European equities: do not take a binary approach
John Bennett, Director of European Equities, discusses why investors should not take a binary view on the value/growth debate and explains why he thinks the worst is yet to come for financial markets.
Key takeaways:
- We expect value stocks to have the upper hand on growth stocks as the cost of money continues to rise, putting pressure on hypergrowth-style businesses. However, it is important to choose wisely, even in the value space.
- With a bear market taking hold, we anticipate a rocky road ahead for consumers. For this reason, we think it is important to dial down exposure to sectors that may be affected by a drop in consumer spending.
- While many investors follow the money, we choose to go where capital is starved. This includes energy, resources and agriculture.
Equities
Binary approach
Bear market: A financial market in which the prices of securities are falling. A generally accepted definition is a fall of 20% or more in an index over at least a two-month period.
Cyclicality: the concept that what goes around comes around; everything is cyclical. In this context, cyclicality refers to the idea that capital will flow into, and out of, all sectors, including popular areas such as tech.
Value has broadly outperformed growth so far in 2022. How do you expect this to unfold for rest of the year?
I think we’re still in the foothills of value outperforming growth, but I think its still early. That being said, I think we’ve got to be a bit careful. It’s dead easy in this business to be binary and value/growth debate is part of that. And I don’t think all value has been outperforming and nor will it outperform. For example, the favourite poster child sector for value historically was banks. I don’t think you’re going to get too much durable outperformance from banks, historically seen as value versus the rest of the market. So, I think again it’s in the eye of the beholder. You’ve got to be choosy even in value.
But I think growth is broken. I felt would break. I think its broken. Growth stocks are broken. And what broke them? You had a change in the price of money. You had a change in the cost of money. It actually went from ‘free’ to costing something and that has broken hypergrowth – all those not-for-profit so-called digital disrupters. It’s sheer nonsense.
But the less nonsense part of growth is also broken. And what I mean by that is long periods of outperformance has broken, that trend has broken.
Has the current macro backdrop changed your investment approach?
There is nothing that has changed in 2022 in a philosophical sense in terms of we’ll always be blend, we’ll always pay attention to valuation. But we have made some changes because of course you’ve had a couple of events happening in 2022. The tragedy in Ukraine, which continues to unfold. We’ve had to respond to that. We haven’t had to respond to the onset of inflation because it is actually something we said just over two years ago is likely with the onset of the pandemic and the geopolitical response to the pandemic.
So, the changes we have made have really been taking down our consumer discretionary exposure because that consumer is squeezed. And I think the squeeze is going to get worse before it gets better in terms of energy and other bills. Food – I think that there is a big issue coming in terms of food price inflation aggravated by events in Ukraine. So, I think that squeezed consumer, I would imagine is likely to go for the revenge purchase and the revenge purchasing is moving from clothing – you’re seeing profit warnings now coming from clothing retailers. So, that kind of revenge purchase as we were all unleashed from our house imprisonment called lockdown, another insane move by so-called leaders [in my view]. That is going to move and is moving as we speak to leisure and travel. I think once we get to the autumn the consumer is going to be faced with a reality check. So, we’ve dialled down our consumer discretionary exposure in the first half of 2022.
I am concerned about the pressures from the energy markets on industrials so we are going to have to be even more choosy on industrials.
I think we’re okay structurally in terms the whole growth versus value thing. But I think two things are going to do their work – and do their worst on financial assets and that is the bear is here and the bear has more work to do. And inflation has more work to do. And both are going to be damaging.
Are you finding opportunities in the environmental, social, governance (ESG) space?
Well, I’ve felt for some time that the asset management industry’s response to ESG has been wrong and cynical. Cynical because it has been geared towards asset gathering. A whole bunch of funds have been labelled sustainable and it wasn’t too popular to say it some time ago and I think it is getting a bit more traction now. I think people’s eyes are opening to the ESG bonanza; and the cynicism of the asset management industry in labelling funds sustainable and is going after asset gathering, that has in my view (and I said it at the time) aggravated a capital misallocation.
We’re undergoing a capital cycle here. Cyclicality applies to everything in life, including capital. Capital flooded into already expensive areas, tech for example. This is why the bear has more work to do in tech, in the Nasdaq. That flood of venture capital, easy money, free money, was bad enough, but it was aggravated by the ESG movement.
So, I always wanted to take the other side of that. And the opportunities have been where capital has not been forthcoming. That’s your opportunity. Go where capital is starved, or go to industries or companies that have been starved of capital because if something is scarce, it’ll be bid up in price. Energy, resources, agriculture – I think its game on there. I think its game off and keep heading to the exits in tech.
