Navigating uncertainty with global equities

By Jayson Forrest

Given the very different interest rate and inflation environment we are now living in, Alex Cousley (Russell Investments), Monik Kotecha (Insync Funds Management), Pruksa Iamthongthong (abrdn), and Paul Saliba (Evolutionary Portfolio Services) discuss where advisers should be looking for opportunities in global equities.

Global equity markets have been buffeted by one of the largest and fastest interest rate hiking cycles in history. This saw the MSCI (ex-Australia on a hedged basis) fall 18.1 per cent last year, emerging markets were down 14.3 per cent, and the S&P 500 was down 19.4 per cent. Not surprisingly, this affected growth stocks significantly.

Against this backdrop, Alex Cousley CFA – APEC Investment Strategist at Russell Investments – believes the risk of recession remains elevated for this year, particularly in northern hemisphere countries, where Russell Investments has already factored in a 55 per cent probability of the United States falling into recession.

However, he is less bearish on Australia, saying the risk of recession here is more moderate, as the local economy remains in a reasonably healthy position, buoyed by its trade with China.

Speaking at the 2023 IMAP Portfolio Management Conference in Sydney, Alex concedes that although the recession risk remains heightened, with Russell forecasting more volatility to come in global equity markets throughout this year, he believes there are opportunities for investors in global equities.

“Despite the risk of recession, we do think there are areas of global equities that are attractive this year,” he says. “This includes Chinese equities and lower volatility stocks.”

He acknowledges that this transition is a significant change from how investors have been investing and believes that the key to success will be delivering the types of returns investors are used to.

Notwithstanding the uncertainty of markets, Monik Kotecha – Chief Investment Officer at Insync Funds Management – agrees there are opportunities in global equities. He says these opportunities can be found in mega-trends.

Mega-trends are powerful, transformative forces that help shape and change the global economy, business and society. Monik says they are enduring tailwinds that push well run companies to success beyond the market’s expectations.

Examples of mega-trends include:

* The silver economy – An ageing global population, with the number of people over the age of 55 expected to double to around two billion people within the coming decades. The demand for products and services to address issues like chronic diseases for this demographic, will continue to accelerate.

* Pet humanisation – People are increasingly treating pets as humans, with overall spend growing at 3x GDP. Companies operating in this space have increased their sales by 45 per cent over the last two years, despite continuing market volatility and uncertainty.

When building its portfolio of 30 stocks across 16 global mega-trends, Insync looks for businesses with sustainable earnings, which ultimately drives the share price over the long-term. Monik says that if you can focus on finding businesses that are highly profitable, can deliver sustainable earnings, and have strong mega-trends fuelling their growth, then you’re likely to do well with your investments.

“If you have a portfolio of companies that have high levels of profitability, return on capital, high net margins, are debt-free, and have strong cashflow generation that are linked to a mega-trend, then we believe these are the types of companies that will thrive in what will continue to be very uncertain times.”

Pruksa Iamthongthong – Senior Investment Director at abrdn – shares Monik’s view about the importance of seeking quality companies that are able to grow regardless of the economic environment. That’s because quality companies tend to be are well-structured and managed, enabling them to take advantage of any downturn in the cycle, like purchasing assets that may be part of a ‘fire sale’, which allows them to emerge stronger as a result.

“We define quality as being companies that are able to grow in a sustainable manner. ESG is an important part of our overall quality assessment,” says Pruksa. “We look for companies that are well run and have a good track record of successfully executing their strategies. We also look for companies with a strong competitive advantage, a healthy balance sheet, and have the ability to continue to grow.”

When investing in Asian equities, Pruksa identifies six key investment themes that she believes will drive the long-term structural growth opportunities in Asia. These are:

1. Aspiration: The rising affluence in Asia is leading to fast growth in premium consumption in areas including personal care products, financial services, and food and beverage.

2. Building Asia: Urbanisation and an infrastructure boom is set to benefit property developers and materials producers, such as cement.

3. Digital future: Growing integration amid the widespread adoption of technology means a bright future for stock plays on gaming, internet, fintech, and tech services, like the Cloud.

