Markets & Research
Of the many factors that seemed poised to influence equity markets at the start of 2020, a worldwide pandemic didn’t figure to be among them. And considering the economic and financial upheaval that COVID-19 would ultimately wreak, it seemed equally unlikely that stocks would reach new heights as the year drew to a close.
But those were among the dominant themes of the past 12 months, and they form the backdrop for 2021 as optimism over rapid vaccine development is tempered by uncertainty about still-considerable economic challenges.
To understand what the new year may hold, we spoke with Capital Group Private Client Services principal investment officer Will Robbins, portfolio manager Gerald Du Manoir, equity analyst Aline Avzaradel and Capital Group head of government relations Clarke Camper.
Will Robbins: The outlook appears to be reasonably positive for the coming year. The apparent efficacy of the vaccines that have been developed and, despite some challenges, the timeline for distribution are above expectations. That suggests we might experience a faster return to a pre-virus type of environment. It won’t be smooth and linear, but I expect a faster return than I would’ve several months ago.
As for the Fed, it has been very clear about being willing to overshoot its inflation target for periods of time. Since we’ve been under the inflation target for so long, we could have a longer period of accommodative policies, both fiscal and monetary, that will likely coincide with a faster than expected return to normalcy. As for the equity market, my expectation is that there will be a broadening of strength in the market.
Gerald Du Manoir: I’m not as optimistic about the coming year. My overall macro outlook is that things are going to be OK. There are areas that are going to pick up rapidly as a result of economic or earnings comparisons that are going to be very favorable.
But the government, through its various stimulus efforts, has been functioning as the granddaddy of spending. The economic damage that might otherwise have occurred has been dampened by governments around the world absorbing so much of the risk. Government support for the economy will continue, but it will not be as pronounced as it was in 2020. So we could return to the pre-virus trend, which was a rather tepid consumer.
Du Manoir: There are what I call the COVID-19 winners and the COVID-19 not-so-winners. You are seeing a pickup in certain trends that were there before but are accelerating now. In particular, I would say the energy switch from hydrocarbons to less polluting solutions. Not every company in this green energy space is going to win. It’s very company-specific, so it’s essential to be extremely selective.
Beyond that, I expect that businesses are going to continue to be very cost conscious and careful about their spending. Individuals may be less cost conscious, but even they will be judicious. Therefore, I tend to favor categories of affordable spending — things like discount airlines, discount cruise lines and experiential events that are not overly luxurious. It’s going to be more volume-driven consumption, as opposed to expensive-driven consumption.
Aline Avzaradel: The transition has been very smooth in terms of working from home and having access to the same amount and quality of resources as I did being in the office. From an analytical and research standpoint, I’ve had no problem having Zoom meetings or video meetings with all of my companies. In fact, there’s been an increase in the number of company meetings that we’ve had because of our access to management.
We had strong relationships with management teams prior to the outbreak, so we didn’t need to establish that. And with executives traveling far less, that has increased our ability to meet with them, because there have been fewer logistical hurdles.
Avzaradel: Video meetings will be a component of our process that can boost efficiency. High-touch meetings where you go and spend a day with a company and do a deep dive add enormous value. We will continue to do those meetings. The benefit now is that portfolio managers who could not join in person will be able to join parts of the meeting via video. We can also replace some of the lower-value group meetings with an individualized one-on-one via video, which wasn’t available before. That can give us the best of both worlds.
Du Manoir: It’s important to note that we will resume in-person visits as soon as it’s feasible from a public health perspective. We will be the first ones out there again, because part of our competitive advantage is access. Being able to touch and feel companies, see operations, tour plants and meet with managements may be even more of a competitive advantage going forward. A lot of investment firms that do not have the scale or the means of Capital Group might say, “Well, let’s all go on video.” Our ability to conduct in-depth field research may help us strengthen our competitive advantage.
Clarke Camper: The tenor is going to continue to be hostile between the parties. While there’s been a lot of discussion about the makeup of the Senate and the election in Georgia, there’s been less focus on the House. Even though Democrats technically control it, their margin has been reduced, and effectively it’s about 50-50.