Value has broadly outperformed growth so far in 2022. How do you expect this to unfold for rest of the year?
I think we’re still in the foothills of value outperforming growth, but I think its still early. That being said, I think we’ve got to be a bit careful. It’s dead easy in this business to be binary and value/growth debate is part of that. And I don’t think all value has been outperforming and nor will it outperform. For example, the favourite poster child sector for value historically was banks. I don’t think you’re going to get too much durable outperformance from banks, historically seen as value versus the rest of the market. So, I think again it’s in the eye of the beholder. You’ve got to be choosy even in value.
But I think growth is broken. I felt would break. I think its broken. Growth stocks are broken. And what broke them? You had a change in the price of money. You had a change in the cost of money. It actually went from ‘free’ to costing something and that has broken hypergrowth – all those not-for-profit so-called digital disrupters. It’s sheer nonsense.
But the less nonsense part of growth is also broken. And what I mean by that is long periods of outperformance has broken, that trend has broken.
Has the current macro backdrop changed your investment approach?
There is nothing that has changed in 2022 in a philosophical sense in terms of we’ll always be blend, we’ll always pay attention to valuation. But we have made some changes because of course you’ve had a couple of events happening in 2022. The tragedy in Ukraine, which continues to unfold. We’ve had to respond to that. We haven’t had to respond to the onset of inflation because it is actually something we said just over two years ago is likely with the onset of the pandemic and the geopolitical response to the pandemic.
So, the changes we have made have really been taking down our consumer discretionary exposure because that consumer is squeezed. And I think the squeeze is going to get worse before it gets better in terms of energy and other bills. Food – I think that there is a big issue coming in terms of food price inflation aggravated by events in Ukraine. So, I think that squeezed consumer, I would imagine is likely to go for the revenge purchase and the revenge purchasing is moving from clothing – you’re seeing profit warnings now coming from clothing retailers. So, that kind of revenge purchase as we were all unleashed from our house imprisonment called lockdown, another insane move by so-called leaders [in my view]. That is going to move and is moving as we speak to leisure and travel. I think once we get to the autumn the consumer is going to be faced with a reality check. So, we’ve dialled down our consumer discretionary exposure in the first half of 2022.
I am concerned about the pressures from the energy markets on industrials so we are going to have to be even more choosy on industrials.
I think we’re okay structurally in terms the whole growth versus value thing. But I think two things are going to do their work – and do their worst on financial assets and that is the bear is here and the bear has more work to do. And inflation has more work to do. And both are going to be damaging.
Are you finding opportunities in the environmental, social, governance (ESG) space?
Well, I’ve felt for some time that the asset management industry’s response to ESG has been wrong and cynical. Cynical because it has been geared towards asset gathering. A whole bunch of funds have been labelled sustainable and it wasn’t too popular to say it some time ago and I think it is getting a bit more traction now. I think people’s eyes are opening to the ESG bonanza; and the cynicism of the asset management industry in labelling funds sustainable and is going after asset gathering, that has in my view (and I said it at the time) aggravated a capital misallocation.
We’re undergoing a capital cycle here. Cyclicality applies to everything in life, including capital. Capital flooded into already expensive areas, tech for example. This is why the bear has more work to do in tech, in the Nasdaq. That flood of venture capital, easy money, free money, was bad enough, but it was aggravated by the ESG movement.
So, I always wanted to take the other side of that. And the opportunities have been where capital has not been forthcoming. That’s your opportunity. Go where capital is starved, or go to industries or companies that have been starved of capital because if something is scarce, it’ll be bid up in price. Energy, resources, agriculture – I think its game on there. I think its game off and keep heading to the exits in tech.
These are the views of the author at the time of publication and may differ from the views of other individuals/teams at Janus Henderson Investors. References made to individual securities do not constitute a recommendation to buy, sell or hold any security, investment strategy or market sector, and should not be assumed to be profitable. Janus Henderson Investors, its affiliated advisor, or its employees, may have a position in the securities mentioned.
Past performance does not predict future returns. The value of an investment and the income from it can fall as well as rise and you may not get back the amount originally invested.
The information in this article does not qualify as an investment recommendation.
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Important information
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- Shares/Units can lose value rapidly, and typically involve higher risks than bonds or money market instruments. The value of your investment may fall as a result.
- Shares of small and mid-size companies can be more volatile than shares of larger companies, and at times it may be difficult to value or to sell shares at desired times and prices, increasing the risk of losses.
