The Rise of Southeast Asia

By David Ruff, Portfolio Manager

After China’s Great Wall, the country’s Grand Canal may be one of the most impressive structures in human history.  Stretching over 1100 miles and spanning several millennia in construction, the waterway connected the Yangtze and Yellow rivers, providing food shipments to Beijing, and transporting soldiers to southern China to expand imperial territory.  Although still providing important transportation, it’s also a UNESCO World Heritage site and popular tourist destination, treating travelers to views of ancient villages, temples, and the stunning countryside.  With the last piece of the Grand completed during the Yuan Dynasty, China’s exploits at massive canal building have lain dormant for over 700 years.  But as of August last year, China resurrected the effort.  Named the Pinglu Canal, the new channel won’t connect to the Grand, is much shorter at just 84 miles, and should only require four and a half years to build.  Despite these comparatively mundane characteristics, however, its strategic, economic, and investment significance may be grand indeed. 

While the Grand Canal linked northern and southern China, the Pinglu links China to ASEAN, or the Association of Southeast Asian Nations.  Connecting Nanning, a major industrial hub in Guangxi province, to the Gulf of Tonkin or Beibu Gulf, the Pinglu water passage shortens the voyage to the southwest waters of China by approximately 350 miles, reducing travel time by an average of 10 days.  Projecting cargo shipments to exceed 108 million tons, the annual cost savings totals $700 million for the bulk carriers and container ships traveling to Vietnam, Malaysia, Singapore, Indonesia, and other Southeast Asian countries.   With the port providing access to all ASEAN members, this can be a game changer in terms of ASEAN development, adding another artery to pull together the numerous capillaries of the China and ASEAN bloc.

New state-of-the-art construction techniques make the enterprise viable.  Compared to roads and bridges, canals represent a major step up in complexity, requiring more sophisticated technology and massive amounts of labor.  For example, the watercourse requires three locks, featuring one at Madao Junction, covering two million square feet and demanding three and a half million cubic meters of special seawater-resistant concrete.  The locks’ new design, highlighted by a first-of-its-kind fast closing mechanism, uses 60% less water compared to conventional locks.  Although not cheap, the cost, estimated at $10.5 billion, seems modest for such an ambitious undertaking.   Despite the attractive economics, extensive debate regarding ecological impacts stalled the decision to proceed for over a decade.  Delayed but not abandoned, similar to many other significant man-made sea gates in the world like the Panama and Suez Canals, geopolitics ultimately persuaded the decision makers to green light the signature project.  Specifically, China policy makers probably viewed the canal as necessary to offset pressures from the geopolitical conflict with the US and efforts by companies around the globe to “de-China” their supply chains.

US-China tensions cover multiple areas including trade, intellectual property rights, semiconductor development, human rights, and climate change.  These are ongoing and not likely to end soon.  Further, China’s extended shut down of broad swaths of the economy during the pandemic induced many European and American companies to seek supply chain sourcing replacements.  Understandably, Chinese companies, seeking to protect foreign sales and avoid punitive tariffs, raced to set up operations outside their homeland.  Although Chinese corporates have added manufacturing facilities all over the world with an emphasis on Mexico (examples include Lenovo, BYD, Haier) and India (Huawei, Li Ning, TCL), Southeast Asia provides a significant logistical advantage.  Vietnam and Thailand, in particular, provide greater integration and efficiency through rapid transport corridors, creating cross-border supply chains, leveraging China’s existing production ecosystem to transport materials, semifinished goods, and knowhow to these Southeast Asia processing centers.  The ASEAN countries, in turn, enjoy extensive, tariff-free trade and sport lower-cost, increasingly skilled labor to package the final product.  No wonder, ASEAN recently took the mantle from Europe and became China’s number one trading partner.  Additionally, China’s direct investment into ASEAN continues to ramp, reaching $115.9 billion in 2022 according to the China-ASEAN Business Council, up 23.7% from 2021, and up 20% in just the first four months of 2023.  Vietnam, Indonesia, and Thailand account for 70% of the total.

Although many Asians wince at the phrase “China-led Asia”, just as Europeans disdain the idea of the “US-led West”, the ASEAN members of Asia benefit from their relationship and proximity to China.  Indisputably true, but this expanding trade axis probably helps China, or at least, China corporates, more in the near term.  Importantly, we view ASEAN’s rise in the global economic order as structural, not cyclical, and this ascension will be much more than China’s plans for the region.  Impressively, despite regular disputes over South China Sea rights (both with China and themselves), as well as the occasional flareup of regional religious tension, we note ASEAN countries increasingly supply capital, equipment, skills, and technology to each other, gradually becoming less reliant on China, the US, and Europe for these provisions.   Intra-ASEAN trade now account for 30% of all ASEAN trade, up from 23% in 2018 and accelerating to double-digit growth rates over the last three years.  This is a remarkable accomplishment considering the ethnic, religious, cultural, and linguistic diversity of its members, but come together they have.  In our November 22, 2021 commentary “Emerging Markets and ASEAN,” we highlighted how the RCEP (Regional Comprehensive Economic Partnership) agreement provided relatively free-trade amongst ASEAN members plus China, Australia, Japan, and South Korea.  We view this as a milestone, unleashing the economic power inherent in ASEAN’s 650 million population.  Indeed, the region’s GDP growth as well as their equity markets have outperformed both the US and China since the enactment of RCEP on January 1, 2022. 

Finally, we’ve identified and invested in several companies leveraged to this growing intra-ASEAN trade and better-flow-of-goods between China and Southeast Asia.  This includes a well-positioned Singaporean bank, profiting from rapidly growing consumer spending throughout the region and providing capital to facilitate the area’s infrastructure and trade development; an intra-regional shipper possessing an impressive number of port slots throughout Southeast Asia, China, and India; and a Thailand-based consumer lender, benefiting from growing credit card usage as Thai business people increasingly travel throughout the territory.  We also hold several multi-nationals positioned to profit from ASEAN’s bright economic future.  China may possess the canal for the ages, but as their new project reveals, they recognize the coming age of ASEAN.

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