a man on a precipice

Along with its horrific human toll, the Covid-19 pandemic brought widespread disruption that will continue to shape the investment landscape in the new year. On the bright side, there’s hope that mass dissemination of vaccines will alleviate the global health crisis and revive economic growth.

Apart from the initial market shock in March that caused all sectors to plunge, the pandemic has had mixed results for equities. Selected growth stocks surged in 2020, especially in the technology sector, amid the shift to remote working, shopping and education. At the other extreme, industries such as airlines and hotels sustained devastating losses and saw plummeting stock prices.

While technology stocks have soared, there’s concern over sky-high valuations. This leaves value-oriented money managers seeking bargains among beaten-up companies whose fortunes should improve as vaccinations and pent-up demand bring consumers out of isolation.

As always, advisors should position clients in core asset classes to provide a solid foundation regardless of what direction markets take. Beyond that, key considerations revolve around whether to favour equities with superior growth prospects that are trading at lofty earnings multiples, or to emphasize more modestly valued market segments such as cyclical stocks that should benefit from an economic revival. Another important decision is whether to reduce fixed income exposure amid historically low yields for high-quality bonds.

Investing in innovative growth companies has proven to be a great complement to portfolios, said Lisa Lake Langley, president, CEO and founder of Toronto-based Emerge Canada Inc.

“The pandemic has accelerated the need globally for technology across all sectors,” said Langley, whose firm’s five actively managed ETFs launched in July 2019 were among the hottest performers of 2020.

The flagship of what is one of the industry’s newest and smallest ETF families is the $115-million Emerge ARK Global Disruptive Innovation ETF, which returned 130.8% in 2020. Managed by New York-based ARK Investment Management LLC, the leading-edge technologies that the Emerge ETFs invest in include artificial intelligence, energy storage, automation and robotics, genomics and biotechnology, and financial applications.

Langley acknowledged that for all but the most risk-tolerant clients, no one’s portfolio should be entirely invested in disruptive innovation. “This is a growth accelerator for a portfolio,” she said. “When you have a portfolio of 100% technology, you’re going to be subject to tremendous volatility.”

Paul MacDonald, chief investment officer with Oakville, Ont.-based Harvest Portfolios Group Inc., shares the belief that the secular growth trend in technology will continue. But he expects a shift away from the biggest companies. “What we’ve started to see recently is some of your other players that are in the technology space playing catch-up.”

While growth-style stocks have outshone value stocks in recent years, at some point — perhaps in 2021 — there will be a change in market leadership. “I wish I had a clock that specifically said what time,” MacDonald said. “But we do think that there’s opportunity in some lagging sectors.” Among them, he said, is U.S. banks, assuming a recovering economy and greater visibility of earnings.

The greatest potential for gains are in those areas of the economy that have been hit hardest by Covid-19 restrictions. “Definitely one of the areas that has been impacted more by the pandemic than some of the other areas is travel and leisure,” said MacDonald. “I think there is a lot of pent-up demand for that. I think people are looking for a bit of an escape and I think that having the vaccine and having the economies reopen really does open the opportunity for people to resume their lives again.”

The bigger-picture decision for 2021 is striking the right balance between equities and fixed income. “Optimism on the economic front, and a supportive liquidity backdrop, lead us to favour stocks over bonds right now,” said Ian Riach, senior vice-president and portfolio manager, Franklin Templeton Multi-Asset Solutions, with Toronto-based Franklin Templeton Investments Corp. Riach is co-manager of the Franklin Multi-Asset ETF Portfolios and the Quotential portfolios, which partly use ETFs.

Speaking at Franklin Templeton’s 2021 outlook conference held online in December, Riach said that he and his colleagues favour foreign stocks over Canadian names. This is because of the concentrated nature of the Canadian economy and the stock market. “There are more opportunities for diversification in the U.S., and more opportunities for growth in emerging markets.”

Riach cautioned against abandoning bonds altogether, because this asset class tends to dampen volatility and acts as a diversifier. “We do believe, though, that bonds need to be actively managed, and investors need to be selective regarding regions and other sectors.” Examples of interest-bearing securities that Franklin Templeton managers have employed to enhance yield include high-yield bonds, Maple bonds (Canadian-dollar-denominated securities of foreign issuers) and floating-rate bank loans.

Future trends that will affect investors and ETFs was the topic of a Nov. 30 panel discussion held at a conference run by London, U.K.-based ETFGI LLP and moderated by ETFGI managing partner and founder Deborah Fuhr. One theme that will be critically important over the next decade is environmental, social and governance (ESG) investing, said panelist Pat Chiefalo, managing director and head of iShares with Toronto-based BlackRock Asset Management Canada Ltd.

Chiefalo told the virtual conference that, in addition to newer ETFs that have ESG and sustainability criteria embedded in them, more traditional wealth management is heading in the same direction. “You cannot fully think about risk management if you do not incorporate sustainability.”

Jonathan Needham, vice-president, ETF distribution, with Toronto-based TD Asset Management Inc., pointed to the expansion of actively managed, outcome-oriented ETFs aimed at solving clients’ needs, whether for risk reduction or enhanced income. “About 25 cents of every dollar today goes toward active solutions. It’s certainly a trend I continue to see growing,” said Needham, who also noted the growing ranks of investors who want to express their market convictions through ETFs employing niche and thematic strategies.

As for ETF industry growth, executives expect positive momentum to continue in 2021. Sales trends proved favourable both globally and in Canada during a difficult 2020. Assets of Canadian-listed ETFs totalled $249.7 billion at the end of November, according to the Canadian ETF Association, up 24.7% from 12 months earlier.

Kevin Gopaul, head of ETFs for Toronto-based BMO Global Asset Management, cited the risks of higher inflation and the likelihood of tax increases as factors that will make fees an important consideration for  investors. “ETFs — because of the efficient fee structure, or in many cases tax efficiency, and a lot of the transparency — will help people manage risk in the portfolio, and have a more cost-effective outcome,” Gopaul told the ETFGI conference.

Panelist Michael Cooke, senior vice-president and head of ETFs with Toronto-based Mackenzie Investments, viewed the pandemic as the latest in a series of stress tests for the industry. Though there were difficult conversations with investors in early 2020 during the market plunge, “it’s like growth rings on a tree trunk, [with] more and more investors joining every year,” he said. “I think we all came out better aware, better educated and more confident in the resilience of the ETF market.”