- If a Fund has a high exposure to a particular country or geographical region it carries a higher level of risk than a Fund which is more broadly diversified.
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- The Fund may use derivatives with the aim of reducing risk or managing the portfolio more efficiently. However this introduces other risks, in particular, that a derivative counterparty may not meet its contractual obligations.
- If the Fund holds assets in currencies other than the base currency of the Fund, or you invest in a share/unit class of a different currency to the Fund (unless hedged, i.e. mitigated by taking an offsetting position in a related security), the value of your investment may be impacted by changes in exchange rates.
- When the Fund, or a share/unit class, seeks to mitigate exchange rate movements of a currency relative to the base currency (hedge), the hedging strategy itself may positively or negatively impact the value of the Fund due to differences in short-term interest rates between the currencies.
- Securities within the Fund could become hard to value or to sell at a desired time and price, especially in extreme market conditions when asset prices may be falling, increasing the risk of investment losses.
- The Fund could lose money if a counterparty with which the Fund trades becomes unwilling or unable to meet its obligations, or as a result of failure or delay in operational processes or the failure of a third party provider.
Specific risks
- Shares/Units can lose value rapidly, and typically involve higher risks than bonds or money market instruments. The value of your investment may fall as a result.
- If a Fund has a high exposure to a particular country or geographical region it carries a higher level of risk than a Fund which is more broadly diversified.
- The Fund may use derivatives to help achieve its investment objective. This can result in leverage (higher levels of debt), which can magnify an investment outcome. Gains or losses to the Fund may therefore be greater than the cost of the derivative. Derivatives also introduce other risks, in particular, that a derivative counterparty may not meet its contractual obligations.
- If the Fund holds assets in currencies other than the base currency of the Fund, or you invest in a share/unit class of a different currency to the Fund (unless hedged, i.e. mitigated by taking an offsetting position in a related security), the value of your investment may be impacted by changes in exchange rates.
- When the Fund, or a share/unit class, seeks to mitigate exchange rate movements of a currency relative to the base currency (hedge), the hedging strategy itself may positively or negatively impact the value of the Fund due to differences in short-term interest rates between the currencies.
- Securities within the Fund could become hard to value or to sell at a desired time and price, especially in extreme market conditions when asset prices may be falling, increasing the risk of investment losses.
- The Fund involves a high level of buying and selling activity and as such will incur a higher level of transaction costs than a fund that trades less frequently. These transaction costs are in addition to the Fund's ongoing charges.
- The Fund could lose money if a counterparty with which the Fund trades becomes unwilling or unable to meet its obligations, or as a result of failure or delay in operational processes or the failure of a third party provider.
Specific risks
- Shares/Units can lose value rapidly, and typically involve higher risks than bonds or money market instruments. The value of your investment may fall as a result.
- Shares of small and mid-size companies can be more volatile than shares of larger companies, and at times it may be difficult to value or to sell shares at desired times and prices, increasing the risk of losses.
- If a Fund has a high exposure to a particular country or geographical region it carries a higher level of risk than a Fund which is more broadly diversified.
- The Fund may use derivatives with the aim of reducing risk or managing the portfolio more efficiently. However this introduces other risks, in particular, that a derivative counterparty may not meet its contractual obligations.
- If the Fund holds assets in currencies other than the base currency of the Fund, or you invest in a share/unit class of a different currency to the Fund (unless hedged, i.e. mitigated by taking an offsetting position in a related security), the value of your investment may be impacted by changes in exchange rates.
- When the Fund, or a share/unit class, seeks to mitigate exchange rate movements of a currency relative to the base currency (hedge), the hedging strategy itself may positively or negatively impact the value of the Fund due to differences in short-term interest rates between the currencies.
- Securities within the Fund could become hard to value or to sell at a desired time and price, especially in extreme market conditions when asset prices may be falling, increasing the risk of investment losses.
- The Fund could lose money if a counterparty with which the Fund trades becomes unwilling or unable to meet its obligations, or as a result of failure or delay in operational processes or the failure of a third party provider.
Specific risks
Key takeaways:
- We expect value stocks to have the upper hand on growth stocks as the cost of money continues to rise, putting pressure on hypergrowth-style businesses. However, it is important to choose wisely, even in the value space.
- With a bear market taking hold, we anticipate a rocky road ahead for consumers. For this reason, we think it is important to dial down exposure to sectors that may be affected by a drop in consumer spending.
- While many investors follow the money, we choose to go where capital is starved. This includes energy, resources and agriculture.