Eclipsed by Myanmar and other more fashionable frontier stories, Vietnam appears to have fallen off most investors’ radars in recent years but having spent the last couple of weeks traveling around the country again, and speaking with a large number of local investment specialists, I believe the country could now be at an important turning point.

Were it not for its foreign ownership restrictions and the poor liquidity of the local markets, a function of low confidence amongst the locals and most available stocks already in foreigners’ tightly held portfolios, this would be the next big opportunity for investors in ASEAN. As it is, foreign ownership restrictions will loosen up as a precursor to the recapitalisation of the banking sector and the market is likely to pick up from here, albeit with low volume. Indiscriminate flows of ETF money into the biggest cap names and those who are already strategically positioned may see some better performance at last.

So what’s going right?

Vietnam boasts a young and growing population of 90 million people and is full of natural resources. The psyche of the people is hard working, resilient and pragmatic. This is evident everywhere with private enterprise spilling out onto the streets in Ho Chi Minh and Hanoi. Sadly, the once omnipresent and supremely elegant Ao Dai is rarely seen on the busy streets now, other than for promotional adverts, formal occasions or school uniform. The grace and composure that this mode of dress symbolised to me has been replaced by a frenetic desire to get on in life.

The economy remains small with gross domestic product reportedly less that 125bn USD although it is estimated that the black economy could be 2 to 3 times the size of the official economy. According to data provided by Bloomberg, Vietnam?s economy in 2012 grew at 5.03 percent, down from 5.89 per cent in 2011, the slowest pace in 13 years largely due to a slowdown in bank lending which reduced domestic demand.

Credit is flowing again…

Credit growth across the country has been picking up again in the 2nd half of 2012 after having stalled in the first 6 months and has reached 5.2-5.4% to November versus a full-year target of 6%. In areas such as Ho Chi Minh City, which accounts for around 40 percent of the entire economy, credit growth is up 8% YTD to October. The government expects the economy to expand by around 5.5 percent next year.

Although the Vietnamese banks? combined non performing loans (NPLs) reportedly exceed the total capital of the sector, not all the financial institutions are equally affected. And whilst the numbers are big in some cases, the level of NPLs is far less frightening in the shadow of the western banks’ woes than they might otherwise be.

New cities are growing in a wage-competitive nation.

Elsewhere in the country, other cities are also booming. The central city of Danang, historically the fifth largest city, is set to become significantly bigger. There is an immense amount of development going on in the town itself, and being strategically located in close proximity to China, I can see it becoming an important trading centre. It has been transformed from a sleepy backwater when I last visited in 94, to a bustling city of grandiose new structures.

As a strategically positioned, coastal nation bordering China and part of ASEAN, Danang and the rest of the country should certainly benefit from regional growth. The demographic dividend is all too evident in Vietnam which boasts a young literate workforce and yet wages that are the second lowest after Cambodia and only a fifth of those in China.

Inflation is now in check…though we won’t speak too soon.

Inflation which had been a real problem has now been brought under control at 6 percent and the monetary authority is now aggressively easing its policy having cut benchmark interest rates last month for a sixth time to help companies ?cope with difficulties in production and business,? even as the World Bank warned against easing too soon. Interest rates are now down from 22 percent last year. Deposit rates have been capped at 9 percent and interest rates at 15 percent. The currency has also stabilized through a number of administrative measures and the currency black market has essentially been abolished.

Also according to Bloomberg, the benchmark VN Index (VNINDEX) has risen 18 percent in 2012, the first advance in three years, as the central bank reduced borrowing costs amid signs inflation was under control. The market trades at 10.6 times estimated earnings, below the five- year average of 11.2 and the lowest among the six Southeast Asian markets tracked by Bloomberg. Earnings per share for the 308 companies on the gauge are expected to rise 9.3 percent this year, and profit growth is forecast to double to 18 percent in 2013. Despite these figures, average daily trading volume has fallen sharply to a low point of 34 million USD in October 2012.

Domestic markets are opening up….?

Mutual funds have just been authorised in Vietnam for the first time and the outlook for the asset management industry has to be positive. The market will certainly attract allocations as part of ASEAN, however today Vietnam only represents 1 percent of the CIVETS index and does not even register on MSCI Emerging Markets.

If the Philippines and Indonesia are anything to go by, buy now, sell after the event?

While Vietnam will not change overnight, the run up to index inclusion and a favourable sovereign rating should lead to a market rally that presents a significant opportunity in the context of ASEAN investments.

We like the look of the deeply discounted investment trust sector, but longer term picking the right manager over the longer term will be crucial as the performance records of the main players do vary significantly. For further information on Milltrust?s Research and Advisory, please contact info@milltrust.com

Simon Hopkins, January 2013