to leave it sitting idle on balance sheets.

This is particularly evident in Samsung Electronics - one of the largest and highest profile companies in Korea - which earlier this year boosted total shareholder return through a combination of dividends and share buybacks. Over time, I expect more companies to follow this lead with dividends set to become an increasingly important driver of returns across regional equity markets.

Jochen Breuer joined Fidel ity’s London off ice in 2007 as an analyst covering small-cap industr ials and then media stocks. During that t ime, he was also the TMT sector leader and managed the internal TMT analyst fund. Jochen then joined our Asia analyst team in Hong Kong in 2013 and spent two and a half years covering the regional energy, chemicals and shipping sectors. In 2015, Jochen worked more closely with the equity income team, based in London, and was asked to join our portfol io manager academy programme. In early 2016, Jochen started managing a pi lot fund focusing on an equity income strategy for the Asia Pacif ic region. Jochen studied Finance & Asset Management at the International School of Management in Dortmund and holds a M.SC. Investment Management from Cass Business School, London.

Gary Monaghan is an Investment Director for Fidel ity’s Asia equity range. He has been based in Hong Kong for f ive years and prior to that he was in Fidel ity’s London off ice for six years, f i rst as an Investment Special ist for Fidel ity’s European equity range and then as Investment Director for Fidel ity’s Equity Income portfol ios. Pr ior to Fidel ity Gary spent two years work as a quant research analyst for Royal Dutch Shell ’s in-house investment team. Gary studied Economics and Finance at Brunel University.

IFA Magazine10 October 2017 IFA Magazine October 2017 11

Over the last 15 years, Asia has shown the strongest dividend growth

globally and today offers very attractive headline dividend yields

Over time, I expect more companies to follow this lead with dividends set to become

an increasingly important driver of returns across regional equity markets

Investor sentiment towards Chinese equities has improved throughout 2017 as generally robust economic data has helped ease concerns. Improving fundamentals have also generally been reflected at the micro level, with a number of domestic focused companies reporting strong results.

Government policy has also played a role through the implementation of much-needed supply-side reforms to tackle oversupply in heavy industry sectors. While more needs to be done in other areas - particularly tackling the level of credit in the system - the authorities are seemingly committed to creating a more sustainable consumption driven economic model.

Against this backdrop, it is unsurprising that the rise of the Chinese consumer remains a major investment theme as we continue to see rising penetration levels across a wide range of goods and services, changes in consumption patterns and innovation in the way people actually consume.

Changing preferences are driving innovation

Good internet connection, a national roll-out of 4G and ever cheaper smartphones has resulted in faster adoption rates of ecommerce than we have seen in the West. Part of the reason is that away from the major cities there hasn’t been a build out of shopping malls, so consumers have gone straight from local stores to online to buy items. China is now the world’s largest online retail market, but there is still a long runway to growth. The fact that e-commerce penetration has already surpassed many western markets, including the US, exemplifies

the speed of structural change in many parts of the Chinese economy.

The adoption of online shopping and the rise of companies like Alibaba has also given Chinese consumers confidence around using the internet to purchase goods and services. This has driven increasing innovation in both product development and marketing across a whole plethora of online companies to fulfil the wants and needs of an ever wealthier nation of over 1.3 billion people. As a result, we are now seeing new business models not seen outside of China emerge in areas such as online flash sales, live streaming and education services which are creating some interesting investment opportunities.

At the company level, the likes of Tencent, Baidu and Alibaba are now well-known names across the world but this trend is also benefiting a range of stocks and sectors. Ctrip, China’s largest online travel agency, is a case in point. China tourism, both domestic and outbound, is a huge market already but one that also offers significant growth potential. Within this, the shift to booking online is growing even faster and Ctrip is ideally placed to capitalise with over 60% market share.

SOEs should not be overlooked

Outside of these “new” China consumer-related sectors, government reform is also creating selective potential among China’s traditional “old” industries where state-owned enterprises (SOEs) dominate.

The introduction of more market-orientated pricing supports the outlook for areas such as transportation where companies are benefitting from tariff adjustments. Here, we have a clear preference for SOEs which own quality assets and have potential for the returns on those assets to rise.

These examples highlight, to good effect, the diversity of investment opportunities that are being created by China’s ongoing economic transition towards a model where consumption and market forces increase. Moreover, even after the recent upward move in markets, valuations on the whole remain compelling which further supports the outlook.

China uncoveredGary Monaghan , Investment Director, Asian Equit ies, highl ights some of the investment opportunit ies that are being created by China’s ongoing economic transit ion

INCOME OPPORTUNITI ES CH INA UNCOVERED