While much ado is made of the science that goes into fund manager research, real assessment puts comparable weight on the art as well according to investment leaders.
While financials and materials dominated trades leading into 2024, the popularity of other sectors like healthcare and information technology followed generational, and even demographic, lines.
The growth paradox and three key themes
With reporting season over, one would assume markets would have been under strain amid the disruption and pandemic forced restrictions. On the contrary, equity markets have never been better, rising almost 15 per cent in the last six months in Australia.
Pendal’s head of equities, Crispin Murray, has released a research note touching on four critical themes he believes will set the tone for the rest of the year. Murray says, “It’s easy to say it’s been driven by earnings because earnings revisions have been material. But when you actually dig down it’s a little bit more complicated than that. The resources sector has seen substantial growth in profits but a significant de-rating as investors discount future growth, while industrials and banks have been re-rated by the market despite more modest earnings growth.”
Murray says the earnings season was characterised by four distinct themes:
Growth stocks return – There are several factors influencing the market all at the same time, causing this tilt back to growth. And economic growth re-emerges, markets started to re-rate growth stocks.
“Government stimulus is fading amid the rise of the delta COVID wave which has again triggered lockdowns and held back economic recovery. Supply issues are affecting industry’s ability to meet demand. And overlaying it all is the prospect of a tapering of monetary policy support for economies and the risk of a policy mistake,” says Murray. This mix of factors is what is pushing investors to place a premium on growth stocks over value stocks.
Paradox – What was evident amid the rotation to growth was a tilt back to Covid-losers. Murray says, “There was enough evidence from the June quarter where we had a brief window where the economy was almost back to normal that there was pent up demand, and that these companies were seeing good leverage to that.”
The second paradox was the “disconnect between earnings revisions and sector performance during reporting season.” Despite strong earnings revisions, commodity stocks didn’t do too well. Whereas tech, gaming and discretionary consumer stocks had poor earnings revisions but did extremely well. “That was highlighting that the market is very much forward-looking right now,” says Murray.
Corporate Activity – M&A activity was a lot higher this earnings season driven by rising share prices and low cost of capital. Murray says, “There is also a winner-takes-all business model mindset emerging in growth industries driving companies to pay up for scale.” A good example was Square’s $39 billion takeover of Afterpay, the largest takeover in Australian history.
Environmental, social and governance (ESG) – Severe bushfires and temperatures of over 20 degrees centigrade recorded in Antarctica (on the Antarctic peninsula, not the mainland) have confirmed in many people’s minds that the earth’s climate is warming. Murray says “Some $250 billion cumulatively has flown into ESG funds, “but this is just a proxy. What we’re seeing is far more money behind this… a lot of existing equity funds are overlaying ESG filters in the way they invest.” At the same time, this has led to a de-rating of fossil fuel stocks even though the oil price is rising.
