Buy a book, travel, relax
Back from vacation. The heat, while acceptable on the beach, is unbearable in town. The market is boring, weak, doomed. Good news is bad news. Bad news is, well, bad news. Good companies reporting bring a few percentage points of gain to the poor investor. Disappointment brings double digit losses. Why stick around? Why not sell and go back on beach?
Valuations?
There is a great deal of confusion in the market right now and many investors are still sceptical. They mention valuations, interest rates and economic slowdown as their primary concerns.
On valuations, we can say we have rarely in 25 years of tenure as fund managers experienced valuations that are so depressed. The indices apparently look expensive based on historical data. Those data do not take into consideration that today, in particular in the US, we have a significant amount of growth stocks in those indices. So, we would not rely on dumb averages. The stocks in the traditional sectors are, in many cases, very attractive. If we look at the risk premia, we also note that the actual ten-year interest rates cannot be considered a reference point due to its volatility. Common sense tells us that we should take an average of the last few years. Then, we have long term trends like energy transition and business onshoring that should support and energize the economy in the next few years. Last but not least, the inflation of the past three years has still to be fully reflected in the EPS.
If you take into account the previous elements, indexes composition, free risk, long term trends and laggard inflation effect on EPS, valuations are at their most attractive.
We think that once the economy presents its first signs of recession, unavoidable under the pressure of high interest rates, and the doomsayers start calling the stagflation myth, the traditional part of the market, the one that is now in value/deep-value territory, will gradually start to roar back, anticipating the inversion of the interest rates cycle. This is when retailers, consumer stocks, housing related stocks, leveraged companies, banks, etc, somewhat counterintuitively, will start to bounce back from shameful levels.
We are getting close to that moment. Today we think it is a perfect time to gradually accumulate deep value stocks. This part of the market includes thousands of quality names worldwide, very often far from the radar of investors who generally focus on about 5% of the total listed companies worldwide. It is now the time when “you can buy scores of decent companies at amazing prices”, quoting Warren Buffet.
What are we looking at these days?
The recent investment lull among the main telecom operators in North America has weakened the telecom equipment sector despite a global competitive outlook that has much improved. Here we find many companies we like.
We are also trying to time the end of the streaming war, tiptoeing into late comers, names like Paramount in the US, and RTL in Europe and others. These are companies with great content franchises. In one of our two multi thematic funds we also have a niche dedicated to publishers, a devasted sector where we see great revival potential. Bombarded by lots of fake news, democracies need to rely on serious journalism. The few survivors will thrive.
Renewables are again under pressure. What an opportunity! As we see Russia, the Middle East and China coordinating to support the oil price, pollution increasing and global warming producing the worth heatwaves to date, the market is again dumping the renewables players. The reason? There is a tug of war between the renewable energy supply chain and the utilities. The former wants significant price increases. The latter resists. It is normal. But the former will win in the end. We must take advantage of this phase. Buy the main players that present solid financial positions and clear undervaluation. We have an oversized position in Siemens Energy that is giving us some headaches, but we are happy to increase it on the way down. We are also adding to other renewable holdings, and we are introducing new ones in the US, Europe, Japan and South Korea.
In this phase of economic slowdown, we are also increasing on weakness stocks related to transportation, mostly in Europe where they are cheaper. We are also courting the timber sector, down with the cycle, but ready for a powerful rerating, forest owners in first place.
Companies in the sectors mentioned must be cautiously handled, some having significant financial and/or operational leverage and being now out of consensus. That’s why diversification is important. However, those and many other companies now present a great risk/benefit profile, the only metrics we use to appraise companies and build portfolios.
Our process
We define a strategy before investing. This strategy must clearly be flexible enough to be adjusted, but we tend not to be distracted by the news flow. We value the companies by what we see now, in terms of earnings potential (normalized) and assets held.
We do not speculate about long-term opportunities. If the companies are not deep value anymore, we take profit. Very rarely, we sell before our strategy plays out. Often, when all, according to the news flow, looks lost, something comes to the rescue. Before buying we want to see a huge discount, we are careful of debt, and we LOVE diversification (even if it has never been so unfashionable in the industry). Our funds proudly hold hundreds of stocks. This approach limits the impact of the black swans.
We buy gradually on the way down; we sell gradually on the way up. When we start to buy, normally the stock in the short term continues to go down. When we sell, the opposite happens. Sometimes we take partial profits before our target is reached if we see opportunities to further diversify our portfolios with stocks with a good risk/reward profile.
We are now very optimistic about the markets we follow. As mentioned above, there is such an abundance of quality stocks in the deep value camp. The market looks tired. The negatives apparently outnumber the positives. This makes the odds of a dramatic rebound in the many deep value stocks available even more likely.
As mentioned, the economy is also currently supported by robust geographical long-term trends. Europe and Japan could be coming out of stagnation. The China-driven world deflation pressures look to be gone. US economic drivers remain robust. Korea, Indonesia and a number of other countries can be seen as manufacturing alternative to China.
Central banks are weakening the economy to break inflation’s back. However, central banks can be very fast to reflate the economy if it weakens too much. Again, once inflation is tamed (and the market always tries to anticipate this) we expect a violent rerating of this part of the market.
We don’t know what will happen in the next few months but, again, we think the downside on our universe is limited, the upside huge. Here we see an opportunity. Be patient. Quit the screen, buy a few books, travel, relax. It is incredible how laziness can be rewarding in stock markets…
