2023-10-25 10:26:39 ET
Summary
- Having started off strongly this year, Vietnamese equities have pulled back amid external headwinds.
- The rate cut cycle may be delayed but isn't over, and the property/financials-heavy VNM portfolio stands to benefit.
- Vietnam's earnings growth potential remains the best in Southeast Asia, justifying a premium valuation multiple.
Vietnam has flown under the radar for some time, despite sustaining the highest GDP growth rates in Southeast Asia over the last decade. As Q3 showed (+5.3% GDP), the growth engine is still in full swing, boosted by households deploying excess savings accumulated through the pandemic. Alongside geopolitical tailwinds and sooner-than-expected rate cuts by the State Bank of Vietnam (i.e., the Vietnamese central bank), it is perhaps no surprise that Vietnam has been the best-performing market in the region (+10% YTD).
Yet, the H1 optimism has eased over the last month, as investors price in Vietnam's linkages to external demand weakness across its major trading partners (US/EU and China). Also concerning is the re-emergence of inflationary pressures from oil and rice prices (major components of Vietnam's consumer inflation gauge), which will inevitably delay the aggressive rate-cut cycle for now. The economic headwinds are also beginning to be felt at the corporate level. Major VanEck Vietnam ETF ( VNM ) constituents have guided to a weaker H2 outlook, despite some bright spots in property and financials (over 50% of the VNM portfolio).
That said, these commodity pressures are transitory and shouldn't alter the SBV's course. So expect a brief period of monetary tightening (via the SBV absorbing system liquidity) to eventually give way to lower rates, in turn, helping to paper over the cracks in Vietnamese real estate as lower rates boost lending and help address developer inventories. Similarly, lower rates are a boon for major listed Vietnamese banks, where lower provisions (historically a major issue during bad debt cycles) and higher lending should outweigh interest margin pressures.
VNM may not seem cheap at ~15x P/E, but offers the best earnings growth algorithm in Southeast Asia (high teens from 2022-2024), along with a slight ~0.6% NAV discount that should close soon. Also on the agenda is a potential reclassification catalyst next year, as Vietnam's push for secondary emerging status (per FTSE Russell) could unlock significantly more investor inflows.
Fund Overview - A Competitively Priced Basket of Vietnamese Large Caps
The US-listed VanEck Vietnam ETF tracks (pre-expenses) a basket of Vietnamese large-cap equities via the MarketVector™ Vietnam Local Index. In line with the index, VNM's portfolio composition is reviewed quarterly and subject to market cap (over $150m) and component weighting (<8%) constraints.
The ETF has seen a slight increase in net assets to ~$545m at the time of writing, though its expense ratio is also slightly higher at 66bps (50bps from management fees). While VNM's fee premium has widened slightly relative to its closest comparable, the Global X MSCI Vietnam ETF ( VNAM ), the former makes up for it with better liquidity and a longer track record.
The fund is spread across a larger 48-stock portfolio, with Financials (up to 28%) and Real Estate (down to 26%) remaining the two largest sector allocations. Consumer Staples also features heavily at 20%, along with Materials (up to 13%) and Industrials (10%). This composition is broadly in line with VNAM and other Southeast Asian ETFs, where banking and property contribute a similarly outsized portion of the equity market.
The single-stock allocation is also relatively unchanged. Property developer Vinhomes remains the largest holding at 7.5%, followed by dairy company Vinamilk at 7.4% of the portfolio. Conglomerate Vingroup (down to 6.6%) has ceded share and now trails state-owned Vietcombank. Commodity producer (iron ore and steel) Hoa Phat Group rounds out the top five at 6.4%. In total, the top five VNM holdings account for ~35% of the overall portfolio, slightly below key comparable VNAM due to its weighting caps.
Of note, VNM's underlying earnings valuation multiple has re-rated by two turns since I last covered the fund and now stands at ~15x. The bank/property-heavy portfolio is also priced at a 70% premium to book (VNAM trades at similar levels). But context is important - VNM tracks a country that grew GDP at a mid-single-digit pace in Q3 through an external slowdown. A lot of that economic growth is also translating into large-cap earnings, underpinning Vietnam's region-leading earnings growth outlook (vs a historically discounted mid-teens earnings multiple).
Fund Performance - Near-Term Pullback Takes Some Shine Off YTD Performance
On a YTD basis, VNM has returned +10.1%, rebounding strongly from last year's massive ~44% drawdown. Over longer timelines, however, the fund's returns remain underwhelming at -3.5% and -1.2% annualized over the last five and ten years. Since its inception in 2009, VNM has also annualized at a negative -2.8% in market price and NAV terms.
In comparison to the newer VNAM fund (inception in 2021), however, VNM has relatively outperformed over the last year, returning +5.6% to -3.1% for VNAM. For a frontier market fund, VNM also maintains an impressively narrow tracking error (after fees) relative to its benchmark MarketVector™ Vietnam Local Index.
The trailing distribution yield isn't great at 0.9%, so investors who prioritize income over growth will probably prefer VNAM's 2.3% yield. With the fund levered to cyclical property development names, though, I wouldn't rule out higher distribution yields alongside a continued post-COVID economic recovery in the coming months. The fund's outsized exposure to defensive, cash-generative franchises in the banking and consumer staples sectors should also benefit from rate cuts and a secular trend toward easing regulatory constraints, further supporting the case for steady income growth over time.
Vietnam Remains Southeast Asia's Best Kept Secret
Vietnamese equities have poor shareholder value creation track records despite consistently generating the highest GDP growth rate in Southeast Asia over the last decade. The backdrop over the next decade, however, is changing for the better, given the country's favorable positioning on both sides of the US-China geopolitical divide. In the near term, Vietnam's ability to ease ahead of the other Southeast Asian central banks has also boosted valuations and an earnings base levered to rate-sensitive banks and real estate.
While weaker trade (lower earnings) and transitory inflation pressures (delayed rate cuts) have triggered a de-rating in H2 2023, Vietnam's structural earnings growth isn't impaired and should continue to surprise to the upside in the coming years. VNM, which tracks the blue chips, doesn't scream value at the current mid-teens P/E, but it's probably as cheap as it gets, given the underlying earnings growth outlook. Plus, recent news flow indicates Vietnam is very close to emerging market reclassification (from 'frontier market' currently), an event that typically catalyzes a few extra turns to the multiple.
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VNM: Vietnam Remains Southeast Asia's Best-Kept Secret