US interest rates, rising sovereign debt and the reality (or not) of a China crisis were the three themes accompanying most current investment decisions, according to James McDonald, Hunter Hall portfolio manager.
McDonald, presenting this week at the Investment Store New Zealand roadshow, said fund managers couldn’t ignore the three big economic notes, which were playing out in equal measure on the global stage.
However, he said while underlying economic conditions might set the key, Hunter Hall was focused on writing its own investment tune.
“We’re bottom-up stock-pickers,” McDonald said. “The macro view is not that important to us – it serves as a flag for sectors rather than determining individual investments.”
Nonetheless, he said the three major themes did show up in the Hunter Hall funds, which invest in global small-to-mid cap value stocks filtered through an SRI screen.
For example, McDonald said the Australian gold mining company, St Barbara, had been affected by all three themes with the stock oversold as investors bailed out of the sector on concerns about a China-driven commodities slow-down. At the same time low interest rates and spiking government debt could potentially enhance demand for gold as a ‘safe haven’ investment. The gold price has remained steady over the last few years in US dollar terms but has jumped up since late 2014 as measured in Australian currency.
According to McDonald, St Barbara, which currently trades at a P/E of five and has significantly deleveraged, has been a solid performer in the Hunter Hall portfolio.
While a softer China, rising government debt in developed markets and the prospect of increasing US interest rates were keeping investors on edge, he said the there were also subtle changes emerging across the three themes.
Importantly, he said developed market global monetary policies look like diverging for the first time since the GFC with US and the UK poised for rising rates while Europe and Japan head in the other direction.
And while most pundits expect US interest rates to start rising from their current near-zero base soon, McDonald said the assumed pace of further rate hikes should be tempered by an analysis of unemployment rates in the world’s biggest economy.
He said the US unemployment rate has fallen from about 10 per cent to 5 per cent since 2008, which would support higher interest rates.
“But the participation rate has fallen from 68 per cent to 62 per cent over that time too,” McDonald said. “Partly that’s to do with the aging population and maybe technological-driven redundancy. But [the participation rate] might come back as the labour market picks up.”
Either way, he said “it’s hard to see that US interest rates will ratchet up too quickly… especially with so much government debt.”
Bernard Doyle, head of JB Were NZ investment strategy group, has identified similar themes in his latest analysis. Doyle, also fronting the Investment Store roadshow, said US interest rates – as always – were the most important underlying factor in setting investment strategy.
“You can’t buy any security that doesn’t have the fingerprint of US interest rates all over it,” Doyle said.
Unlike Hunter Hall, though, JB Were translates thematic thinking directly into a portfolio of exchange-traded funds (ETFs).
“One way of playing the theme of rising rates is to invest in US banks… they can’t wait for the Fed to lift,” Doyle said. And with a rate increase virtually certain – if not this December then in the first quarter of 2016 – US banks look set to reap profits, he said.
JB Were has about 10 ETFs in its global portfolio, with perhaps “three or four” underlying funds swapped out each year as the manager’s thematic views adjust.
For instance, Doyle said the manager recently sold down an oil services ETF as the fuel prices slump fed into supporting industries.
He said JB Were looks to “fit the right ETF to the right idea” by exploring sector and sub-sector exposures. Doyle name-checked a US medical devices ETF as an example of such a sub-sector investment.
With global monetary policies diverging he said investors also have to keep a close eye on currency exposures.
“Currency is increasingly driving returns,” Doyle said. “It’s all very well having a good investment idea, but if that good idea is in the wrong currency you’re going to lose out.”
A recent Asian trip also added nuance to his views on China. He said while the Chinese economic slow-down may not be as drastic in the short-term as some have predicted, the country had some structural issues – including debt, and state-owned enterprise reform – that wouldn’t be resolved quickly.
Another emerging – but currently uninvestable – theme, Doyle said was technological “disruption”.
“Disruption is seen as important in investment markets,” he said. “That’s not an investable idea, but whatever we own in our portfolio we ask how would that industry be exposed to rapid disruption.”
For example, Doyle said JB Were used to favour global industrials but now views the sector as vulnerable to disruption. The rise of services such as Uber and AirBnB, for instance, could undermine future demand for cars and hotels, he said.
“And I’m not really into fads, but I can see that disruption in financial services – with developments such as robo-advice – has some substance to it,” he said.
Doyle, McDonald and Devon Funds Management portfolio manager, Slade Robertson, will be manning the Investment Store ‘Lifting the lid’ roadshow over Monday to Wednesday this week in Christchurch, Wellington and Auckland.
