As investors, we never stop learning. If you think that you know it all, then it’s time to retire. Not all lessons are pleasant, but hopefully they will make us better at our jobs. The past three months have taught us three things: 1) We should never dismiss China, 2) The future is greener, especially in investments, and 3) Value is not dead, but is starting to look ever more like my grandmother’s fine china dining set: it gets displayed when there is something to celebrate (better macroeconomic data), only to get put back in the cupboard when life goes back to the everyday worries. These three themes will chart the course to the end of the year at the very least, and most likely to the end of the next decade.
In our last quarterly column, we wrote that the equity markets of countries that were able to resume their post-Covid-19 economic activity earlier than others would fare relatively better. These countries included China, Taiwan and South Korea. Since the end of the first quarter of 2020, and at the time of writing, the performance of the CSI 300, Kospi and TWSE indices all beat the MSCI World Index as well as the S&P 500 Index.
We also highlighted the importance of being selective from an individual stock viewpoint, as once the earnings impact became clear, we would start being able to distinguish the winners from the losers. We still stand by those statements, and were not surprised by the performance concentration that we saw over the last three months.
So, what comes next? A cooldown, if not a pullback, of equity markets is now overdue. That said, a lot will depend on how Covid-19 continues to spread.
Covid-19 is not over yet. From a global perspective, we are hitting new contagion peaks. We are therefore clearly not in a V-shaped economic recovery. For now, we believe we are looking more at a ’U’. There is a chance that this could turn into a ’W’, meaning a double-dip recession, but we see such a chance as limited. Authorities and medics around the world seem to have learned to deal better with the outbreak, and a vaccine appears closer.
As long as we do not return to extensive lockdowns, and central banks and fiscal spending plans continue to support markets, there is likely to be further support for equities. We believe it is unlikely, however, that we will have another strong leg-up, especially in the US. A cooldown period is due at this point, and possibly also some profit taking.
The next stage of market upside will have to come from the more cyclical stocks
The tech-savvy stocks that have driven the upside in both developed and emerging markets may not plummet, as their earnings are well underpinned by fundamentals, but it is difficult to see them continuing to perform at the same pace. The next stage of market upside will have to come from the more cyclical stocks. These, however, need better visibility on an economic pickup. Clearly, the all-time high in dispersion between value and growth would support the switch, and the market seems to be waiting for it.
So, what does this all mean for portfolio construction? Until the virus is under control, from a regional perspective we continue to favor countries that have been dealing more effectively with the outbreak. This means looking at North Asia and Europe. From a stock selection perspective, we have been taking profit from some of the high-flying compounders and have added to cyclicals and stocks that have underperformed, but still have solid fundamentals.
These stocks may have been wounded by the coronavirus, but we expect them to recover. We have, however, remained selective regarding the quality of those less defensive positions due to the risks of a slower recovery. Given how polarized the market has been, there are enough of opportunities to pick from without going too low on the quality scale.
We also see three clear trends unravelling as the path to normalization continues.
Firstly, our constructive position on Chinese equities, particularly A-shares, is not a consensus one. After the recent rally, and given the anti-China US rhetoric, one might wonder why we are still constructive on this market.
Besides the effective handling of Covid-19 and earlier economic recovery, there are structural reasons. China is the second-largest economy in the world and its equity market is significantly under-represented in investors’ portfolios. This is partly due to the diffidence of investors and concerns around transparency, and partly to the low inclusion of Chinese companies in equity indices.
Chinese authorities recognize that it is in their interest to further open the mainland equity market to foreign investors, and have made significant steps with the Stock Connect program and the removal of quotas on the Qualified Foreign Investor program. Such increased access should also allow for more inclusion in equity indices going forward. We also like the choice and depth of exposure enabled by A-shares.
For the rest of the year the Chinese equity market should be underpinned by improving macro data and the ongoing capital market reforms. In addition, even after their recent rally, A-shares trade not far from historical lows, in terms of valuation relative to US equities.
Short term volatility is likely, either due to the government trying to quell the animal spirits of retail investors, new outbreaks of Covid-19 or an escalation of the US-China conflict. But while we do not expect a de-escalation of the latter, particularly in the run up to the US elections, we believe the impact of such tensions on investors’ sentiment toward China is diminishing as China seems to be able to deal with everything it is thrown at.
