From Jonathan Bayes, consultant Chief Investment Officer, Bentleys Wealth Advisors
Markets remain optimistic whether it be in response to the easing in social restrictions around the world, or whether it simply be due to the surge in financial market liquidity offered by central banks in response to the shock of the virus.
Our sense is that it’s likely the latter, but that as the market rallies further, investors begin to convince themselves that the return to normalcy might in fact be more seamless than it is likely to be in reality.
Big technology stocks in the United States continue to dominate performance and deservedly so since the impact of social-distancing and the slump in consumer demand felt more widely around the economy has barely tarnished revenues within the tech-sphere.
Investors are rapidly escalating their chase for ‘growth’ as one might have expected, but that chase only made these winners all the more concentrated in investor portfolios and more dubiously, on higher valuations than pre-COVID 19’s outbreak.
The gap between ‘growth’ and ‘value’ stocks has now pushed to the widest level in decades and has now led one leading market pundit (Clifford Asness at AQR Capital) to opine that the likelihood of relative outperformance of ‘value’ as a style is as strong as it has been at any point in 50 years.
Given that markets regularly make a mockery of consensus positioning, we are watching this situation closely and feel some sympathy toward the view, having built portfolios in recent months on the basis of resilience as distinct from ‘growth’ specifically.
The month of May is likely to be an oasis of calm in the ongoing storm.
Societies are re-opening and in many countries the generous government subsidies, such as Jobkeeper in Australia, are doing an impressive job of stopping economies falling deeper into the recessionary abyss headline unemployment numbers would suggest we might otherwise be deeper into.
Alongside loan forbearance, the promise of the $1500 per fortnight Jobkeeper supplement has deferred even more immediate economic pain until Q4 2020, giving investors further reason to suspend their pessimism.
All of this being said, we retain a cautious outlook and remain unable to look past the significant demand shock the impacts of the virus will likely have on the global economy and on the relative inefficiency under which businesses and households will operate at least until a vaccine is discovered.
Some have referred to it as the ‘90% economy’ and I think this is a good description.
Think of it this way – for the last decade with the collapse in interest rates and the uptick in economic growth in the U.S following the huge U.S fiscal stimulus post the election of President Trump, economies, companies and households alike have been encouraged to optimise their balance sheets by taking on more leverage.
In the new world, or until a vaccine is available at least, economies and businesses and households will operate in the opposite manner with the focus on resilience.
Businesses will require more equity capital to protect them against any further tightening of social interactions and higher inventory will be held to protect against supply chain disruptions, which infers lower profit margins and lower return on equity.
How we work and interact in society will continue to be heavily restricted, meaning higher cost or time inefficiencies will be created.
Jobs will be lost that aren’t recovered.
This is where we think things land during the 2H of 2020, and for that reason we continue to view this rally as an opportunity to re-build portfolios with a focus on ‘resilience’, less on ‘growth’ per se, although the terms are not mutually exclusive.
Observations for the past week
Pendal (PDL) interim results
- PDL results were in-line or slightly ahead of analyst expectations and this has helped the shares jump a further 7% in Monday trading, following a +10% rise the previous week
- Whilst funds under management were impacted by the sell-off during the March quarter, we were pleased to see that 70% of PDL funds managed are now ahead of their benchmarks on a rolling 1-year view
- Where investors are willing to pay a large premium for the strong growth achieved by Magellan (MFG), PDL currently trades on HALF the valuation (12x vs 24x) and with a far more modest % of earnings coming from more volatile performance fee streams
- PDL has ~$100m in net cash and a further $200m in capital invested in new fund products, comprising almost 15% of the value of the company, and if excluded from valuation would leave PDL looking even cheaper on 10x 2021 earnings and with a 7% dividend
- We were pleased with the result and believe the stock is past the worst and remains excellent ‘value’ even after its +90% bounce from lows made in March
Macquarie Group (MQG) results
- MQG remains a market darling and has bounced +10% following indifferent full year results reported on Friday, perhaps in large part due to its continued balance sheet strength relative to retail banking peers
- Full year profit missed expectations modestly and the final dividend of 180c was lower than most expected by roughly 30%, however Tier 1 capital of 12.2% compares favourably to regulatory requirements and major bank peers all of whom are lurking around 11% and with the expectation of further falls as credit quality suffers further
- MQG relied more heavily on one-off income in his result (18% of revenues as against a more normal 10%) and analysts expect these profits to be harder to find in the years ahead
- With the fall in asset values on which for MQG to generate management fees and the expected slowing in market activity, MQG are set to see revenues fall -15% to -20% in 2021, which is intriguing since the rebound in its share price now leaves the stock back near the high end of its forward valuation range at 16-17x earnings
Chart on Australian ‘Growth’ and ‘Value’
- As per remarks made above, the chart below demonstrates quite clearly the expanding gap between valuations of Australian ‘growth’ stocks (such as CSL, Afterpay etc) and those of ‘value’ (banks, miners, telecoms etc)
- Australian ‘growth’ (orange in the chart) stocks now trade on 27x current expectations whilst ‘value’ (yellow in the chart) is on its low at just under 11x.
- The phenomenon is a global one, and investors will be well reminded that equity valuations are a function of future returns. Whilst secular ‘growth’ stocks deserve a premium rating in a low-growth world, the punishment for missing investor expectations that comes with a more highly valued share price is the inherent risk.
|Monday||AU Pendal (PDL) results|
|Tuesday||AU AMCOR (AMC) results, AU NAB Business Confidence (APR), US NFIB Small Business Confidence (APR)|
|Wednesday||AU Commonwealth Bank (CBA) trading statement, AU Westpac Consumer Confidence (APR)|
|Thursday||AU Xero (ZRO) results, AU Employment (APR), US Weekly Jobless Claims, US Weekly Bloomberg Consumer Confidence|
|Friday||US Retail Sales (APR), US Empire Manufacturing (MAY), US Michigan Consumer Sentiment (MAY), CH Retail Sales (APR), Industrial Production (APR)|
This week will be interesting for the corporate results we get from each of PDL, AMC, CBA and XRO, but also for the continued glimpse into real time economic performance both here and abroad.
At some point this week Chinese April monetary aggregates will be released also.
May will be a very interesting and important month for markets as we will get a sense for the willingness of communities to return to more normal behaviours, but also because , in the United States at least, there will be a neat quiet period where society re-opens and before we get the chance to see whether that re-opening triggers and escalation in coronavirus cases.
Friday 5pm values
|S&P / ASX 200||5391||+146||+2.7%|
|Property Trust Index||1148||+55||+5%|
Friday closing values
|U.S. S&P 500||2929||+99||+3.3%|
|Mon 11 May||n/a|
|Tue 12 May||n/a|
|Wed 13 May||n/a|
|Thu 14 May||n/a|
|Fri 15 May||n/a|
Tuesday 12 May 2020, 10am
For more information on the above please contact Bentleys Wealth Advisors directly or on +61 2 9220 0700.
This information is general in nature and is provided by Bentleys Wealth Advisors. It does not take into account the objectives, financial situation or needs of any particular person. You need to consider your financial situation and needs before making any decisions based on this information.