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Where are the market opportunities and risks?

Matt HudsonSchroders annual investment dinner saw a number of the firm’s fund managers exchanging views on potential opportunities in markets around the world. Here is a round-up of their insights into a challenging market environment

Many things have changed in markets over the years, but the emotions of the participants remains a constant. Irrational behaviour amongst investors creates opportunities. Although sentiment is poor, we should start to see an improvement in sentiment and asset markets.

  • The real value still resides in places such as European and Japanese equities, where well-known issues have dampened economic data
  • Correlations between stocks have been high because of the ‘fear factor’, generating stock picking opportunities in Europe
  • The number of UK companies yielding more than the market is near an all-time low, creating opportunities for “dividend-pickers”

US: Marcus Brookes, head of multi-manageran style

What is your view on US Treasuries and the US economy in general?
With the US 10-year Treasury yielding around 2%, we are in the zone where you have to be rather pessimistic on the US economy to think bonds offer any value. It is rare that I get called an optimist but, on the US, I am pretty optimistic and I think the US economy is doing fine.

The industrial side looks awful – although that is not unusual for America – while the service side is looking pretty good. Wage growth is finally coming through and could be 2% to 3% in 2016 plus, with the consumer benefiting from lower oil costs, better discretionary spending could finally come through this year and we could see decent growth and a gentle rise in inflation. So we see a more positive outcome for the economy – although that does not necessarily mean a positive outcome for the US stockmarket.

Where do you see the best investment opportunities globally?
The real value still resides in places such as European and Japanese equities, where some well-known issues have held back the economic data from coming through. Now the economic data in Europe looks fantastic, so it has a good economic tailwind married with reasonable equity valuations.

Japan is a similar scenario. They are doing quantitative easing and really have got to get their economy going – and are willing to do whatever it takes. Valuations in Japan are less cheap than Europe but there is some good profit growth going on. Plus they have managed to weaken their currency, which is useful. Japan and Europe look very good and I have to say I think emerging markets are getting into that zone too.

 “When things become savage, swift and emotional… typically that is building to an opportunity.”

 

UK: Nick Kirrage, co-head of the Schroder Global Value Team


What is the outlook for UK dividends?
The UK dividend yield looks like the market is still yielding around 4% but that is a counterweight between 20 enormous businesses – several of which have dividends the market is telling you are unsustainable – and then a huge number of companies with dividends that are much, much lower because they are actually quite expensive. So we are now near all-time lows in terms of the number of companies that are yielding more than the market. That is a very telling stat. People often talk about ‘stockpickers’ but now it is a time for ‘dividend-pickers’.

After a difficult period for value investing, is the tide about to turn?
In some ways, the worse things get, the more positive I become. When things become savage, swift and emotional and you see capitulation, with large shares moving 10% in a day, that is when something irrational is happening. Typically that is building to an opportunity.

Value is not a quirky back-test of history nor is it a clever rule of thumb. It works because humans are humans and become very scared and very greedy. Lots of things have changed in markets in my career but the one thing that has not changed in any way is the emotions of the participants. That is reassuring for our value style as it means the opportunity for us to outperform over the next five years is enormous.

 

EUROPE: Rory bateman, head of uk and european equities


What lies behind the recent market volatility?
What we have seen is, in my view, very much a market correction as opposed to a serious deterioration in the global economic environment. We have seen a lot of volatility and that is a function of a much stronger dollar, as well as the oil price leading the market to assume there is a global slowdown. These issues, along with tight liquidity, have created a significant turn in the market and led sentiment to extreme lows.

Why do you have a positive view on European equities right now?
Europe is one of the best places to invest from a global equity perspective. Most of Europe’s exports are intra-Europe and there is a significant intra-Europe recovery at play. We are seeing this recovery in consumer sentiment surveys and in recent PMI services surveys. People talk about Europe’s exports to emerging markets but, even in Germany, 75% of the economy is services and construction-related.

There is a significant internal recovery story in Europe right now and that will continue. Correlations between stocks have been high because of the ‘fear factor’, which has led to an indiscriminate sell-off but this has created lots of stockpicking opportunities in European equities.

 

ASIA: Matthew Dobbs, head of global small cap


How bad is the impact of the China slowdown on Asian companies?
You do not have to tell the companies we like in Asia – the Taiwanese firms and the Hong Kong blue chips – that life is tough in China. They have known that for three years – and they have been running their businesses in a way that reflects the fact they are very cautious about life. They are keeping their powder dry.

What is the outlook for Asian dividends?
Asia accounts for 8% of global market capitalisation and yet 30% of all the companies in the world that yield over 4% are listed there. Luckily for us, that means we do not have to own all those companies. An awful lot of them will definitely cut their dividends. On the face of it, Chinese banks have big fat dividends but we do not own any. We do not need to go to places we do not want to go to produce decent dividend income in Asia. A lot of companies are in very good shape and have relatively conservative balance sheets and there is a wealth of dividend availability across different sectors.

What is the appeal of Asian small caps?
The appeal of Asian small caps is not only that there is a big opportunity set – with a couple of thousand companies to choose from – but also that, as in more mature markets, the small cap sector exposures are very different to large cap. Whereas large cap in places like the US and the UK tend to be dominated by big financials, telcom companies, utilities and miners, small cap is dominated by what I call ‘enterprise’ sectors – retail, consumer services, healthcare, industrials and, to some extent, information technology. You see the same thing happening in emerging markets.

What do you think about the longer-term Asian outlook?
The longer-term outlook for Asia as the only credible place to drive growth in the globe is, frankly, unchallengeable. Remember, China growing at the rate it is growing at now is putting as much into global GDP as it did when it was growing at 10% in real terms 10 years ago. It is a $10 trillion (£6.9 trillion) economy. The implications of Asia for the world are still good rather than bad.

 

Gareth Isaac, senior fixed income fund manager

Are market falls overdone?
The world is not as bad as it seems. The market is overreacting and sentiment is very poor – but I do think we are starting to see a bottoming-out of that and we will start to see an improvement in sentiment and asset markets.

Where do you see the best fixed income opportunities?
Both investment grade and non-investment grade corporate bonds are looking very attractive on a multi-year basis, even though they could yet see further outflows. They are pricing in a recessionary environment. Spreads between corporate and government bonds have widened substantially over the last few months and we are seeing some attractive opportunities.

Are we about to see a wave of defaults in the high yield sector?
I do not think defaults are going to rise to the extent that is implied in valuations in the high yield market. However, there will be a lot more volatility going forward.

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