Global and local factors lie behind the 29.6% in the MSCI Asia ex-Japan Index in US dollars from its low on October 5 last year to February 29. (Due to a higher Australian dollar, though, the index only rose 15.6% in Australian dollars.)

The global factors are the better news on the US economy and less bad news on the eurozone debt crisis. But local factors are playing important roles too, in particular, that China and India are loosening monetary policy now that inflation is slowing. This lowers the risk of an economic crunch in either country.

In October and January, the People’s Bank of China lowered the percentage of cash that banks must hold as reserve by 0.5%, in a bid to protect economic growth – authorities are worried that the struggles of Europe and the US will hinder export growth. Beijing officials have more scope to prod economic growth because lower pork prices are helping to push down inflation towards the central bank’s comfort zone of 4%. Consumers prices rose 4.5% in the 12 months ended January, down from a recent peak of 6.5% in the 12 months ended July.

While the Shanghai Composite Index only rose 3% from October 5 to February 29,  a better guide is the Hang Seng China Enterprise Index, as it is a gauge of how foreign investors view China. This index, which tracks the shares of Chinese companies listed in Hong Kong that form the majority of the stocks in the MSCI China Index, soared 38% from October 5 to February 29.

The Reserve Bank of India surprised investors in late January when it cut the cash reserve ratio for banks to 5.5% from 6%, the first time in three years it has reduced the amount of deposits that banks must hold as reserves. The surprise easing in monetary policy comes after two years of tightening monetary policy, including 13 hikes in interest rates, to control inflation. India’s central bank is able to loosen monetary policy because inflation is less of a threat. Wholesale inflation fell to 6.6% in the 12 months to January, its lowest reading in more than two years. From October 5 to February 29, India’s Sensex Index climbed 12%. (For the first two months of 2012, the index gained 14.4%.)

Elsewhere in Asia, authorities have taken steps to protect their economies from any damage stemming from the eurozone crisis. Since the start of October, central banks in Indonesia, Pakistan, the Philippines and Thailand have cut benchmark interest rates to help their economies, while many governments have introduced stimulus measures.

Still a bargain
Even with the recent surge in share prices, Asia’s stocks are still cheaper than global stocks overall.

The price-earnings ratio for the MSCI Asia ex-Japan Index was 12.5 times on March 2 compared with 14.6 times for the MSCI World Index, according to Bloomberg data.

Yet Asia’s stocks have plenty of scope to rise further. Stocks from companies in the world’s fastest-growing region are offering an adequate dividend yield (2.6% on March 2 compared with 2.7% for the MSCI World Index) and earnings prospects are bright, especially as authorities have plenty of scope on the monetary and fiscal sides to insulate their economies from any upheavals from outside the region.

David Urquhart, Portfolio Manager of the Fidelity Asia Fund, said that after being bombarded by bad news over the past 12 months, Asian stock markets were at the second cheapest they have been in decades.

“Historically, these markets have performed well once they dropped to the recent inexpensive valuations of 11 times price-to-earnings ratio,” he says.

“Over the past 20 years, when valuations have been this low we have seen rallies on average of between 16% and 30% over the subsequent 12 months.”

China (now on a price-earnings ratio of 10.6 times as measured by the MSCI China Index) “should be able to grow 7.5% to 8% during 2012,” David says. “This market should trade closer to its five-year average of 12.8 times earnings as confidence returns about China’s ability to continue to deliver healthy economic growth.” So the rally may last a while yet.

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