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Global Perspectives 2021
William Davies, EMEA CIO
Knowns and unknowns after a tumultuous year
Select an article
CIO EMEA outlook 2021
Gene Tannuzzo, Deputy Global Head of Fixed Income
Security selection a key driver of outperformance
Fixed income
Alasdair Ross, Head of Investment Grade Credit, EMEA
Don’t underestimate changed behaviours
Global Investment Grade Credit
Soo Nam Ng, Head of Asian Equities
A bizarre year of win-lose outcomes in Asia Pacific ex Japan
Asia ex Japan equities
Richard Colwell, Head of UK Equities
Resurrection of the deplorable asset class!
UK equities
Ann Steele, Portfolio Manager
The peak of pessimism is behind us
European equities
Mark King, Head of Content for EMEA at Columbia Threadneedle Investments, is joined by a panel of our leading investors to talk about the outlook for economies and markets, as well as the themes trends and events they expect to see in 2021. Featuring: William Davies, Chief Investment Officer, EMEA and Global Head of Equities; Neil Robson, Head of Global Equities; Maya Bhandari, Multi-Asset Portfolio Manager; and Alasdair Ross, Head of Investment Grade credit.
2021 Investment Outlook Video
Maya Bhandari, Portfolio Manager Multi-Asset
2021: gotta have faith – in low discount rates
Multi-Asset
Adrian Hilton, Head of Global Rates and Emerging Market Debt
Seeking out good alpha opportunities in emerging market debt
Rates and Emerging Market Debt
Nicolas Janvier, Head of US Equities, EMEA
Two major themes in a stabilising economy
US equities
View articles
Dara White, Global Head of Emerging Market Equities
Gaining momentum
Global emerging markets
© 2020 THREADNEEDLE ASSET MANAGEMENT HOLDINGS LIMITED Threadneedle Investment Services Limited. Threadneedle Asset Management Limited. Authorised and Regulated in the UK by the Financial Conduct Authority (FCA). Columbia Threadneedle Investments is the global brand name of the Columbia and Threadneedle group of companies.
CIO EMEA outlook 2021 Knowns and unknowns after a tumultuous year
01
Seeking safe havens
02
Maya Bhandari, Portfolio Manager, Multi-Asset
Striking neutrality
03
The land that time forgot
04
After a tumultuous year and with significant uncertainty ahead, William Davies, EMEA CIO, outlines his outlook for 2021.
Chief Investment Officer, EMEA and Global Head of Equities
William Davies
William Davies is Chief Investment Officer, EMEA and Global Head of Equities at Columbia Threadneedle Investments. He took up this role in September 2019 and is responsible for the investment performance for all EMEA investment strategies. William joined Threadneedle Investments as a European Equities portfolio manager at the company’s inception in 1994. He became Head of European Equities in 1999 and Head of Global Equities in 2011. In June 2016, William became Head of Equities, EMEA and in 2017 he became Global Head of Equities, assuming responsibility for the company’s equity teams across all regions. William will retain this role in addition to becoming CIO, EMEA. Before this William worked for Eagle Star Investments . He has also worked for Hambros Bank as a European Investment Manager where he led the European equity team. William holds a BA (Hons) in Economics from Exeter University.
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1 Eagle Star Investment Managers became part of Threadneedle Asset Management Limited in May 1994.
The critical thing for us is to ensure we remain invested in the companies that are going to make it through and ultimately benefit from the economy reopening.
At the beginning of the year we were threatened with excitement, be that trade wars or ongoing political upheaval in the Europe and the US. None of us were prepared for a global pandemic. In March, markets descended into chaos as Covid-19 swept around the world, with equity markets down by more than 30% and credit spreads widening hugely. From there we have witnessed an initial rally driven by central bank stimulus, followed by ongoing market volatility and more recently a “sugar rush” of market excitement following the announcement of potentially effective vaccines. All of this played out against a backdrop of three areas that will continue to be of huge importance in 2021: the development of further effective Covid-19 vaccines; the political make-up of the US following the November election and the forthcoming runoff elections that will decide which party controls the Senate; and Brexit. As asset managers we are only able to navigate our way through the potential scenarios and impacts from the above factors because of our research capabilities, what we call our Research Intensity. These power our understanding of themes, trends and events, lead us to attractive investment opportunities and allow us to maintain an element of calm in the midst of “panic”.
