Compass - September 2020
We talk about the US election, overlooked UK opportunities and Ian Cowie goes international.
By Annabel Brodie-Smith
I hope you enjoyed the summer. Mine took an unexpected turn with my Mother breaking her hip in early July. The good news is she’s much better and should be coming home from hospital in the next couple of weeks. It was a staycation summer for us but the heatwave luckily came when I was on holiday so lots of swimming in the river, punting and a visit to Blenheim Palace. And the good news is the boys are back in school!
This month we are heading stateside to embrace America as we look at the impact of the November 3rd presidential election. Having lived in the US for two years during my MA, I feel warmly towards the States where anyone with a good idea can work hard and make it happen. We consider whether tech stocks are overvalued as markets head lower after the recent hights or will they continue to lead the recovery Do watch my webinar where I discuss these questions with Fran Radano, in Philadelphia, Manager of North American Income and Global managers, Paul Niven who manages the oldest Investment company, F&C Investment Trust and Zehrid Osmani, Manager of Martin Currie Global Portfolio.
You can also read our American-as-apple-pie article looking at how the US will fare in the future. There are some interesting thoughts with Fran Radano commenting on the election: “The betting markets, which have proven to be much more accurate than polls, continue to forecast a victory for Democratic Party candidate, Joe Biden, albeit with narrowing odds.” As to the future of technology, the Manager of JPMorgan American Investment Trust, Jonathan Simon, believes: “Tech has rallied in the US because it is at the heart of everything we do, and this has only been increased by Covid-19.” He goes onto explain that total online retail sales in the US have expanded from just 1% in 2000 to 11% in 2019.
Investment company managers discuss their outlook for the US ahead of the upcoming election.
I only need to look at the number of cardboard delivery boxes going in my recycling (which my husband moans about as apparently he always ends up putting them in the garage) to know this online shopping trend is alive and well here too. The new normal continues this week with Covid and the six person rule in England dominating the headlines. Jean Roche, Co-Manager of the Schroder UK Mid Cap Fund, talks about this in her article on the ‘homebody’ trend - increased shopping, studying, working and entertainment at home during lockdown in the UK. She is making sure she is getting plenty of exposure to underappreciated UK -based technology or tech-enabled companies. Examples include refurbishment - she owns Dunelm, gaming - she owns Games Workshop, and my personal favourite trend although we haven't participated yet - increased pet ownership, which Jean accesses through Pets at Home.
Finally, our investment expert Ian Cowie looks at the benefits of investing internationally and focuses on the US ahead of the election. He has of course benefitted from the strong performance of Worldwide Healthcare and Polar Capital Technology, two investment companies he has invested in for more than a decade, which have a 63% and 69% weighting to the US. Despite some predictions that the US bull market will come to an end with the election of Joe Biden, Ian reminds us that the same was said when Trump became president. Ian sensibly takes the view: “Here and now, I continue to believe share prices are more likely to be driven up or down by supply and demand - such as what folk do, rather than what they say - or economic facts rather than political fiction.”
Wishing you a lovely September.
Communications Director, AIC
Investment company managers share their outlook for the US
Despite the S&P 500 recently reaching record highs and Apple’s market value topping $2trn for the first time, US tech-driven market rallies are showing signs of easing. But how are investment company managers viewing the market, what is their outlook for technology and how are they positioning their portfolios ahead of the upcoming presidential election?
At a recent media webinar hosted by the AIC, Paul Niven, Manager of F&C Investment Trust, Zehrid Osmani, Manager of Martin Currie Global Portfolio Trust and Fran Radano, Manager of The North American Income Trust, discussed the US market, implications of the election and their outlook for the US.
Their views have been collated alongside comments from Jonathan Simon, Manager of JPMorgan American Investment Trust, Gary Robinson and Helen Xiong, Managers of Baillie Gifford US Growth Trust, Robert Siddles, Manager of Jupiter US Smaller Companies and Tony DeSpirito, Co-manager of BlackRock North American Income Trust.
How could the election affect your portfolio?
