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From beauty products to bicycles: the promisinglandscape of Asian small caps
Why they warrant the attention of global investors
By Grace Yan, Asian Equity Senior Portfolio Manager
9 July 2024

South Korea’s “indie” cosmetics brands: vibrant alternative to large
conglomerates
It’s no secret that the global beauty industry has come to be dominated by smaller South Korean players. The “hallyu”
wave, also known as the Korean wave, started in the 1990s and ignited the global popularity of South Korean culture
and entertainment. Today, this includes beauty trends, blazing a trail across the world with their “K-beauty” skincare
and cosmetic products. Terms like “glass skin” have become established globally among the beauty-conscious, alongwith the 10-step skincare routine prescribed to achieve the hydrated, glowy look.
South Korea may be known for its large conglomerates dominating global industries such as automobiles andsemiconductors. But in cosmetics, independently owned and operated South Korean “indie” companies are punching
above their weight and making an impact both domestically and globally. An example is iFamilySC Company Limited,which has seen much success through its leading brand Rom&nd. Rom&nd stems from the name of one of Korea’s
top beauty creator Saerom Min who founded the brand together with iFamilySC. Launched in 2016, the brand’s
success can be attributed to its ability to quickly react to trends, grabbing the attention of the MZ (Millennials andGeneration Z ) consumers with their catchy marketing as well as strong product portfolio. Rom&nd is ranked among
the top brands in Olive Young, South Korea’s leading health and beauty store chain, for cosmetics as well. The
company also actively uses pop-up stores as a marketing channel, something that resonates well with the youth today.
Its pop-up store in South Korea, set up in April this year, was estimated to have attracted 40, 000 visitors over 12 days,
serving as a good marketing tool. The company is also making waves abroad. According to the media, 300,000 of its
cosmetics items stocked at Lawson convenience stores sold out in three days in Japan when Lawson had initially
expected the stock to last two months 1.

Any reference to a particular security is purely for illustrative purpose only and does not constitute a recommendation to buy, sell or hold any security.
Nor should it be relied upon as financial advice in any way.

1 IT Media Business Online, 10 April 2023, Toyo Keizai Online, 2 September 2023

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FROM BEAUTY PRODUCTS TO BICYCLES: THE PROMISING LANDSCAPE OF ASIAN SMALL CAPSSouth Korea’s indie cosmetics companies have shown an ability to react quickly and capitalise on changing trends.
These small-cap companies have established a presence in South Korean and global cosmetics markets (Chart 1).
Chart 1: South Korea’s “indie” cosmetics companies have seen increasing market share

10

10

10

5

5

5

5

5

5

0

0

0

0

0

0

Sun care: market share of non-major
South Korean brands

35

40

2022

2021

2020

2019

2018

2017

2016

2015

2014

30

Global beauty market (LHS)

Global beauty market (LHS)

Global beauty market (LHS)South Korea (RHS)

South Korea (RHS)

South Korea (RHS)

Source: CLSA, Euromonitor

The main reason for their rapid growth can be attributed to their quick response to market trends and ability toeffectively leverage online marketing channels. Silicon 2 Company Limited is one such company that has been
facilitating this growth. It operates an online-based K-beauty platform, “stylekorean.com”; it has grown into a leading
B2B wholesaler, focusing on distributing independent Korean (K-indie) cosmetics products in the global market,
offering more than 300 brands to over 170 countries.

Smaller companies have demonstrated swift response to trends
Successful Asian small caps can be found across the entire region. These companies have shown strong innovation
as well as ability to respond quickly to trends. Giant Manufacturing Company Limited in Taiwan, for example, has
exhibited adaptability and agility, allowing them to swiftly respond to emerging trends and technologicaladvancements.
Giant: global leader in a low-growth industry
Giant Manufacturing Company Limited is a leading bicycle manufacturer which has made its mark by becoming a
global leader in a low-growth industry. Since 2011, its median sales have been more than twice that of the industry;
with a median ROE of 20%, it has demonstrated sustainable returns (Chart 2). Giant’s innovative adoption oftechnology—it was a pioneer in using carbon fibre and aluminium for bicycles—and its commitment to quality andaffordability has made the Taiwanese company one of the largest bicycle manufacturers in the world.

