Asia risk: Bullish on the brink

Overlapping macro trends, like laws of nature, are not obliged to conform to human intuition. Perhaps this explains why the risk premium for investment in Asia is said to be dwindling over the long term, even as political crises quake across the region.

LPs and GPs alike are becoming more comfortable with Asia risk as various constituent markets mature. What’s interesting is that this comfort seems to extend beyond governance or diplomatic concerns such as trade tensions with the US to include some of the most dramatic and intractable social problems in the world.

The elephant in the room with this line of thinking is North Korea. Tensions around the country’s provocative nuclear weapons program have reached boiling point in recent months with missile splashdowns in the seas around Japan, two tests across Japanese airspace, and an explicit threat to attack the US island of Guam. 

Although investors are voicing concerns on the conference circuit, they clearly continue to recognize Korea as an indispensable pillar of pan-regional strategy. Also, there appears to be an unspoken acknowledgment that no insurance policy could offset the unthinkable worse-case scenario, so there is no justification in interrupting business as usual whatsoever.

As a result, build-out programs and M&A activity in the country have continued virtually unabated. The biggest practical hurdle for GPs has been a diplomatic fallout between South Korea and China over a US radar installation, but firms with cross-border plays in the balance – including KCA Capital Partners and VIG Partners – have adeptly responded with workarounds that have kept their operations on track. Even the coinciding impeachment of President Park Geun-hye failed to dent sentiment for stability. 

Lower the stakes on both sides of the equation and the rules tend to change according to the internal risk-reward philosophy of any particular firm. This can be seen in jurisdictions considered less tactically essential than Korea that are experiencing relatively milder calamities and anecdotally tracking mixed investor reactions across vaguely shaken backdrops. 

In the Philippines, for example, equities market volatility and weaker foreign direct investment are frequently connected to President Rodrigo Duterte’s controversially violent crackdown on drugs. Meanwhile, a meltdown in presidential politics in the Maldives has stirred worries about a modest local tourism industry.   

The breakdown in logic occurs when the geopolitical heat is cranked up but the country’s general marketability is not. Last month, Zeid Ra’ad al-Hussein, the UN’s head of human rights, said the Rohingya refugee crisis in Myanmar could have a “severe impact on the security of the region.” The comment followed five months of military action against the stateless minority group that has seen about 300 villages destroyed, according to Human Rights Watch. 

International outcry, however, has not changed perceptions among investors. Grab, a ride-hailing giant backed by a slew of PE firms, committed $100 million to a Myanmar push in August. Most recently, Anthem Asia launched a $50 million Myanmar fund, which notably includes LP backing from a World Bank program dedicated to conflict-affected countries.

Investors in developing markets are accustomed to factoring political mayhem into their calculations, but there is reason to be concerned that such a high level of confidence on the edge of apparent disaster could be a symptom of a dangerous kind of complacency. Strong morale at the moment is overshadowed by variables such as unprecedented central bank support and low interest rates that suggest a cyclic correction could be imminent.

Private equity is aggressive by nature. This is particularly true in Asia, where slightly exaggerated risk-reward theses are inherent to most strategies. But courage will be a poor substitute for a formal contingency plan when the black swan finally arrives at a macro level. 

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• Topics
• GPs
• Investments
• Asia
• South Korea
• Philippines
• Myanmar