While Asia's major equity markets have delivered strong gains of up to 10 percent since the start of the year, one frontier market has been quietly outperforming - rising 17 percent year-to-date - making it the best performer in the region thus far.
After a 10 percent run in December, Vietnam's benchmark VN Index powered ahead in January on growing investor confidence driven by recent government action to address high levels of bad debt in the banking system and macro-economic stability.
Expectations for new measures to boost foreign investment, solid earnings growth and attractive valuations will support the market going forward, fund managers told CNBC.
"I think there is further to go in terms of the optimism, and the government proving themselves capable of handling pressures in the economy," said Kevin Snowball, CEO of the second-oldest asset management company in the country PXP Vietnam Asset Management. He forecasts a further 13 percent upside over the next 11 months.
Snowball had predicted gains of over 30 percent for Vietnam stocks in the second half of 2012; however the market declined around 4 percent over this period, due to rising concerns over bad debts among the nation's lenders.
In January, an official from the country's National Financial Supervisory Commission said a national asset-management company would be set up to purchase non-performing loans during the first quarter of 2013, according to Reuters. Vietnam is saddled with high levels of bad debt after the country's banks went on a lending spree following the global financial crisis.
Last month, in a bid to boost the equity market, the government also raised the trading band for stocks on the Ho Chi Minh Stock Exchange, the country's main stock market, to 7 percent from 5 percent, and revealed that it may increase the foreign ownership limits in some sectors - including consumer and brokerages, according to investment advisory firm GaveKal Research.
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A move such as this would provide a large boost to the country's stocks, said Andy Ho, managing director and head of investment at VinaCapital Investment Management, adding that there is a lot of demand for certain stocks, such as diary company Vinamilk, for example, which have already reached its maximum quota for foreign investment.
Double-Digit Earnings Growth
Corporate earnings will be another driver for the market, said Ho, who forecasts average earnings growth of 10-12 percent from 9 percent in 2012.
"It's getting easier for businesses to operate in Vietnam, that will put less pressure on the performance of businesses," he said, citing a stabilization in the local currency – which gained 1 percent against the U.S. dollar in 2012 - and moderating inflation.
Inflation eased to as low as 5 percent last year, after peaking at 23 percent in August 2011, enabling the central bank to cut interest rates by 100 basis points to 9 percent in 2012.
"Interest rates continue to decline, the government is asking banks to lower interest rates and make cost of capital less expensive," added Ho.
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Analysts said another clear support for the market will be its relatively cheap valuation compared to its peers in the region and own historical levels. The market is trading at around 10 times projected 2013 earnings. It has previously traded between 8 and 35 times.
"From a valuation point of view, Vietnam has far underperformed the rest of ASEAN ever since the tumble in the post-Lehman crisis – they haven't been restored back to historical valuations – on that relative basis there is some opportunity," said Vishnu Varathan, market economist at Mizuho Corporate Bank.
Constraints to Further Upside
Gavin Bowring, Southeast Asia analyst at GaveKal Research, said while he is positive on Vietnam equities over the longer run, muted credit growth in the country will be a constraint to the market's performance in the medium term.
"A lot of the long term trends in equity markets will depend on credit growth cycle which is still pretty muted at the moment," he said. Total outstanding loans of the whole banking system declined over 1 percent in January, from the previous month.
High level of non-performing loans means that banks are becoming reluctant to issue loans, he said, forecasting single-digit credit growth this year.
"Average credit growth during the previous market boom of 2005-2008 was around 35-40 percent," Bowring said. The VN Index hit its peak of 1,170 in March 2007 – about 40 percent higher from current levels.
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However, the nation's favorable demographics and rising attractiveness as a destination for foreign investment owing to cheap labor costs, continues to make it an attractive market in the longer run, Bowring added.
