Anticipating more competition from US Treasury bonds, Asian dividend-paying equity funds are changing their strategies to prevent a mass exodus of shareholders.

The US Federal Reserve Bank has said it plans to raise interest rates this year. When that happens US Treasury bonds will pay a higher rate of interest, making them more attractive compared with equities, including stocks that pay dividends.

Federal Reserve building, Washington, DC
Federal Reserve building, Washington, DC

Funds that specialize in dividend stocks prefer to invest in companies whose yields exceed that of bonds. Typically, these are mature companies in the utility, financial, telecom and consumer staple industries. They have predictable returns, but a slower rate of growth.

In order to keep the competitive edge, dividend fund managers are moving into companies with faster earnings growth, especially those in emerging markets with cheaper valuations.

Dividend funds are buying Chinese state-owned enterprises, Indian banks and Taiwanese technology firms, where payouts, although currently lower, show promise of rising over time, reported Reuters.

By way of comparison, China’s CSI 300 index tracks the 300 largest A-shares traded by market capitalization. It offers an average dividend yield of 1.5%. India’s benchmark Sensex yields 1.4%. The S&P 500 Index has a yield of 2%. Compare that to the average yields in Australia, 6%; Taiwan, 3.8%; and both Singapore and Hong Kong at 3.3%.

“Absolute dividend yields might be slightly lower, but the prospects for growth are much better, particularly if the Fed starts to increase rates,” Robert Davis, who manages the Asia and emerging markets high dividend funds of NN Investment Partners, told Reuters. The top holdings in NNIP’s funds are Taiwan Semiconductor Manufacturing, China Petroleum & Chemical and Shinhan Financial.

Most fund managers are avoiding the unpredictable Chinese A-shares and buying Hong Kong-listed H-shares, which are typically cheaper and less volatile.

“We mostly hold H-shares which offer genuine value at this point,” Sat Duhra, who manages Henderson’s Asia dividend income fund, told Reuters.

Asia Unhedged couldn’t agree more. We’ve been recommending H-shares for months now.

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