Any reference to a particular security is purely for illustrative purpose only and does not constitute a recommendation to buy, sell or hold any security.
Nor should it be relied upon as financial advice in any way.

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(%)

35

2013

2022

10 10

2021

15

10

2020

15

2019

15

2018

15 15

2017

20

15

2016

20

2015

20

2014

20 20

2013

25

20

2022

25

2021

25

2020

25 25

2019

25

2018

30

2017

30

2016

30 30

2015

30

2014

(%)
40

2013

(%)
(%) (%)(%)
Colour cosmetics: market share of
Skin care: market share of non-major
40 40
40
40
non-major South Korean brands
South Korean brands
35 35
35
35

2

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Chart 2: Giant has consistently outperformed the broader industry
25%

Median since 2011

20%
20%

15%
10%
5%

7%

3%

0%
Giant sales growth

Giant ROE

Global bicycle
market sales growth

Source: Bloomberg, HSBC calculations

Small caps: avenue for sustainable returns and diversification opportunities
In the ever-evolving investment landscape, small-cap stocks in Asia have emerged as a promising avenue for investors
seeking sustainable returns and diversification opportunities. These companies operate in markets with huge
potential and economic development. In the following paragraphs, we provide other reasons why Asian small-cap
stocks warrant the attention of global investors.
Provide access to a large, expanding universe
With over 9,500 small caps 2, Asia (excluding Japan, Australia and New Zealand) boasts five times more small-cap
stocks than the US. Small caps also play a more prominent role in Asia’s markets. For example, more than 90% of thecompanies listed in South Korea and Taiwan are small caps, compared to 55% in the US. Furthermore, the universe oflisted Asian small caps is experiencing dynamic growth. The number of small caps in Asia has grown by 17% since2021; in comparison, the US and Japan have seen their small cap numbers each shrink by 7%.
Compared to other global regions, Asia has a bigger universe of small-cap stocks, with these companies often
operating in markets rich with untapped potential. These entities provide exposure to regions undergoing substantial
economic growth and development.
Best placed to capture fundamental change
Asian small caps offer more than just short-term gains; they strategically position a portfolio for future growthpotential by capturing fundamental change, in our view. As these companies evolve and prosper, they stand a chance
to become tomorrow's industry leaders. For instance, 15% of the small-cap companies from 2015 have graduatedinto medium or large-cap status. Moreover, small caps have demonstrated a capacity to generate strong returns, asevidenced by the NIFTY small-cap index in India, which has provided an annualised return of approximately 50% since2020. India displays a high amount of fundamental change, such as structural reforms in the form of digitisation, as
well as growth in infrastructure, which has led to reducing logistics costs (please see "India's transformational trends") .
Using MSCI Asia ex Japan small cap as a base, we can see that small caps offer higher exposure to attractive growthareas such as India at 31% compared to MSCI Asia ex Japan cap index at 20%. By sector, we see small caps having
higher exposure to industrials, with 18% compared to only 7% in the large cap index. 3 Industrial sectors often
experience significant growth during economic expansions and offers exposure to sectors involved in innovation andinfrastructure.

Any reference to a particular security is purely for illustrative purpose only and does not constitute a recommendation to buy, sell or hold any security.
Nor should it be relied upon as financial advice in any way.
2 Companies with market capitalisations of over US dollar (USD) 100 million but less than USD 2 billion
3 MSCI as of May 2024

