The motley fool column: Don't fall for the Tiger's promises

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The idea of investing in Asia has started to have a bit of a following again recently as, one after another, the Asian stock market indices are starting to show some signs of recovery.

Fund managers certainly aren't wasting any time, and it is hard to pick up the finance section of a newspaper these days without seeing some pundit predict the start of a new Asian bull market. And on the face of it, looking at Asian stock market movements, the evidence could look compelling.

But there are two factors that Foolish investors should consider before deciding to start investing in Asia again. The first is the nature of "Asia" itself, and the apparent belief among the financial services industry that it is a single entity. When you consider that Asia includes China and India, you soon realise that this so-called region accounts for around half the people in the world.

And look at its diversity. Probably the only thing that the varied countries of South-east Asia had in common during their economic crises was that they all happened at the same time. The reasons were as varied as the countries themselves.

Japan and Korea suffered because the economic and financial underpinnings of their growth were unsound. Both countries had managed to achieve explosive growth by forming large, co-operative cartels (the looser-bound kereitsu of Japan, and the more formal conglomerates, or chaebol, of Korea). The members of these fed each others' needs without heed to economic performance or competition, and these structures were simply not sustainable.

Thailand's main problem was its fixed baht-to-dollar exchange rate, which, combined with low dollar interest rates and high domestic rates, led a lot of companies and banks to take on loans denominated in dollars. When the baht was finally forced to float, and collapsed to half its previous value, the interest on all those cheap dollar loans doubled, in baht terms.

What about Indonesia? That country's problems had a very simple cause - 30 years of corrupt and despotic rule by former president Suharto, who treated the state bank as his personal piggy bank.

So do you really think it is fair to lump these countries together for investment purposes? It is probably about as sensible as linking Britain with Hungary, or America with Brazil.

What about the second factor for consideration? This is the fundamental restructuring, or the lack of it, that the various Asian countries have undertaken. Thailand has progressed well. It now has a free-floating currency and, more importantly, the country's banking system has been restructured. Many small, insolvent banks were closed, and the larger banks have been opened to partial foreign ownership. Thailand, in fact, looks set to leave the IMF recovery programme earlier than planned. But have Japan and Korea's corporate and banking structures been reformed? The simple answer is no.

Korea is a particularly topical case, and the problems being faced by Daewoo are a good example of how that country refuses to face up to company failings and bankruptcies. For years, Korean banks have been obliged to extend larger and larger loans to the chaebol to keep them going, and these have been granted without regard to the fundamental financial health of the companies. Underperforming companies have been allowed to go on losing money year after year without any real accountability.

Korea's bankruptcy laws have contributed strongly to today's problems. Unlike the US, where companies filing for chapter 11 bankruptcy will frequently have new management put in place to reorganise or liquidate the company, firms applying for the Korean equivalent usually carry on without change. They are allowed to defer their debt repayments and even take out new loans, still under the control of the managers who got them into trouble in the first place. And the courts are powerless to close down companies that show no sign of recovery without the consent of at least two-thirds of the company's creditors. In Korea, where webs of credit can be tangled, and where banks are reluctant to write off bad debt, that can be difficult to achieve.

What about Daewoo then? Daewoo is Korea's second largest conglomerate, and is in such a poor financial state that if foreign creditors were to call in their loans, it would be forced into bankruptcy. This comes hard on the heels of the company just avoiding insolvency two weeks ago when domestic creditors agreed to roll over short-term debts and to provide new loans. That appears to have been the usual bailout and the same old refusal to tackle crises properly.

The government has since tried to flex its muscles and convince investors that real reform is happening, and Daewoo's largest creditors have finally taken control of the company's restructuring. A plan is expected to be published by 11 August.

So what should Foolish investors do when the Asian fund salespeople come knocking at the door? Ask them to justify their claims; ask what all those Asian countries have in common that make them a single group; and ask them to explain what fundamental restructuring is now underpinning the "recovery". We bet most of them won't have a clue.

n Motley Fool,


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