US equities: staying focused on secular growth

27/11/2018

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As interest rates and inflation pressures climb, Portfolio Manager, Doug Rao, says it is becoming all the more important to focus on companies with secular tailwinds, pricing power and competitive advantages.


What do you think are the key themes likely to shape markets in 2019?

Broadly, I think the key themes will be the continued rise of populism globally, and related to that, questions around open borders and open trade. In addition, inflation is re emerging in many parts of the world, particularly in the US, where we are seeing stronger wage growth as a function of full employment. Some companies are also experiencing input-cost inflation due to tariffs. Meanwhile, the US is stepping back from years of quantitative easing, which has started to slow rate-sensitive parts of the economy. Given that inflation helps determine central bank policy and the risk-free rate influences the valuation of all companies, if inflation and therefore rates continue to rise, we could see a broader impact on the market.


Where do you see the most important opportunities and risks within your asset class?

We continue to focus on what we always do; looking for companies that we think are market leaders and that have business model advantages such as pricing power, low input-cost risk and the ability to gain market share. For example, a payments network is not reliant on leverage or the global supply chain to drive growth. There is limited, if any, additional cost for every incremental dollar of revenue that the business generates.

At the same time, we may be entering a period during which Main Street does better than Wall Street. For consumers, wages finally are rising and the economy remains in relatively good shape. In contrast, many companies could be facing a very different environment from the past decade, during which earnings growth was often achieved through financial engineering, and productivity increased through global outsourcing. Rising interest rates, trade barriers and elevated debt levels on corporate balance sheets could make it harder for certain companies to generate growth.


How have your experiences in 2018 shifted your approach or outlook in 2019?

We remain comfortable owning companies that we believe have opportunities to gain market share and are benefiting from secular tailwinds. We think the companies we invest in are built for different macroeconomic environments. In the short term, it is often unclear how the stocks of these companies will respond to market volatility. But in the long term, we believe growth fundamentals remain strong, especially for those companies that have built robust network effects, which occur when increased usage of a firm’s product or service enhances the value of those goods to consumers.



Which themes have the potential to redirect markets in 2019? Download our Infographic to find out



Glossary

Inflation: the rate at which the prices of goods and services are rising in an economy.

Rate-sensitive: areas of the economy which are more sensitive to changes in interest rate.

Quantitative easing: an unconventional monetary policy used by central banks to stimulate the economy by boosting the amount of overall money in the banking system.

Risk-free rate: the rate of return of an investment with theoretically zero risk. Typically defined as the yield on a three-month Treasury bill (a short-term money market instrument).

Main Street: the term often used to refer to individual investors, employees and the overall economy in the US (in contrast to Wall Street – see below).

Wall Street: the term often used to refer to the financial markets, major financial institutions, big corporations and high level employees in the US.

Pricing power: the extent to which a company is able to increase prices without reducing demand for its products.

Secular (trend/theme): long term trend or investment theme




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