The global economy has shifted dramatically compared with a year ago, when international equities were making solid gains even while trailing their North American peers.
The predominant challenge now is whether countries can reopen their economies safely and sustainably post-pandemic. As government debt levels skyrocket due to fiscal support measures and depressed business activity, the path forward seems bumpy at best.
There also are issues predating the pandemic. While trade talks and geopolitical spats have taken a back seat to Covid-19, they haven’t disappeared.
As the International Monetary Fund stated in its June 2020 global outlook report: “Beyond the pandemic, policymakers must co-operate to resolve trade and technology tensions that endanger an eventual recovery.”
As of Aug. 5, the MSCI EAFE index was down by 7.92% year-to-date; the MSCI All Countries Europe index was down by 8.79%; and the MSCI Emerging Markets index USD was down by 1.04%.
As of the same date, the MSCI North America index was up by 3.80% year-to-date and the broader indexes were essentially flat: the MSCI World was down by 0.11%; and the All-Country World was down by 0.20%.
“Coming into 2020, the previous year was actually a strong year for global markets,” says Marina Pomerantz, portfolio manager, U.S. and global equities, with Toronto-based Invesco Canada Ltd. and co-manager of the $1.2-million Invesco Global Diversified Companies Fund.
Despite “very onerous rhetoric” tied to geopolitical and trade tensions, Pomerantz adds, resolution seemed possible regarding U.S.-China relations and Brexit negotiations, for example.
Pomerantz anticipated a benign, if not more positive macroeconomic climate for this year in general, and focused on themes such as shifts in the global supply chain for many companies and the effects of automation and technology investment on manufacturing.
“These trends really stemmed from trade disputes,” Pomerantz says. “For a lot of companies that relied on China, Asia and even Europe to manufacture goods and add value to products that were then sold in the U.S. and Americas, the trade war rhetoric underscored for many CEOs that they needed to diversify their reliance on [those regions].”
These themes persist and Pomerantz continues to monitor them. Other trends include the growing autonomy of emerging markets and development of fifth-generation wireless (5G) technology.
The latter two items, Pomerantz says, reflect the fact that “China’s ambitions over the next five to 10 years are really to become a leader in advanced technological manufacturing” through developing “highly complex networking equipment.”
According to the IMF’s report, China remains on track for success. The country was already rebounding from the pandemic in April and the IMF anticipates China’s economy will grow by 1% in 2020 and by 8.2% in 2021. That compares with negative 2020 growth anticipated for all other countries tracked by the IMF.
Pomerantz, a fundamental, bottom-up investor, also is interested in burgeoning consumer habits, especially after Covid-19.
“The e-commerce trend [has] just accelerated,” Pomerantz says, which has been a boon for top holdings in the Invesco fund, such as China-based Alibaba Group Holding Ltd. That company accounted for 5.13% of the fund’s holdings as of June 30, and is a long-time favourite.
Alibaba, as the leading e-commerce name in China, Pomerantz says, controls “about two-thirds of the e-commerce sales value. [The company is] multiple times larger than its next-largest competitors, including JD.com.”
Based on both China’s government efforts to prioritize internet connectivity for cities of all sizes and people shopping online during the pandemic, Pomerantz adds, “the preference of consumers to shop on Alibaba has only been reinforced.”
The Invesco fund held 66 names as of June 30. The largest sector weightings were in consumer discretionary (19.07%), communication services (18.81%), information technology (16.93%) and industrials (15.74%), and the top regions outside the U.S. were China (18.34%), the U.K. (7.47%) and Japan (6.23%).
Based on equities market activity between January and June, the Invesco fund’s portfolio-management team trimmed some positions that held up during the sell-off but became overvalued. With some of that cash, Pomerantz and her team chose to “fill in some already existing portfolio positions that we felt had held in better than others.”
One company the team is positive about is Honeywell International Inc., a U.S.-based industrials company that offers technology and manufacturing support.
