The last time we spoke with our friend Doug Clayton our attention was focused on the unfolding and rapidly rising market in Myanmar, a country Doug is heading to shortly and one we’ll be returning to later this year with some friends. Chris caught up with Doug fresh off a plane from Haiti, back home in Cambodia.
Doug has lived in Asia for the past 26 years, in 5 different countries and moved from country to country as each has transitioned, or been transitioning, allowing him to pick the low-hanging fruit.
He began in Korea in 1983, then Hong Kong in 1986, Thailand in 1989, Singapore in 2001 and moved to Cambodia in 2007.
Doug has had the good fortune of visiting nearly every Asian country during the 1980’s and 90’s. This allowed him a bird’s eye view of countries in this region emerging and changing, which provided him with critical reference points to work with, something that many foreigners moving into Asia lack.
With that intro now behind us, I have had our most recent conversation transcribed below for your enjoyment. I’m sure you’ll find Doug’s thoughts enlightening… l always do.
Chris: So Doug, why Cambodia?
Doug: Nearly five years ago I saw that Cambodia was a country that was in my view going to go from being just another “frontier market,” to being an actual “emerging market,” as so many other Southeast Asian countries have done.
Chris: Right, keen observation.
Doug: So I quit my job, I moved my family to Cambodia; I rounded up some friends and set up Leopard capital to create the first investment fund for Cambodia.
The challenging part was that the financial crisis was just unfolding and I had to raise the fund during the 2008/2009 crisis, after Lehman had gone bankrupt and all the investment banks were tottering. So it was a challenging environment, but we managed to raise this fund from over 100 contrarian investors. Now we’ve fully-invested that fund and are looking for opportunities in other frontier markets around the region.
Chris: That’s an interesting point that you bring up, discussing the Lehman collapse while we’re discussing frontier markets. With the developed world facing some very, very serious problems, as a result, almost as a defensive measure, although that’s not in our nature, we are inclined towards investing in what are somewhat uncorrelated markets, which coincidentally hold great potential. With regards to choosing unrelated, uncorrelated markets, what’s your view of Cambodia and Laos relative to the west?
Doug: Well actually I think one of the drivers of our strategy was that we started with a a very negative view of the world economy. Our Chairman is Dr. Marc Faber of the Gloom, Boom & Doom Report, and one of our Directors is Dr. Jim Walker, an Austrian school economist that was equally prescient in calling the collapse of the West. So, we were guided by an aversion to traditional investment strategies, and a desire to find defensive or uncorrelated opportunities.
The countries we focus on, like Cambodia, Laos, Myanmar, Bangladesh and Haiti are on a very different trajectory than the rest of the world economy. In most cases, they’re coming out of fifty years of gross mismanagement or war, and are just not very integrated into the world economy. They are starting at the bottom and have very little to fall. It’s like the Developed World is standing on top of a step ladder and we’re sitting on the floor.
There’s not much downside when you haven’t leveraged your economy up or relied heavily on Western consumer spending as your economic base.
So, these countries are being driven almost entirely by domestic factors or intra-regional Asian trade and investment, rather than a reliance on leverage or financial engineering, or extensive trade with Europe or the U.S.
Chris: I can’t argue with that.
Doug: So, in our view frontier markets are bottom-up opportunities, they’re not that correlated, riding on global trends or whatever. They’re isolated countries that are finally getting their act together and entering the modern world. And when investing in a country like Cambodia, there’s really no need to watch CNN or CNBC or Bloomberg because what’s driving your investment returns is so localized.
Chris: Fascinating. That’s something that Mark and I focus on.
When you’re dealing with a company for example, and you’re dealing face-to-face with the CEO and with the underlying fundamentals relevant to that particular business, then a lot of that, shall we call it noise, becomes a whole lot less relevant. It provides us with a lot more control over our investments, and certainly a greater level of confidence and understanding of that business, which allows us to ride through any events that could otherwise move us out prematurely.
I think that’s what you’re getting at here. When you’re dealing on the ground in places like Cambodia, you’re getting your information from sources that you’re accessing directly and you’re not reliant upon media and what often amounts to a lot of BS, or “marketing speak” from the news channels.
Doug: I agree completely. Our investment strategy, to give you an idea, is that we’re simply betting that these countries are going to change. They’re going to outgrow the rest of the world economy by becoming less inefficient, by improving their infrastructure or by improving their investment environment through greater political stability or more friendly regulations.
We’re betting that the forces that have powered the whole region will spread across borders as the barriers come down. So, the theme of regional integration means that you should buy the poorest house in the neighborhood and sell the richest house because the whole neighborhood is becoming more integrated and uniform.
Chris: I just want to tap into a point that you made regarding integration.
If you’re looking at integration that is forced by a bureaucracy, like that of the Eurozone and the one currency, those sorts of integrations are often at odds with market forces. We’re clearly seeing the outcome of that in Europe. Whereas if you look at Asia, there are multiple countries that have dragged themselves out of poverty, one after another.
We’re potentially seeing that taking place right now in Myanmar, where they’ve literally tried every disastrous policy one can think of for as long as I can remember. At the same time, they’ve had the ability to look around at their neighbors and see what they’ve been up to and realize there exists a better way. I wonder whether that is something they’re legitimately moving towards.
