(From BARRON'S ARTICLE)
By William J. Holstein and Assif Shameen
Malaysian former prime minister Mohamad Mahathir achieved some major coups for his country -- the Petronas Twin Towers, once the world's tallest buildings, loom over central Kuala Lumpur. The new government capital complex at Putrajaya has streets reminiscent of the grand boulevards of ancient Rome. And fast trains run from Kuala Lumpur to a gleaming new airport that Mahathir built.
But Mahathir created a climate of conflict with Anglo-Saxon investors and, in particular, Jewish financiers like George Soros, whom he once blamed for the Asian financial crisis of 1997-1998. Tough controls on foreign capital and curbs on the ringgit's convertibility, imposed after that crisis, didn't help. As a result, Kuala Lumpur's Bursa (stock market) has languished in global investing's backwaters for a decade. "After the Asian crisis, all my American clients simply closed their Malaysian accounts," recalls Cheston Chua, then a broker and now research chief for ECMLibra Avenue Securities, Malaysia's second-largest investment bank.
But now Mahathir is 82 and has been in and out of hospitals for heart-related problems. His successor, Abdullah Badawi, is beginning to steer a different course by easing capital controls and restrictions on foreign investments.
External trends also are blowing in the Bursa's favor -- a surge in commodity prices has been a boon because palm oil may become Asia's equivalent of ethanol. A political crisis in nearby Thailand means that fund managers are shifting dollars allocated for Southeast Asia into Malaysia. And the market's conviction that China is overpriced means that some funds are moving to less speculative markets. Malaysia's average P/E is about 17, versus 45 to 50 on China's frothy domestic exchanges. Corporate earnings are growing strongly too -- an estimated 18% this year. Last week, Malaysia reported surprisingly strong GDP growth of 5.3% for the first quarter.
Add it all up and the results are not surprising -- the Kuala Lumpur Composite Index is up 26% in U.S. dollars. Not including the currency effect, the market was up 13% last year and over 20% this year. "The market has been moving up on increased global interest from the beginning of this year," says Lorraine Tan, an equities analyst for Standard & Poor's based in Singapore. Adds Chua Hak Bin, director of Citigroup's Asia Pacific Economics and Market Analysis group: "We expect the overall momentum to be sustained."
Hedge funds, capitalizing on a combined currency and equity play, have helped drive those results. "These guys are smart," says Tan Chong Koay, founder and chief strategist of Pheim Asset Management (Asia), whose assets have just crossed $1 billion. "They know the U.S. currency will weaken and the Asian currencies are strengthening."
The conviction in Kuala Lumpur is that there is room left to run, so the question is which stocks to target. One obvious play: plantation companies such as Sime Darby (ticker: 4197.Malaysia), which is rated overweight by Bear Stearns. At the government's behest, Sime Darby is driving a consolidation of the country's three largest plantation companies and will become the world's largest plantation owner. S&P's Tan says weather conditions are "conducive for another good year" for palm-oil plantations but cautions that "for palm oil to be viable as an alternative, oil prices have to be at a certain level." Palm oil has traditionally been used mostly for cooking and soap, but Europeans are interested in using it as "biofuel" for vehicles because they don't have a large corn crop -- the source of America's ethanol.
Stocks recommended by Bear Stearns include Gamuda (5398.Malaysia), a builder of toll roads and tunnels; IJM (3336.Malaysia), which has construction contracts in Argentina, China, India, Pakistan and the Middle East; and Genting (3182.Malaysia), a gaming company with a license to build a casino in Singapore.
Would-be multinationals such as IJM are run primarily by ethnic Chinese and Indians, who see good prospects outside Malaysia. Wah Seong (5142.Malaysia), for example, a maker of coatings for pipeline and refinery pipes, is working in China and the Mideast. Another favorite is Tenaga Nasonal (5347.Malaysia), the national utility company. With the government having removed a 25% limit on foreign shareholding, its stock is up 38% in a year. Another hot area is financial services, as Malaysian banks such as Malayan Banking (MLYB) carve out roles in global Islamic finance.
One sector to avoid is automotive: the national car company Proton Holdings (5304.Malaysia) is faltering.
Institutions have no trouble buying Malaysian shares in Kuala Lumpur. Individual U.S. investors can trade Southeast Asia funds or pure-play Malaysian funds. One ETF is the iShares MSCI Malaysia Index (EWM) from Barclays Global Investors. And investors interested in a large- and small-cap blend will soon be able to buy into Tan's Pheim Asset Management group through Merrill Lynch.
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William J. Holstein is a veteran Asian correspondent. Assif Shameen covers Southeast Asia from Singapore.
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