The second trend is a pivotal shift across the world. If ‘’follow the money” is still a valid mantra, then ‘’go green” should follow suit. Sustainability is becoming increasingly important for public opinion and a growing number of governments. While governance has played a key role in investors’ minds for some years, it is now becoming increasingly clear how the environmental impact of companies will play an even bigger role on their financial outlook. Covid-19 has been an accelerator. As governments pledged fiscal support, they have made it clear that the focus will be on creating a more sustainable world ahead.
When presenting the European Commission’s EUR 750 billion economic stimulus plan, Commission President Ursula von der Leyen stated: “If it is necessary to increase our debt, which our children will then inherit, then at the very least, we must use that money to invest in their future, by addressing climate change, reducing the climate impact and not adding to it." It makes sense to me.
In Canada, large businesses that apply for government loans in the wake of the pandemic must publish Annual Climate Disclosure Reports. And while the US administration is behind those of other developed countries when it comes to sustainability, the common ground for both Republicans and Democrats is an increase in infrastructure spending. In the event of a Democratic win in November this would likely be more focused on the environment.
Emerging markets are also starting to pull their weight. South Korea recently announced a post-pandemic USD 130 billion Green New Deal investment plan to improve the environmental sustainability of the country. Whether these plans will be fully and successfully implemented is uncertain. The direction taken is clear.
For the third trend, we have all noticed the extreme polarization in value versus growth performance and valuations. Such disparity provides support for a return of value – but support is not enough. We need a trigger. For value to make a lasting comeback, we need an improving macroeconomic outlook.
This was evident by the short-lived rotation towards value seen in the second quarter. It lasted for as long as the outlook for macroeconomic data – and hence for cyclicals – improved. As Covid-19 proved difficult to contain, particularly in the US, value went back to underperforming. It has, however, shown a revival in China and the improvement of macroeconomic data will also be key there.
While any market upside predicated on a brighter future will lift of the boats of value, some are destined to never leave port, and a few will sink
But buyers be aware – while any market upside predicated on a brighter future will lift of the boats of value, some are destined to never leave port, and a few will sink. The notion of value has to evolve. The concept of mean reversion might hold true for some companies, but not for many others.
In a world of technological breakthroughs, where the services and consumption of content of economies around the world increases, retail and information flows have moved online, production processes are more about software than hardware, and sustainable practices are key, our search for value needs to be smarter. Companies that do not keep up with innovation may well stay behind and become value traps. Value is not a synonym for mean reversion anymore.
With every quarter, we learn something new. The most valuable lesson is that we need to be willing to look ahead and recognize that the future – in many ways – can look very different from the past. Not everything will mean revert, while China, sustainability and a smarter way to look at value are three of the new forces that we have to reckon with.
The contents of this document have not been reviewed by the Securities and Futures Commission ("SFC") in Hong Kong. If you are in any doubt about any of the contents of this document, you should obtain independent professional advice. This document has been distributed by Robeco Hong Kong Limited (‘Robeco’). Robeco is regulated by the SFC in Hong Kong.
This document has been prepared on a confidential basis solely for the recipient and is for information purposes only. Any reproduction or distribution of this documentation, in whole or in part, or the disclosure of its contents, without the prior written consent of Robeco, is prohibited. By accepting this documentation, the recipient agrees to the foregoing
This document is intended to provide the reader with information on Robeco’s specific capabilities, but does not constitute a recommendation to buy or sell certain securities or investment products. Investment decisions should only be based on the relevant prospectus and on thorough financial, fiscal and legal advice. Please refer to the relevant offering documents for details including the risk factors before making any investment decisions.
The contents of this document are based upon sources of information believed to be reliable. This document is not intended for distribution to or use by any person or entity in any jurisdiction or country where such distribution or use would be contrary to local law or regulation.
Investment Involves risks. Historical returns are provided for illustrative purposes only and do not necessarily reflect Robeco’s expectations for the future. The value of your investments may fluctuate. Past performance is no indication of current or future performance.
Please read this information carefully.