In Cambodia I actually passed on what was to become a fabulously successful real estate development three and a half years ago. At the time I preferred to allocate my capital elsewhere, which, in retrospect I clearly wish I hadn’t done. Even now though Cambodia seems relatively cheap in terms of real estate. What are your thoughts on that?
Doug: Well, like all frontier markets, Cambodia is an inefficient market. Price discovery is not easy there. That’s a favorable environment for a locally-based investor because you can stumble across some very good deals. In these sorts of countries what you do not want to do is go to the leading property agency and say, “What properties do you have for sale?” because then you pay the full market price.
Chris: Absolutely. What Mark refers to as the “gringo price” (Laughs)
Doug: But if you go in through building a local network, and you find out who needs money and needs to sell something quickly, then you get an entirely different price structure.
Chris: Yes, of course. We have friends doing that successfully in other parts of Asia and Latin America as we speak.
Doug: Secondly, like many Asian countries where there is only one city of any real size, normally the capital city, the rest of the country is an under-developed countryside.
Prices tend to be expensive in the downtown capital cities across Asia, because that’s the easiest property to access or to value. Once you get into the countryside the prices vary widely from lot to lot.
The land value can be unlocked if the government decides to build a new road, a bridge or other infrastructure. You might get ten times the upside if your remote beach suddenly has a road leading to it, for example.
So this is what’s going on. People are, as you said in your recent post, front-running liquidity, getting ahead of the infrastructure projects. That’s always a good strategy in a frontier country or market because it takes a while to get infrastructure funded and built, and all along the way there’s a value escalation. You can play that trend as a fairly easy way to invest.
Chris: I spend a fair chunk of my time in that part of the world, as you well know. If I look around Thailand, where we typically base ourselves, it seems to me that we’ve got this credit-fueled boom driving the speculation that accompanies easy credit.
I’ve noticed this in Bangkok, and places like Phuket, Pattaya, and Manila too. Vietnam is a different story, and fundamentally it makes much more sense.
As an investor, there is reason to be attracted to a market where liquidity is lacking and price discovery is difficult.
What are the credit markets in Cambodia like with regards to financing of real estate? How about the speculation that might come with credit and increased liquidity?
Doug: I should point out that Cambodia has a very under-developed banking market. Although there are 30 banks already, and new ones coming in all the time, the total loans to GDP are around 30%. It’s not a leveraged economy like we’re used to in the West.
Even during the global banking crisis of 2008/2009 no Cambodian banks had to be rescued, bailed out or shut down. Cambodia’s banks sailed through the crisis because they have conservative lending practices. As an investor in banks, or from a macroeconomic viewpoint that’s a good thing.
However, as an investor in real estate you’re on the other side of that. You’re dealing with bankers who are very traditional, very conservative; a typical loan to value ratio might be 30%. The banks only lend against land titles, so businesses or investors who have a land title to pledge can usually get some financing, particularly if it’s an urban environment where it is easier to value the land. If you want to finance something in a rural area there might be fewer banks willing to take that risk.
Doug: So, generally most investments in Cambodia are equity financed. Leverage is an exotic concept to most investors here.
Chris: Which provides me a whole lot more comfort. I mean, the risk level simply rises with leverage, everybody understands that. Buying into un-leveraged, illiquid markets provides the opportunity to have values increase with the liquidity of those very same credit markets.
You’ve spent such a long time in Asia. If you go back ten years in Cambodia and look at the banking infrastructure and credit markets that existed then, what’s your viewpoint now given what you’ve seen on the ground? How are they developing that?
Doug: The banking system is growing. The loan growth in Cambodia is impressive on a global basis. We’ve invested in the largest bank here, and they’re getting about 30% loan growth going forward, after having even higher rates in the past. Because it’s still a virgin market for the banks, there’s still a lot of relatively safe lending available. Eventually they will likely get into more exotic uses of their capital.
Like I said earlier, the main feature of the credit market in the last few years is the vast increase in the number of banks here. Cambodia operates a liberal, laissez faire philosophy towards business, where the government doesn’t get in the way and try to dictate the rules too much. Rather they open up the markets and let everybody come and the best ones can survive.
Chris: Right. What a concept huh?
Doug: Exactly! It’s really like free market capitalism the way the world used to be. Even if we compare Cambodia with Thailand, whose economy is 30x as big as Cambodia’s, there are 30 banks in Cambodia versus 15 in Thailand, and nine cellphone operators compared to just three or four in Thailand.
Cambodia has a very different approach to business than most of Asia. It forces prices down for consumers due to the free competition. The government also doesn’t intervene or distort the price signals by setting a lot of subsidies or minimum prices on things. It really is one of the most free market environments around.
Chris again… We’ll wrap it up there for this week. There’s much more to our interview, so watch your email for Part 2 with Doug, where he’ll discuss what he’s currently investing in, and where he sees the most upside coming.
“If you are eager to invest in countries that have good corporate governance, don’t invest in emerging economies.” – Dr. Marc Faber