Partner Insight: Small caps in Asia have often been deemed as being under-researched and illiquid in nature, yet the opportunities this sector brings about in terms of dividends is one that should not be ignored, according to Matthews Asia's Yu Zhang.
Compared to their larger-cap counterparts, Asian small caps are perceived as a risky part of the market that many Asia investors tend to ignore. Yet the opportunity for investors in terms of pricing and hidden value in this sector can be significant.
Small-cap companies in Asia are often family-owned and rely on dividends for a stable and consistent income, comments Matthews Asia ex Japan Dividend Fund manager Yu Zhang.
"We view the small-cap sector in Asia as a way to access very fast-growing companies that at the same time has the ability to deliver a rising dividend.
Whilst Zhang runs an all-cap strategy, the fund's portfolio has a significant bias towards small and mid-caps, accounting for some 70% of the overall portfolio.
Zhang says: "The strategy is an all-cap portfolio, albeit with a heavy dose of mid-and small-cap exposure. Mid and small caps account for close to 70% of the overall portfolio, and nearly 35% of that exposure is in small caps. Now, many investors believe small-cap companies are much more volatile and tend to be focused on growth rather than income."
In reality, this is not the case, he argues. Zhang's dividend strategy is predominantly growth driven, but while others will be looking for earnings-per-share growth, he is more focused on dividend-per-share growth.
"This means that volatility plays a slightly different role in our portfolio. Although we do not specifically manage downside volatility, for example, the fact we focus squarely only on companies able to generate sustainable free cash flow, alongside the fact that dividend-paying companies in Asia tend to be conservative in terms of how they manage their balance sheet with low financial leverage, means a lot of the companies we invest in have a large net cash position.
"We believe this is a good position to be in when the market goes through a volatile period. In addition, if some of those companies pay a significant portion of their earnings in dividends, the dividend yield tends to become a buffer in terms of holding up the stock's valuation during periods of a drawdown. That has tended to produce a slightly lower level of volatility for the portfolio."
Click here to read the full article on the evolution of Asia's income universe and how benchmark agnostic Zhang avoids volatility amid small-cap opportunities.