Fund name: Matthews Asia Pacific Equity Income (MAPIX)

Objective: The fund seeks total returns with an emphasis on providing current income. They hope to achieve that objective to investing only in income-paying equities. They will, in particular, not invest in convertible bonds.

Adviser: Matthews International Capital Management. Matthews was founded in 1991 and has about $7.2 billion in assets in its eight other Asian funds. On whole, the Matthews funds offer below average expenses. With the exception of the Korea fund, the group has below average risk in Morningstar’s rating system and generally average to high returns. They also publish an interesting and well-written newsletter on Asian investing, Asia Insight.

Managers: Andrew Foster is the lead manager. Mr. Foster is also the lead manager on the India fund and co-manager for Asia Pacific, Asian Growth & Income and Asian Technology. He has been with Matthews since 1998, except for a short break to complete his MBA at INSEAD in France. Jesper Madsen is the fund’s co-manager and has worked at Matthews as an analyst since 2004.

Inception: October 31, 2006.

Minimum investment: $2500 for regular accounts, $500 for IRAs.

Expense ratio: 1.47% estimated, with a cap of 1.5% through October, 2007. Matthews has a nice arrangement by which the management fees for all of its funds are reduced at certain company-wide breakpoints rather than requiring the individual funds to achieve certain asset sizes before lowering expenses. There’s also a 2% redemption on sales of shares held fewer than 90 days.

Comments: Growth & Income. Equity Income. Foster on one. Foster on the other. One seeks "total return with an emphasis on income." The other seeks "capital appreciation with some current income." And so my preliminary conclusion: it’s a clone.

My final conclusion: not even close. Matthews Asian Growth & Income (MACSX) is one of my very favorite funds since it captures the majority of the upside in one of the world’s most dynamic regions, while dodging most of the downside. It is, by several measures, the least volatile fund investing in the Asia Pacific region. It has returned about 12% annually since inception while its benchmark has returned less than 2% annually.

Equity Income is positioned to be a substantially more aggressive offering. Closer, perhaps, to the Asia Pacific fund (MPACX) than to Growth & Income. Among the key differences:

1. Equity Income has structural exposure to the developed markets in Asia (including Australian and Japan), while Growth & Income targets primarily emerging Asia.



2. Equity Income will not invest in convertible bonds, which are a major component of Growth & Income’s core strategy. The convertible bonds offer current income and powerful downside protection for MACSX’s portfolio. Convertibles, Mr. Foster says, are used in MACSX as a tool to mitigate volatility. Unfortunately, Asia’s convertible bond market is very small: the total value is only $25 billion and it isn’t growing. The constraint imposed was so severe that it forced Matthews to close MACSX.



3. Equity Income has a different manager. As it turns out, Mr. Foster only co-manages MACSX and, in the Matthews’ system, a co-manager functions only in the way of an emergency parachute. He or she says fully informed of the portfolio’s status and development, but has no hand in its construction. The co-manager steps in only if the manager is unavailable (for example, on account of vacation or illness).

Matthews has conducted a lot of research into Asian investing and, in particular, into the role of dividends in investment performance. Over the past 20 years, over half of the total return from the Asian stock markets has been driven by dividends. While the average yield for Asian stocks is only 1.8%, that yield is rising and is artificially depressed by Japan’s tiny 0.9% yield. Since the fund is not required to match the index weighting by country, it has the potential to generate substantially more income than does its index. Australia, the region’s second largest stock market, has a yield of 3.6% and three other countries in the region (Taiwan, Thailand and New Zealand) have average yields over 4%.

Beyond the fact that yields are an important component of the region’s total return, Matthews found that there’s substantial evidence for accelerating dividend growth because the balance sheets for the Asian firms has markedly improved. Over the past decade, for example, debt has been held constant while income has grown substantially which gives companies considerable room for heightened payouts.

Those payouts are a good thing. On the one hand, the reinvested dividends cushion performance during a downturn. On the other, Matthews argues they serve as "a form of capital diet: With less cash in the bank, management teams are forced to run their businesses more efficiently, and therefore may be more likely to avoid ill-conceived acquisitions or low-return investments." A number of studies of the US market show that dividend growth predicts a company’s future earnings growth. Matthews has found similar evidence in the Asian market.

Bottom line: If you want to invest in Asia for the long-term, the evidence says you want to invest primarily in Asian dividends. This fund offers exactly that exposure, it’s apt to have moderate risk, below-average expenses and the services of one of the best regional investment teams. It seems like a logical place for moderately-aggressive investors to look.