Indonesia and the Philippines are the two South East Asian stock markets benefiting most from investors' return to emerging markets this year, with foreign funds undeterred by them becoming the region's most expensive markets.
"We're not so concerned about valuation," said Sean Taylor, Asia Pacific chief investment officer at Deutsche Asset Management. "We are looking for strong business models which can withstand the headwinds."
So far investors have reaped a 13-percent gain since the start of the year in Indonesia, and a 5-percent gain in the Philippines, versus the MSCI emerging Asia index's rise of 3 percent.
Indonesia also compares well against the MSCI Emerging Markets index, whose 7.7 percent gain this year has been largely fuelled by Latin America's comeback, after the index fell 17 percent in 2015.
Like the Philippines, Indonesia has a consumption-led economy, whose strong domestic demand cushions the impact of slow global growth. They are also blessed with governments that are spending big on infrastructure.
"Major global macro drivers, such as the U.S. Federal Reserve, U.S. dollar and oil prices, are likely to be headwinds as the year progresses, notwithstanding sequential improvement in China's economic momentum," Deutsche's Taylor said.
"Comparatively, Philippines and Indonesia are more attractive due to their private consumption driven economies."
Foreign buying has helped make them the most expensive major share markets in Southeast Asia, with prices at 2.97 and 2.82 times book value respectively, according to Thomson Reuters Datastream.
While high in absolute terms, investors reckon both markets can go further as they remain below their March 2015 peaks, when Indonesia's market was 3.6 times its book value and the Philippines stood at 3.39 times.
INDONESIA LIBERALISES, PHILIPPINES VOTES
So far this year, according to Credit Suisse data, foreign investors have bought $427 million of shares in Indonesia, after selling $2.7 billion in 2015.
Indonesia's push to open previously closed sectors, such as telecom, power and business services, to foreign investors has helped make it more attractive, Blackrock said in a March 30 note.
Indonesian companies that fit these themes have seen strong growth. Conglomerate PT Astra International has surged 27 percent this year, PT Telekomunikasi Indonesia has risen 18 percent and cement manufacturer Holcim Indonesia is up 16 percent.
Trends favour the Philippines after foreigners' net sales of $1.2 billion in 2015, but it was still showing net sales of $7 million for the year so far.
Investors will want to see whether whoever wins next month's presidential election can keep the economy performing at the high levels set by outgoing president Benigno Aquino.
"There is a risk that growth could taper off immediately after the election, particularly in 2017, if the new administration advocates sharp policy changes," Joseph Incalcaterra, economist at HSBC, wrote in a note last month.
Amy Leung, research analyst for emerging and Asian equities at Newton Investment Management, a subsidiary of BNY Mellon Investment, saw compelling fundamentals favouring the Philippines.
"Philippines is likely to be in a sweet spot in the coming years as its banking system is under-leveraged, and it has one of the youngest populations in Asia," she said.
Newton is overweight Philippines snack food company Universal Robina Corp and conglomerate GT Capital Holdings Inc due to their growth potential.
CHEAPER FOR A REASON
Neighbouring Malaysia and Thailand have lower valuations. Prices are at 1.7 times book value from 1.99 a year ago in Malaysia, the region's cheapest major market, and 1.97 from 2.2 in Thailand - but they are cheaper for several reasons.
In Malaysia, rising inflation is limiting consumption, and the scandal surrounding state fund 1Malaysia Development Berhad and a change of central bank governors in May are adding to uncertainty, Deutsche's Taylor said.
Thailand is in danger of losing out as several foreign companies are moving manufacturing facilities from Thailand to other countries, like Vietnam, and demand for some major export items, such as hard disk drives, is dwindling, according to Phil Lee, head of Asia-Pacific research at Mirae Asset Management.
High household debt levels are a problem common to both Malaysia and Thailand, according to Kum Soek Ching, head of Southeast Asia research at Credit Suisse Private Banking in Singapore, and that has added to foreign investors' caution.