That means that anything remotely controversial — tax increases, capital gains tax increases, changes in retirement policy — is very unlikely to happen legislatively. Basically, any meaningful change is going to happen via regulation or executive order. As we’ve seen, that can make a big difference, but it can also be fleeting because actions can be reversed when a new administration comes in.
In terms of the economy and the Fed, it appears that Fed chairman Jerome Powell and Joe Biden share a worldview of the economy needing assistance. I believe Powell will do whatever he has to do to support the economy.
Du Manoir: Digitization is an ongoing trend, although certain areas of the market, including software-as-a-service companies, can carry enormous multiples. But these businesses are themselves going to need chips and data centers and software. They’re going to need things that may sound boring and unexciting but that will benefit from the growth in digitization. That is an area where I’m still finding attractive valuations.
Avzaradel: The U.S. P&C insurance sector has strong fundamentals. The sector was hit really hard in March and April. It was lumped in with other types of financial companies that were heavily exposed to low interest rates and credit risk, which were the biggest concerns in the market at the time. And there was fear that property and casualty companies could suffer losses tied to COVID-19-related claims. But that did not happen, and I sought to take advantage of the share price weakness in select companies in March and April.
The appeal of the sector dates to before COVID-19. Insurers had been increasing rates, partly to recoup the costs they incurred in past disasters, such as hurricanes and wildfires. Those price increases not only help underwriters but brokers as well. Brokers earn higher commissions as premiums rise but they don’t have any liability exposure in the event of disasters. Brokers continue to be attractive. They’re good businesses with strong cash flow generation, high recurring revenue and low capital intensity.
Robbins: We have entered what I believe to be a golden age of drug discovery, and we’re at the early edge of that golden age. That was the case before the pandemic. There was clear progress against what had previously been incurable diseases. There are a lot of attractive values and promising companies doing really interesting things.
As for COVID-19, it’s too early to know how the vaccines will affect the bottom lines of the companies developing them. It’s possible there may be very little in the way of economic benefits to businesses that are directly involved in the vaccine — both discovery and development, as well as distribution. But the rapid vaccine development validates the science. Before the pandemic, there were estimates that it would take several years to create an effective vaccine. It’s now less than a year from the beginning of the pandemic to the first distribution. The science has gone so far so much faster than I think anyone expected.
Du Manoir: I think there is money to be made here, and we’re spending a lot of time trying to identify the eventual winners. It’s yielded large streams of research across Capital Group. But it’s important to be careful and to avoid what I would call an “opportunity trap.” There is enormous change going on and questions that still need to be answered. It’s essential to avoid the temptation to just say, “Well, anything that’s green is going to be great.”
The fight against COVID-19 caused a number of otherwise salient issues to recede from the headlines, and one of those is the fractious relationship between the U.S. and China. Clarke, how do you see the Biden administration approaching China?
Camper: There is more commonality than difference between the Trump administration and the incoming Biden administration on China. But the tone and the style are going to be radically different, just as you would expect. I think there’ll be some sanctions against China, but they won’t be the broad tariff kind of approach. They’ll be much more targeted. The question is, what will those areas be? That’s not clear at this point.
Robbins: I’ve been talking with our analysts and trying to draw the analogue between what’s happened with the pandemic, and also with the political environment, to something called Amara’s law. That’s the notion that people tend to overestimate the near-term impact of an event while underestimating its long-term impact.
The question is not whether but rather what are the long-term implications of what we’ve been through recently? The combination of politics and the pandemic suggests that there may be significant long-term implications — for example, around the issue of globalization and whether there will be a push toward de-globalization. Goods may become less freely traded as a result of this trend. There may be real implications around creating redundancy and onshoring of supply chains. There may be long-lasting fiscal policy implications from the expansion of government debt through the crisis. These are just a few of the possibilities and things we are paying attention to as we analyze investments.