Robert Siddles, Manager of Jupiter US Smaller Companies, said: “The prospect of a Democratic clean sweep should make investors nervous – this has not happened since 1992 (although that lasted only till 1994 when the Republicans regained the Senate). Higher corporate taxes and tighter labour regulation would adversely affect corporate profits. Having said that, the US system is very different from the UK or Europe and resulting policies may be diluted: the US is run by business interests and politicians interfere with this at their peril. One positive of Democrats in government, however, is that they tend to spend a lot, which is good for the economy in the short term at least. We are trying to make sure that companies in key areas that are affected by government regulation, such as health and education, are closely aligned with public policy.”
Fran Radano, Manager of The North American Income Trust, said: “The betting markets, which have proven to be much more accurate than polls, continue to forecast a victory for Democratic Party candidate, Joe Biden, albeit with narrowing odds. Nearly equally important for the Democrats is the ability to wrestle control of the Senate away from the Republicans if they want to be able to implement their platform. If both of these events were to happen, you would expect higher taxation on both corporations and high net worth individuals. Additionally, increased regulation in the financial, energy and utility sectors is likely. Conversely, a Biden Presidency would likely entail more favourable outcomes for both global trade and immigration which are important for the long-term health of the economy.”
Zehrid Osmani, Manager of Martin Currie Global Portfolio Trust, said: “The US presidential election will certainly be an important focal point for markets in the short term, and remains a highly uncertain outcome at this stage, even if polls are showing a gap opening up between both candidates. The likelihood of there being a long, drawn-out process to determine the eventual winner is also a distinct possibility. Disputes over election procedures and vote counting could once again be decided by the Supreme Court, meaning the next US president may not be known until late in 2020.”
Where are you seeing opportunities?
Gary Robinson and Helen Xiong, Managers of Baillie Gifford US Growth Trust, said: “We are excited about cloud-based infrastructure platforms such as Stripe, Shopify, Amazon Web Services (AWS) and Twilio. These businesses are helping to lower barriers to entrepreneurship. Instead of investing vast sums of money up-front in building data centres and other types of infrastructure, companies can rent access via these platforms. For example, through Shopify online retailers can gain access to all the tools they need to run their business, from order management to fulfilment. Twilio enables its customers to build communications functionality into their applications without the need for relationships with telecoms companies or millions of dollars in capital investment. It has never been easier to start and scale an online business.”
Tony DeSpirito, Co-manager of BlackRock North American Income Trust, said: “Exposure to high-quality sectors with good trends such as technology and healthcare offer us long-term growth potential, at valuations which in many cases are justified by the potential. Sectors with more deeply discounted valuations like financials and energy offer potential for outperformance, but selectivity is key given the inherent risks.”
Jonathan Simon, Manager of JPMorgan American Investment Trust, said: “On the value side of the portfolio, we like Booking.com. In March this company was in the eye of the storm, however it has responded to the challenges of Covid-19 effectively, adjusting its cost structure to the new reality. We believe the unique proposition of Booking.com, which includes apartment bookings, as well as their subsidiaries Open Table and KAYAK, will be well-placed to emerge on the front foot from the downturn.”
The US has rallied very strongly: is there further to go?
Paul Niven, Manager of F&C Investment Trust, said: “The past decade has seen the US market deliver returns significantly above other developed markets, driven by superior profitability and earnings growth. While current valuations leave little room for disappointment, the pandemic has accelerated many previous trends and consolidated the position of companies with strong financial and market positions. Looking forward, while there are clearly numerous risks, the dominance of the US market will likely continue. Valuations are high but not yet prohibitive and many of the trends which have driven US outperformance remain in place.”
Fran Radano, Manager of The North American Income Trust, said: “The market strength since the lows in March has actually been focused on a narrow subset of names largely in the technology sector. Because of this lack of market breadth, we continue to be able to find value in several industry leaders with strong cash flows trading at fair valuations.”
Zehrid Osmani, Manager of Martin Currie Global Portfolio Trust, said: “There are many ways to look at the market valuations at the moment. With regards to price/earnings (p/e) multiples, we believe that against the current sharp recession (which will be followed by a rebound in earnings), there is the risk that p/e multiples based on forward multiples do not capture a normalised level of activity and therefore of earnings. Shiller p/e multiples, which have an element of cyclical adjustment, are likely to be a more valid way to look at valuation levels during this period.
