ASIAN equities are expected to outperform in 2018, but investors in this asset class are advised to rotate their allocations within the sector in the next 12 months in order to minimize risks and potential losses.

The first consideration for Asian equity investors, that makes it important for them to rotate their asset allocations, is an impending correction in the US equity markets, which are now at very elevated valuations. In the last two months alone, the S&P 500 has soared and is now over the 26,000 level – a level that is considered dangerously expensive by analysts and investors.

According to Frank Benzimra, head of Asia equity strategy at Societe Generale, the close correlation between US equities and Asian equities is prompting investors to ask: What will happen to the Asian equities market if the US equity market were to decline by 20% in the next 12 months?

“It will not be very pretty. What we observed during the last 30 years, based on the World MSCI Emerging Markets index, is that in most cases you will find Taiwan, Korea, and Japan will underperform with probably a low percentage of positive returns over a 12-month window,” says Benzimra.

On the other hand, markets which are not as sensitive to global markets, particularly the US, tend to perform better based on the World MSCI Emerging Markets index.

“Lower beta markets or those with lower sensitivity to what’s going on in the global markets, essentially the Asean emerging markets, particularly Malaysia, Indonesia, Thailand, would actually do better,” Benzimra says.

The second consideration for Asian equity investors is the heavy reliance on the specific sectors, like the consumer sector, in their portfolios.

“There has been this long-lasting theme of Asia being a great consumer story, particularly China. That is something that we can see just by looking at the IMF numbers. The problem with this story is that there may be better opportunities in other sectors in other markets, such as Korea, India and other markets,” Benzimra says.

“So, we are looking for opportunity elsewhere. In Korea we think things are starting to get better, as the leadership is shifting from technology to the more consumer part, which has been very much vulnerable to the rising tension with China,” Benzimra says.

In recent years, the consumer sector in China has become expensive in terms of the price-earnings ratio in relation to the MSCI China ex-consumer related sectors. The consumer related sectors are currently trading at 45x PE while ex-consumer related sectors are trading at only 15x PE.

“So one advice we give to investors is to rotate from the momentum stocks, rotate from technology, or rotate from the high flyers to the ones with more modest valuations which are still going to benefit from the stage of the cycle where we are at,” Benzimra says.