4. Going green: Policymakers globally are committing to a greener and lower carbon future and Asia is in the driver’s seat. Plays on renewable energy, batteries, electric vehicles, related infrastructure, and environmental management all have a bright future. Grid parity will be game-changing.

5. Health and wellness: Asia is home to a diverse range of companies that are leading the advancements in biotech and medical device technology. abrdn’s holdings include plays on contract research, respiratory and sleep care, vaccinations, pharmaceuticals, and diagnostic products.

6. Tech enablers: Asia tech supply chains are well positioned for structural growth related to the rollout of 5G, big data, and digital interconnectivity.

The current environment has seen a significant dispersion in equities, with a noticeable rotation from growth to value stocks. Looking ahead, Alex believes there will be more dispersion in global equities this year. Russell has already repositioned by moving to low volatility stocks, believing that growth will be challenged in the prevailing high interest rate environment.

According to Monik, in 2022, investors were rotating into value, while the prior two years, when interest rates were at a record low, it was all about growth stocks. However, he concedes that investors are currently in a very difficult environment, where there is a high chance of recession and an expectation that interest rates will remain high. As such, he believes both the growth and value sectors will be under pressure.

“Quality has generally done very well,” he says. “If you look at the historical data, through every cycle, quality ends up still outperforming. The key here is investing in dependable companies that are able to deliver consistent profit growth.” 

However, from an Asian equities perspective, Pruksa says quality massively underperformed value last year. She believes that was due to what was happening at a macro level – such as the Ukraine/Russia conflict, China’s COVID policy pivot, and the debate over inflation and recession.

“All these factors have clouded the fundamentals. We had a dispersion in market performance last year. The north Asian markets underperformed – Taiwan and South Korea were the worst performers, followed by China,” says Pruksa. “In contrast, ASEAN markets generally outperformed, as well as India which performed strongly.”

Looking ahead, Pruksa expects market conditions to reverse. Using China as an example, she says it’s in a different position to the rest of the world. Inflation is not an issue there, while interest rates and valuations remain low.   

“China is looking attractive. Now, it’s simply a matter of how it continues to reopen. We expect that positive sentient to spill over to the rest of Asia,” she says. “I think China – along with Taiwan and South Korea – will revert. These countries have started to outperform fairly strongly, but whether they will continue to perform strongly throughout 2023 remains to be seen.”

However, Pruksa accepts there are risks when investing in China. Therefore, she says it pays to be an active investor in China and to focus on quality. But on the upside, she believes there are a lot of positive messages coming out of Beijing, which are hitting the right note with investors.

“China has been through the COVID lockdown and the regulatory clampdown on property developers. Since November last year, the key message from the Chinese Government has been consistent, which has coincided with the rise in the Chinese equity market,” says Pruksa.

“Essentially, the Government is talking about being pro-growth, and having a GDP target of 5 per cent this year. It is also talking about property stability, which follows a tough year when it clamped down the property market to reduce leverage in the economy. This year, the story in China is all about consumption, so we remain optimistic about China, but are also mindful of the risks when investing there.”

It’s a view shared by Monik, who points to the $2.6 trillion sitting in household deposits in China that needs to be spent. He believes the consumption story in China is incredibly powerful and will continue to be in the years ahead.

However, the way in which Insync approaches investing in China is through companies that produce goods and services that are highly desired by Chinese consumers. Two notable sectors are luxury and travel.

“We think there are some tremendous companies available outside of China – like the French luxury fashion house, Louis Vuitton – that give you exposure to the really powerful consumption story happening in China.”

Monik agrees there is still considerable risk investing directly in China, particularly in terms of the Government’s involvement in exerting its very powerful influence on businesses and sectors, which creates unexpected outcomes for markets and investors. 

“Issues around the governance and transparency of Chinese businesses, along with Government interference, are all factors that investors need to be mindful of when investing in a market like China.”

Alex Cousley CFA is APEC Investment Strategist at Russell Investments;

Monik Kotecha is Chief Investment Officer at Insync Funds Management; and

Pruksa Iamthongthong is Senior Investment Director at abrdn.

The session, ‘Where to look in international equities’, was moderated by Paul Saliba – Founder and Managing Director at Evolutionary Portfolio Services.