“On that basis, equity valuations are not stretched versus historic levels for European and global equities, while the US equities market is closer to the top of its historic range, but even there, one needs to consider the constitution of the index, given the sizeably increased weight of technology in the US market versus historic averages.”
Robert Siddles, Manager of Jupiter US Smaller Companies, said: “Although the overheated large-cap tech sector could be due for profit taking, the market is just fine at the moment given Fed support. It is a common misconception that stock market valuation affects the market’s direction: the key drivers are monetary policy, investor sentiment (a contrary indicator) and profits growth – as long as we have at least two of the three, the market will be inclined to rise.”
What are your thoughts on tech?
Jonathan Simon, Manager of JPMorgan American Investment Trust, said: “Tech has rallied in the US because it is at the heart of everything we do, and this has only been increased by Covid-19. While we have a significant exposure to technology, it extends beyond the tech sector itself into areas such as consumer discretionary and ecommerce, where we’ve seen a really strong digital shift in a post Covid-19 world.
“In ecommerce, the total online retail sales in the US have expanded from just 1% in 2000 to 11% in 2019, and have outpaced general retail sales by roughly 15% over the past five years. Mastercard spending data shows us that since the outbreak of Covid-19, ecommerce represents around 22% of retail sales with many new customers entering the market. In the US market, the top 10 online retailers account for 60% of ecommerce. Amazon remains the clear leader in this space: it is seven times larger than its nearest competitor and has seen huge growth through its cloud business too.”
Gary Robinson and Helen Xiong, Managers of Baillie Gifford US Growth Trust, said: “We think that arbitrary sector classifications such as ‘technology’ are of limited use, given the pervasiveness of technology today. Instead of classifying a company as a ‘tech’ stock, we categorise companies by the key societal change they are exposed to, for example the rise of online commerce, the evolution of entertainment and the application of machine learning.
“Lockdowns introduced to slow the spread of the virus have disrupted regular patterns of demand. Consumers have turned to online services for their shopping and entertainment needs. Workers have embraced digital collaboration tools, for example video conferencing, to stay connected with colleagues. Patients have increasingly been meeting with their doctors via telemedicine services. On the other hand, demand for real world services, for example travel and entertainment, has been negatively impacted. Most of our holdings have been beneficiaries of these shifts, although some have been on the wrong side of them.”
What are the key risks in US equities?
Zehrid Osmani, Manager of Martin Currie Global Portfolio Trust, said: “There are areas of the economy facing high degrees of uncertainty, such as the transportation, tourism and hospitality sectors in particular, but there are also question marks about office space usage, and ultimately real estate overhang as a result. There is also a higher likelihood of increased tax levels, both corporate and household, in the mid-term, which could weigh on economic activity. We have therefore already taken the prudent approach of increasing our corporate tax rate assumptions in our financial projections for all companies that we hold in the portfolio.”
Tony DeSpirito, Co-manager of BlackRock North American Income Trust, said: “The lockdown-driven decline in economic activity and spike in unemployment has left the US economy more vulnerable, at a time where US stock valuations are high versus their long-term history. There is less room for bad news should downside risks emerge or investor sentiment wane. We are mitigating these risks by ramping up our stock-level stress testing, and have assumed long lasting adverse scenarios when conducting research on companies.”
Gary Robinson and Helen Xiong, Managers of Baillie Gifford US Growth Trust, said: “We believe, and academic work has shown, that long-term equity returns are dominated by a small handful of exceptional growth companies that deliver outsized returns. Most stocks do not matter for long-term equity returns, and investors will be poorly served by owning them. In our search for exceptional growth companies, we will make mistakes. But the asymmetry inherent in equity markets, where we can make far more in a company if we’re right than lose if we’re wrong, tells us that the costliest of mistakes is excessive risk aversion.”
The homebody economy
Schroder’s Jean Roche explains the potential rewards of investing in the UK
Jean Roche, Co-Manager of the Schroder UK Mid Cap Fund
It is clear that UK shares are unloved. No likes, no shares, no new friend requests. The level of gloom surrounding this market is remarkable even amongst UK based investors, who, you might think, should feel more comfortable investing here.
