Key takeaways from this discussion:
- We expect rising inflation will continue to be an issue in the second half of this year. While some price increases are slowing for goods like lumber and used cars, others remain high. We expect inflation to ease further into 2022 after unemployment benefits expire and wage pressures normalize. The Fed is likely to take a gradual approach to tapering and raising interest rates.
- Valuations for growth companies have narrowed while value stock multiples have increased, driven by cyclical optimism and stimulus. The P/E multiple premium in the U.S. has narrowed dramatically from 110% back in April 2020 to 60% now, as growth names have come back in valuation and value names have moved up. This premium is now back to levels we saw in 2015. Given that structural disruption has accelerated in traditional value sectors like retail and media, it is likely the premium for growth will remain at these levels. Of the remaining value sectors that are still somewhat cheap, energy is prone to low predictability while financials are challenged by low loan growth longer term and an uncertain outlook on net interest margins. Hence, we believe that a large part of the value rally has already taken place.
- In our view, the fundamental drivers of quality growth companies remain intact. Structural themes, such as e-commerce penetration, cash-to-card migration, and premiumization in consumer discretionary, should persist as the recovery continues. Quality growth stocks can also benefit from cyclical tailwinds. For example, companies like Google with online travel advertising, which is still weak, and Mastercard, with roughly one third of its earnings related to cross-border travel, could benefit from a strong rebound in travel in 2022.
- Companies that benefit from strong underlying structural trends and that are trading at reasonable valuations, such as those in e-commerce, semiconductors, payments, healthcare, and industrials, can continue to perform well. However, the market will be increasingly sensitive to valuations, and investors should pay close attention to multiples.
- The use of semiconductors in an array of applications is driving opportunities across the supply chain where companies have strong positions. For example, Taiwan Semiconductor Manufacturing Company has an 80% share of market profitability in fabrication. The secular tailwinds are strong with increased demand for faster speeds and a wider use of semiconductors in areas like auto and the internet of things (IoT).
- We see reduced cyclicality in semiconductors as the distance between peaks and troughs reduces and the peaks move higher. We believe exposure to different segments within the space also reduces cyclicality.
- Companies such as Nestlé are investing heavily in ESG (environmental, social, governance) related areas, specifically in supply chains and more sustainable packaging. While margin expansion is expected to be lower in the short term, these companies should be well-positioned longer term as consumers are prepared to pay a premium for sustainable products. Large multinationals also have an advantage versus smaller local players that lack the same resources to invest in ESG.
- In technology, competition is a bigger issue for Chinese companies than regulation, which has dissipated following the fine imposed on Alibaba that ended up being more reasonable than expected. Several e-commerce players are investing in online grocery, which will hold back earnings this year. However, core earnings growth is strong, and we expect a good recovery in growth in 2022 as these companies lap those investments. Hence, the current depressed valuations should represent attractive levels on a 12-month view and particularly on a 3-year view. We believe the leading Chinese internet names currently represent a unique mix of value and quality.
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.
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