(IF) The World’s Greatest Growth Engine (Part 2)

Yesterday, I outlined the scope of the economic turnaround by Indonesia and the Philippines over the past 15 years. A new MarketWatch special report tells us that the two countries have positioned themselves to be future heavyweights in Southeast Asia.

Both economies are growing and fiscally sound. Well, that’s the “feel good” story. What you need to know is how to take advantage of their good fortune while the West seems dysfunctional.

I think the first piece of the puzzle is their respective banking systems. An economic boom in both countries has its people consuming, while their banks benefit.
Emerging Middle Classes

Indonesia and the Philippines are experiencing strong economic growth, which is creating a middle class. And once a lower class comes up a socio-economic level, it wants to consume. That means a boom in mortgages, durable goods and the willing acceptance of personal debt.

Could there be a better a environment for local banks to thrive? And this isn’t some “flash in the pan” trend…

Both economies are set to grow at a healthy rate because of domestic consumption. Also, keep in mind that Indonesia and the Philippines are “underbanked,” with low loan-to-GDP ratios.

Shaun Levine, an analyst at political-risk consultancy Eurasia Group, stated the following in the MarketWatch report:

“I was just in Indonesia and I was amazed how confident people are and their willingness to spend money. The central bank has taken various measures to slow the growth of credit, especially consumer loans. [But] this hasn’t really slowed down the Indonesian consumer. Some of the banks are reporting incredible profit margins and a lot of this is on the back of consumer-driven loans.”

Indonesia has over 100 commercial banks, but less than 20% of them would be considered large. Bank Mandiri is the biggest bank. The government owns 60% of it, but it’s Citigroup’s top pick in the industry. As our own Carl Delfeld has written many times, companies in emerging markets with government ownership often have unique advantages over competitors.

And it seems that banks in the Philippines are also taking advantage of this macroeconomic explosion.

BDO Unibank Inc. was the country’s largest bank in 2011 when you look at total deposits and assets under management. It’s a full-service universal bank that falls under the umbrella of SM Investments Corp. – a conglomerate owned by Chinese-Filipino tycoon Henry Sy. BDO Unibank’s profit was up 15% the first part of this year in comparison to the same time in 2011.

Two other major Philippine banks include Metropolitan Bank & Trust Co. (OTC: MTPOF) and Bank of the Philippine Islands (OTC: BPHLY).

Take special note of BPI. Nomura strategists wrote in a July report that “BPI is our recommended core holding for its combination of strong management, growth upside and defensive attributes.”
Adding Safety With Diversification

If you look at the banking section of the MarketWatch special report, you’ll see that there may be some growing pains for the sector, which each country will have to go through. This may compel you to more diversified options. They are out here.

Both countries have been en vogue since about 2009 and each has had a nice 2012 up to this point. The Philippines PSE PSEi Index is up 18% year to date and the Indonesia Stock Exchange’s LQ45 Index is up 4%. With these types of returns, there has been a lot of foreign investor interest. And where there’s interest, there will be new products developed in order to gain access to these markets.

BlackRock Inc. in 2010 launched the iShares MSCI Philippines Investable Market Index (NYSE: EPHE) and the iShares MSCI Indonesia Investable Market Index (NYSE: EIDO).

A mutual fund option mentioned by the report – an actual closed-end fund – is the Aberdeen Indonesia Fund (AMEX: IF).

The Aberdeen fund prefers to buy companies with strong balance sheets and strong position in their industry. Think of companies such as personal-care firm Unilever Indonesia Ltd. (OTC: UNLRF), which is an arm of Anglo-Dutch giant Unilever PLC (NYSE: UN).

Carl Delfeld also recently recommended the Van Eck Indonesia ETF (NYSE: IDX), which also focuses on larger companies, and for smaller, high-growth plays the Small Cap Indonesia ETF (NYSE: IDXJ).
Some Risks to Keep in Mind

Corporate Governance – Those investors from the West must be aware that the level of corporate-governance protection for minority shareholders probably won’t be what they’re accustomed to, according to Reeves. He mentioned Jardine Cycle &Carriage Ltd. (OTC: JCYGY), Holcim Indonesia (OTC: PTHIY), and Bank OCBC NISP as companies which have “quality management and protection for minority investors.”

Infrastructure – Both countries have infrastructure issues. For instance, in Indonesia, 50 million people don’t have access to power and 50% of Jakarta’s 10 million people don’t have running water. Although Carl Delfeld sees these as opportunities going forward.

Small Markets – Both the Philippine and Indonesian markets are still a tad bit on the small side for many international investors. There are also limited options. For instance, only one Philippine stock trades on U.S. exchanges – Philippine Long Distance (NYSE: PHI).

Just like any high growth investment, there are going to be risks. That’s why we recommend trailing stops on any investment in these regions – or elsewhere, for that matter.

If you’d like to take a look yourself at the entire series concerning Indonesia and the Philippines, its available here on the MarketWatch website.

Good Investing,


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