This is not just pandemic queasiness. Although the UK economy is service-led to some extent, it is not uniquely disadvantaged by the fallout effects of Covid-19.
And indeed, the government’s support schemes such as Eat Out to Help Out have focused on supporting the more vulnerable services element of the economy.
Should we blame Brexit? Last year, we saw a similar spell of despondency when international investors shunned British shares ahead of the withdrawal deadline. Once they realised the world wouldn’t end, UK mid-caps bounced back very strongly.
We’re back there again. Global fund managers are at their gloomiest, in terms of an underweight to UK equities, in two years, according to the most recent update of a monthly survey by Bank of America.
There’s no guarantee history will repeat itself. But it seems reasonable to assume that current fears will subside as the usual brinkmanship around EU negotiations results in an agreement of sorts, and that UK share prices will rally.
One chart, from Peel Hunt, captures the story from a different angle. It shows analysts’ consensus for increases in earnings per share for certain markets. The FTSE 250 is forecast to recover with more gusto than other major markets not only in 2021E, where the data are skewed by loss making companies but, more interestingly, in 2022E, shown below.
Source: Refinitiv Datastream
The forecasts included should not be relied upon, are not guaranteed and are provided as at the date of issue. Forecasts and assumptions may be affected by external factors and are subject to change.
Valuations are also worth considering. UK small and medium-sized stocks trade at a discount of around 25% discount to similar stocks globally, based on a blend of valuation yardsticks including price-to-earnings and price-to-book.
Regardless of whether confidence returns, we’re focused on a certain characteristic of the market – the “homebody economy”.
Why the “homebody economy” is flourishing
The term will be familiar to those in the US; less so elsewhere. It is the increased shopping, studying, working and entertainment we’ve all been doing at home during lockdown. “Homebody” is no longer considered a derogatory word; it reflects a trend that’s widespread, growing, and a force to be reckoned with. Most importantly, you can get plenty of exposure to it in the UK, through underappreciated technology or technology-enabled growth companies, and their enablers.
In my world, as an investor focused largely on medium-sized FTSE 250 companies, or mid-cap, I see industries and sectors that are firmly in this space.
You will have noticed these trends yourself – the boom in pet ownership, for instance, thanks to the likely new normal of two or three days a week working from home. This shift in pet ownership has been a boon to Pets at Home, an out-of-town superstore for pet owners.
The increase in gaming has also been widely reported. With non-existent commutes and more time available at home, many people are spending more of their wages on entertainment. It’s not just desktop gaming either; table-top gaming has flourished too. The likes of Warhammer, a table strategy game previously associated with pre-teen boys, has seen demand soar. Its owner, The Games Workshop, has reaped the benefits.
Refurbishment is another trend that may resonate with anyone who has sat at home long enough to notice the rooms in dire need of a makeover. As a result, retail park-based companies such as DFS, a furniture chain, and Dunelm, a specialist in affordable and well merchandised homewares and furnishings, have seen demand rise.
All this increased working from home is only made possible by good connectivity and reliable ‘kit’ however. Homeworkers are at the whim of technology, so companies providing infrastructure and support have naturally thrived amid the homebody digital economic boom. Examples include under-appreciated UK tech companies such as Computacenter (which seems to keep upgrading its earnings forecasts) and Softcat.
Other trends are less obvious. The increase in stock market trading has been helpful to online trading companies. This is the result of a section of the population, having more time (and privacy!) to dabble, more money after saving on travel costs, and the inspiration of a breathless rally for high-profile stocks, such as Apple, Amazon and Tesla. Digitally advanced UK online financial spread betting companies, IG Group and CMC Markets, for example, have significantly expanded their audiences.
And what of office stocks? Well, these can benefit from an increasingly digital world too. IWG, the largest flexible office space platform, is well placed to respond to what is likely to be a rapidly evolving backdrop, with employees mixing and matching working from home alongside collaboration sessions in the office.
Much rests on which of these trends hold. The government has told us to go back to the office. But changes which were already happening have been accelerated by the pandemic. The shrewd investor must judge the extent to which they will persist. Only then does assessing the long-term winners and losers become possible.