While Honeywell “is just shy of our top 10,” Pomerantz says, it’s a significant holding because the company is “fairly international and about 25% of its business comes from producing automation equipment for factories, manufacturers and processing industries.”
The stock was attractive, Pomerantz adds, because “we thought this company would be a big beneficiary of the ongoing [automation] trend, and we still feel this way. If anything, one of the key things that came out of this pandemic is the acceleration of technological disruption.”
From a process point of view, Pomerantz and her team look for companies they want to own for long periods. They build five- to 10-year outlooks based on research conducted over one to three months. The team also looks for businesses that can grow organically faster than the global economy, that have a dominant or growing position in their industry, and have strong cash flow.
Srikanth Iyer, managing director of systematic strategies for Toronto-based Guardian Capital LP, oversees several funds, including Guardian Global Equity Fund. It had 41 holdings as of June 30 (down from 46 earlier in the year) and assets under management of approximately $36 million.
Iyer describes his team’s investing approach as “quality growth,” and says their focus on big data differentiates them.
The emergence of big data and artificial intelligence has been a “transformational change” for investment management, Iyer explains. “We’ve always used quantitative data and analysis [to assess holdings], but the traditional ways of looking at a stock as a growth stock or a value stock has not been an effective way of classifying securities,” especially based on current global events.
“There are three big things that, I would say, are setting the framework for the next decade,” Iyer says: Covid-19 and its devastating effects on 20%–30% of the market; the collapse of oil markets and futures; and the potential for 0% interest rates for the foreseeable future.
The Guardian fund’s portfolio-management team has been using a combination of “big data, financial reporting and price information” for more than a year to predict earnings and dividend growth, Iyer says. He finds that “machine learning models overcome the limitations of traditional linear models,” leading to predictions that are less biased.
While almost 80% of the Guardian fund is invested in U.S.-domiciled companies — the next-largest regions represented are Israel and Switzerland, both around 4% as of June 30 — Iyer says the fund’s team largely focuses on where a holding’s revenue comes from.
“If you look at it from a revenue standpoint, that number goes from 80% to about 65%,” he says, pointing to U.S. companies such as Alphabet Inc. and Mastercard Inc., the latter of which garners 30% of its revenue from Asia.
As of June 30, the Guardian fund’s highest allocations were in information technology (42.94%), health care (17.25%), consumer discretionary (13.71%) and communication services (8.16%). The fund’s top holding was Microsoft at 5.07%, followed closely by Amazon.com Inc. and Alphabet (4.95% and 4.82%, respectively).
Like Pomerantz, Iyer is watching shifting consumer trends closely. “The divide between rich and poor is widening at an excessive pace in the world,” he says. Yet, demand for luxury goods, such as those offered by France-based LVMH Moët Hennessy – Louis Vuitton SE, is “a transformational, societal change” that’s managed to persist through Covid-19. (LVMH is among the Guardian fund’s top 25 holdings.)
In Iyer’s view, the way that younger generations consume and “self-actualize” will be different than previous generations, and he also believes demand cycles for luxury retailers will “explode.”
The Guardian fund’s buys and sells in the second quarter highlighted all three trends mentioned: Iyer’s team bought retail-focused companies such as Nike Inc. and Lowe’s Companies Inc., as well as names such as Switzerland-based health care giant Roche Holding AG and U.K.-based information services provider IHS Markit Ltd.
In comparison, Iyer’s team sold mostly industrial and manufacturing names, and Iyer says avoiding sectors such as energy has been a plus.
Companies that performed well for the Guardian fund in the second quarter included Lowe’s and Amazon.com, as well as consumer-focused technology providers such as PayPal Holdings Inc., Iyer says.
“While a lot of people are pessimistic and fearful of society and where things are going, I’m actually optimistic,” Iyer concludes. “The emergence of Covid-19 has [helped people] reassess what social life, family and time really means. People [may] spend in other areas, but will not stop spending — and the job of money managers is to find out where.