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Home /Q2 2020 International Equity Outlook: As Risks Recede, Fundamentals Will Come Back in Focus

Q2 2020 International Equity Outlook: As Risks Recede, Fundamentals Will Come Back in Focus

Accent_David Souccar Vontobel

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In the grip of a global economic slowdown, Q2 GDP estimates are substantially lower, with the U.S. expecting a double-digit decline in growth. Given the extent of the coronavirus-induced shock, we anticipate a rise in unemployment and some corporate casualties, such as over-leveraged energy or airline companies. Although the extent and timing of a recovery is uncertain, we expect to see improvement as early as the second half of this year and into 2021.

Sectors exposed to essential services could experience the quickest recoveries. For instance, medical procedures cannot be delayed indefinitely, which would in turn support the medical technology space. Neither are companies likely to cut back their use of ERP software systems, with the likes of SAP and Microsoft particularly well positioned.

We expect consumer discretionary companies to take longer to recover as consumer budgets will be tight and confidence will be low. But there are still some interesting opportunities for investors with a three- to five-year horizon. Competitive advantages and structural growth drivers remain intact for some athleisure companies or off-price retailers. And even though these companies will be substantially impacted by store shutdowns, the situation is likely temporary.

Owing to its correlation to travel, luxury spending has been severely impacted and stocks in the sector have sold off more aggressively than the rest of the market. In our view, it could take six to 12 months for luxury to begin to recover. Some multi-brand luxury conglomerates with strong balance sheets are better placed than single-brand businesses.

In previous crises, such as 9/11 or the SARS outbreak, travel companies did rebound, and the inherent demand for travel still exists. Companies like, a dominant player in online travel, or the aerospace company Safran, with its exposure to aftermarket engine maintenance, should be well-placed for a recovery.

To some extent, investors have sold consumer staples indiscriminately. However, it is important to differentiate in this sector. Companies with strong balance sheets that exhibited solid organic growth before the crisis should prove to be resilient – albeit on a 12- to 24-month timeframe. In addition, businesses exposed to greater on-trade consumption (restaurants and bars) are suffering more than those that are less discretionary. But while roughly a third of Anheuser-Busch InBev, Coke, and Pepsi’s businesses target the on-trade, a portion should be picked up by an increase in off-trade (at home) demand. We think investors are underestimating the potential switch to off-trade consumption.

As a result of the monetary policy response, low interest rates in developed markets will persist for the foreseeable future. This will certainly have a negative impact on banks’ net interest margins (NIMs). Also, the downturn increases the risk of a higher level of non-performing loans (NPLs) over the next six to 12 months. In emerging markets, however, there are still interesting opportunities where interest rates are not quite so low. Leading lenders, such as India’s Housing Development Finance Corporation and HDFC Bank, can still earn very attractive returns.

On an individual company basis, survivability is key in the current environment. Regardless of the strength of their competitive advantages, companies will be tested during this difficult time. Investors should analyze the free cash flows of the companies they own, their access to liquidity, and whether or not those companies have any significant debt maturities over the next year or two. Companies with strong balance sheets able to survive the next 12-24 months should be in a stronger position to take market share from weaker rivals when conditions normalize.

The commentary is the opinion of Vontobel Asset Management. This material has been prepared using sources of information generally believed to be reliable; however, its accuracy is not guaranteed. Opinions represented are subject to change and should not be considered investment advice or an offer of securities.

Past performance is not an indication of future results.

Investing involves risk, including the risk of possible loss of principal.

Important Risk Considerations:

Equity Securities: The market price of equity securities may be adversely affected by financial market, industry, or issuer-specific events. Focus on a particular style or on small or medium-sized companies may enhance that risk. Foreign & Emerging Markets: Investing internationally, especially in emerging markets, involves additional risks such as currency, political, accounting, economic, and market risk. Market Volatility: Local, regional or global events such as war, acts of terrorism, the spread of infectious illness or other public health issue, recessions, or other events could have a significant impact on the fund and its investments, including hampering the ability of the fund’s portfolio manager(s) to invest the fund’s assets as intended. Prospectus: For additional information on risks, please see the fund’s prospectus