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Present high growth potential
Asian small-cap companies typically possess significant growth potential. With the rise of emerging markets andeconomies, these companies are well-positioned to capitalize on expanding consumer bases and increasing demandfor products and services.
Earnings growth among Asian small caps has been stronger than that of medium and large caps. Small caps haveseen an annualised EPS growth of 10% since 2012, compared to 6% for medium and large caps. India provides anexample of small cap outperformance. The country accounts for only a quarter of the small caps in Asia. However,India’s small caps represent roughly half of Asia’s highly profitable small caps with ROEs greater than 20%.
It is worth remembering that 20 years ago Nvidia was a small cap company; today, it has a larger market capitalization
than entire stock markets such as those of South Korea and Taiwan. Within Asian small caps, there are many
companies displaying high growth and profitability. South Korean semiconductor equipment manufacturer Hanmi
Semiconductor is an example of a company that saw its market capitalisation increase from USD 890 million to USD
12.1 billion within 18 months (from January 2023) thanks to robust sales growth. Looking at the universe, 60% of
Asian small caps have beaten the FTSE Asia Index excluding Japan, Australia and New Zealand in the last five years.
Give access to simpler corporate structures
Small caps often maintain a simpler corporate structure, focusing on niche markets rather than spanning multiple
business units like conglomerates. This simplicity can be more appealing to investors who prefer to invest directly in
specific segments and would be willing to pay higher valuation multiples due to the undiluted, stronger growth
profile. Domestic investors also tend to invest in small caps within their home markets, as they possess a better
understanding of these entities.
Allow for a balanced risk profile
In our view, having Asian small-cap stocks in the portfolio does not increase the overall portfolio risk and offers higher
returns. In the past five years ending May 2024, MSCI Asia ex Japan small caps index has delivered 54.9% returns in
USD terms compared to 12.8% for MSCI Asia ex Japan index in USD terms. From Chart 3, we can see that the FTSE
Small cap Asia excluding Japan index does not demonstrate significant volatility compared to the FTSE Asia excluding
Japan index. By investing in smaller companies, investors can effectively spread their risk and yet retain upside.
Chart 3: Rolling volatility of Asian small caps vs large caps

50%

1-year rolling volatility - weekly return

45%
40%
35%
30%
25%
20%
15%
10%
5%
0%
Jan-2007

Jan-2009

Jan-2011

Jan-2013

Jan-2015

FTSE small cap Asia excluding Japan

Jan-2017

Jan-2019

Jan-2021

Jan-2023

FTSE Asia excluding Japan

Source: FTSE Russell, Factset, HSBC
Any reference to a particular security is purely for illustrative purpose only and does not constitute a recommendation to buy, sell or hold any security.
Nor should it be relied upon as financial advice in any way.

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FROM BEAUTY PRODUCTS TO BICYCLES: THE PROMISING LANDSCAPE OF ASIAN SMALL CAPSShow ability to outperform under varied conditions
It is a commonly held belief that small-cap stocks tend to outperform only when interest rates are low, and liquidity
is ample. Historical data from the US and EU markets seem to corroborate this view, especially during periods when
the Federal Reserve and the European Central Bank have raised interest rates, often leading to a less favourable
environment for small-cap stocks given the assumption that they carry more debt compared to their larger
counterparts.
However, the performance of small caps in Asia challenges this assumption. Despite rising interest rates since 2022,
Asian small caps have shown strong outperformance, with the MSCI Asia ex Japan small caps showing 1.93% in USD
terms (until May 2024) compared to -9.76% for the MSCI Asia ex Japan in USD terms. We think that this could be
attributable to Asian smaller companies having several factors which mitigate the negative impact, such as strong
domestic growth, as well as exposure to areas of growth. Key among these are advances in artificial intelligence, shifts
in global manufacturing dynamics, and the evolution of consumer habits in the region. In addition, within the small
cap universe, we do see companies with strong balance sheets, which reduces the need for financing when rates arehigh. These factors provide a robust foundation for growth, enabling Asian small caps to thrive even when traditional
economic indicators might suggest otherwise.

Summary
Small caps in Asia offer, in our view, an array of opportunities for those seeking high growth potential without
significantly changing portfolio risk. These companies, found among emerging markets, present a chance to invest
in the future economic powerhouses of the world. The strategic positioning, high growth potential, adaptability, andinnovation of Asian small caps make them a compelling choice. Moreover, their simpler corporate structures andbalanced risk profiles further enhance their appeal. Despite common misconceptions, Asian small caps havedemonstrated consistent outperformance, even under varying market conditions. This underscores their resilience,
ability to harness fundamental change and potential for sustainable returns. Therefore, Asian small caps should beseriously considered by investors worldwide in our view.

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