Any references to companies is for illustrative purposes only and not a recommendation to buy and/or sell. The article is not intended to provide, and should not be relied on for investment advice. Information and opinions contained herein are subject to change. Reliance should not be placed on any views or information in the article when taking individual investment and/or strategic decisions. The value of investments may go down as well as up and you may not get back the amount you originally invested .
Passport to profits
The US is in the spotlight as Ian Cowie explains the importance of investing internationally
Investing internationally has rarely been more important or profitable than it is now. Fortunately, investment company shares that can be bought or sold online make it easier than ever to gain exposure to faraway markets that trade in foreign currencies while we are asleep. It makes sense to consider opportunities overseas. For example, the American presidential election on Tuesday November 3 will focus more attention on the world’s biggest economy and most rewarding major stock market in recent years.
Spare a thought for many British investors who succumbed to what City folk call ‘home bias’ and kept all their money in United Kingdom shares. The Dow Jones index of American blue chip businesses has risen by 1 per cent over the last year and 68 per cent over the last five years according to independent statisticians at Bloomberg. The Nikkei 225 index of big shares in Japan, the world’s third largest economy, has surged by 7 per cent and 30 per cent over the same two periods. Meanwhile, the FTSE 100 benchmark of British blue chips has fallen by 18 per cent and 2 per cent respectively.
While some may blame the British market’s underperformance on uncertainty about our departure from the European Union, Brexit is not the only factor. The London Stock Exchange is dominated by shares in sectors that have suffered recently - including banks, mining and oil companies. By contrast, the New York Stock Exchange features many shares in healthcare and technology. The latter even have their own index, NASDAQ, which has soared by 34 per cent over the last year and more than doubled - rebooting by 126 per cent - over the last five years.
Both healthcare and technology sectors include many companies that have actually benefited from the coronavirus crisis. The search for a vaccine has boosted investment in healthcare, while the switch to working from home has increased the amount of time and money we spend there; lifting demand for digital offices, internet shopping and online entertainment. Fortunately, individual investors don’t need to become experts in epidemiology or computing in the cloud to gain a stake in businesses that are building the future. For example, Worldwide Healthcare (stock market ticker: WWH) and Polar Capital Technology (PCT) are two investment trusts in which I have been a shareholder for more than a decade. Both are also among my top 10 most valuable holdings today. No wonder after WWH shares delivered healthy returns of 31 per cent over the last year and 91 per cent over the last five years, according to independent statisticians Morningstar. Meanwhile, PCT soared by 48 per cent and 275 per cent respectively.
It is important to remember that the past is not necessarily a guide to the future. Here and now, this DIY investor is particularly pleased to see what modest fees I pay for the professional fund management of these investment companies. According to calculations by the AIC, the ongoing charge plus any performance fee equals 0.88 per cent per annum at WWH and 0.99 per cent at PCT. Both seem bargain prices to pay for the sparkling returns I have enjoyed.
Against all that, some observers predict the presidential election might bring the American bull market to an abrupt end and, instead, usher in a period of falling share prices. Some say victory for Joe Biden, the Democrat leader, might herald an about-turn by markets. But it's only fair to point out that many also forecast doom when Donald Trump, the Republican leader, became president four years ago. Back then, analysis stretching over nearly a century showed that the American stock market had delivered average annual returns of 14.7 per cent during Democrat presidencies compared to 5.4 per cent under the Republicans. Now, as then, many market commentators seem to assume the opposite.
Here and now, I continue to believe share prices are more likely to be driven up or down by supply and demand - such as what folk do, rather than what they say - or economic facts rather than political fiction. International diversification is a simple and effective way to reduce our exposure to risks close to home, while seeking rewards wherever they may arise. One of the investment trust industry’s original objectives, during the heyday of the British Empire more than 150 years ago, was to make it easier for individuals to gain professionally-managed exposure to economic opportunities overseas.
Never mind the distant history under Queen Victoria or the immediate future under president Biden or Trump. Investment companies’ ability to help us maximise returns and minimise risks by investing internationally is as important today as it ever was.