This website is prepared and issued by Robeco Hong Kong Limited ("Robeco"), which is a corporation licensed by the Securities and Futures Commission in Hong Kong to engage in Type 1 (dealing in securities); Type 4 (advising in securities) and Type 9 (asset management) regulated activities. The Company does not hold client assets and is subject to the licensing condition that it shall seek the SFC’s prior approval before extending services at retail level. This website has not been reviewed by the Securities and Futures Commission or any regulatory authority in Hong Kong.
2. Important risk disclosures
2. Important risk disclosures Robeco Capital Growth Funds (“the Funds”) are distinguished by their respective specific investment policies or any other specific features. Please read carefully for the risks of the Funds:
3. Local legal and sales restrictions
The information contained in the Website is being provided for information purposes.
Neither information nor any opinion expressed on the Website constitutes a solicitation, an offer or a recommendation to buy, sell or dispose of any investment, to engage in any other transaction or to provide any investment advice or service. The information contained in the Website does not constitute investment advice or a recommendation and was prepared without regard to the specific objectives, financial situation or needs of any particular person who may receive it. An investment in a Robeco product should only be made after reading the related legal documents such as management regulations, prospectuses, most recent annual and semi-annual reports, which can be all be obtained free of charge at www.robeco.com/hk/en and at the Robeco Hong Kong office.
4. Use of the Website
The information is based on certain assumptions, information and conditions applicable at a certain time and may be subject to change at any time without notice. Robeco aims to provide accurate, complete and up-to-date information, obtained from sources of information believed to be reliable. Persons accessing the Website are responsible for their choice and use of the information.
5. Investment performance
No assurance can be given that the investment objective of any investment products will be achieved. No representation or promise as to the performance of any investment products or the return on an investment is made. The value of your investments may fluctuate. The value of the assets of Robeco investment products may also fluctuate as a result of the investment policy and/or the developments on the financial markets. Results obtained in the past are no guarantee for the future. Past performance, projection, or forecast included in this Website should not be taken as an indication or guarantee of future performance, and no representation or warranty, express or implied, is made regarding future performance. Fund performance figures are based on the month-end trading prices and are calculated on a total return basis with dividends reinvested. Return figures versus the benchmark show the investment management result before management and/or performance fees; the fund returns are with dividends reinvested and based on net asset values with prices and exchange rates of the valuation moment of the benchmark.
Investments involve risks. Past performance is not a guide to future performance. Potential investors should read the terms and conditions contained in the relevant offering documents and in particular the investment policies and the risk factors before any investment decision is made. Investors should ensure they fully understand the risks associated with the fund and should also consider their own investment objective and risk tolerance level. Investors are reminded that the value and income (if any) from shares of the fund may be volatile and could change substantially within a short period of time, and investors may not get back the amount they have invested in the fund. If in doubt, please seek independent financial and professional advice.
6. Third party websites
This website includes material from third parties or links to websites maintained by third parties some of which is supplied by companies that are not affiliated to Robeco. Following links to any other off-site pages or websites of third parties shall be at the own risk of the person following such link. Robeco has not reviewed any of the websites linked to or referred to by the Website and does not endorse or accept any responsibility for their content nor the products, services or other items offered through them. Robeco shall have no liability for any losses or damages arising from the use of or reliance on the information contained on websites of third parties, including, without limitation, any loss of profit or any other direct or indirect damage. Third party off-site pages or websites are provided for informational purposes only.
7. Limitation of liability
Robeco as well as (possible) other suppliers of information to the Website accept no responsibility for the contents of the Website or the information or recommendations contained herein, which moreover may be changed without notice.
Robeco assumes no responsibility for ensuring, and makes no warranty, that the functioning of the Website will be uninterrupted or error-free. Robeco assumes no responsibility for the consequences of e-mail messages regarding a Robeco (transaction) service, which either cannot be received or sent, are damaged, received or sent incorrectly, or not received or sent on time.
Neither will Robeco be liable for any loss or damage that may result from access to and use of the Website.
8. Intellectual property
All copyrights, patents, intellectual and other property, and licenses regarding the information on the Website are held and obtained by Robeco. These rights will not be passed to persons accessing this information.
10. Applicable law
The Website shall be governed by and construed in accordance with the laws of Hong Kong. All disputes arising out of or in connection with the Website shall be submitted to the exclusive jurisdiction of the courts of Hong Kong.