Covid-19: the search for a mass vaccine nears its end
US political landscape: healthy for equities and credit?
Brexit
Markets, themes and opportunities: quality set to endure
Active managers powered by research
When the coronavirus first hit, our research work was focused on its potential spread, because that had impacts at a corporate level as well as a personal one – from travel and healthcare to banks and retail. While the data we had available was limited to the number of tests, hospitalisations and deaths, our research teams focused on diagnostics, treatment and vaccine development. Looking forward it is important to focus on when successful vaccines will be available, how effective they may be and who will receive them. It is all about knowns versus unknowns. For example, we know numerous vaccines are expected in 2021, with at least 30 expected to publish results throughout the year, but we don’t know how many will be approved and when during the year. We know three have already been announced with 90%-plus efficacy rates (impressive given that vaccines are usually approved if they have 50% efficacy), but we do not yet know the full differences between these vaccines. We know there will be a rapid uptake from the general public, but we do not know the extent to which there will be hesitancy from certain sub-groups.
We know that while the end of the pandemic is coming, the fundamentals are likely to deteriorate first because many economies are still shutting down – it is getting worse before it gets better. But markets have begun to look through the short term to the sunny upside of the vaccine-led recovery. Where previously they appeared vulnerable to any spike in positive tests or hospitalisations, now they appear more sanguine. But what will that recovery look like? It will be based on the speed with which vaccines are rolled out, the numbers of people receiving them, and how quickly people return to “normal” activities. In April 2020 our original forecast was that the recovery would be U-shaped and we would see a level of economic activity back at pre-pandemic levels by the end of 2022. However, the strong efficacy of the drugs from Moderna et al would encourage us to believe that the recovery from the pandemic may be quicker in 2021 than we had previously anticipated.
That should bring forward economic recovery by as much as nine months, meaning we see a recovery to pre-pandemic levels by early-2022 or possibly even the end of 2021. The critical thing for us is to ensure we remain invested in the companies that are going to make it through and ultimately benefit from the economy reopening. Since the pandemic and lockdowns we have seen consumers become more comfortable buying things online that they had traditionally resisted, such as clothing and footwear. As a result, the trend towards e-commerce has been pulled forward. If you add to this the build-up of personal savings caused by people being unable to spend as much as they used to, you have a potential explosion of pent-up demand to come in 2021 (Figure 1). In our view, the greatest growth in spending will more likely be on “experiences” hit during the pandemic (for example, leisure and travel) rather than “things” (washing machines and cars), which was a consumer trend we had been witnessing for some years already.
Figure 1: US Savings rocket during the pandemic
Joe Biden’s victory in November, coupled with the result of the run-off election in Georgia, has seen the Democrats gain the presidency as well as marginal control of the Senate and the House of Representatives. However, given the make-up of the House and Senate – and the razor-thin voting majority in the Senate – it will not be easy for Biden to implement radical change. That said, he appears to be a more stable, consistent leader and we anticipate he will more likely heal domestic divisions as well as repair international relationships. He has talked about rejoining the Paris Accord, for example, and this will have a positive impact on slowing climate change and aligning the US with other nations. We also expect him to continue taking a tough line on China, but with a different style to the rhetoric of the past few years and a more consistent approach. Biden will no doubt have a more constructive relationship with Europe too, and Germany and France in particular, which has deteriorated in the past four years.
A new round of stimulus will no doubt be the first order of business for the Biden presidency, likely containing a combination of small business support and another round of direct payments to households. We expect changes in health care, though the future in this sector is difficult to predict, and we believe the climate will be addressed in the early months: extending current schemes (and creating new ones) that incentivise clean energy is likely. But given that the Democrat’s Senate "majority" is so slim, we will probably find ourselves in something of a middle ground, which is a reasonably healthy position for equity and credit markets. Medium term it is certainly one that benefits the likes of US utilities, consumer staples and tech, but which may have negative implications for financials, energy and health care (although financials and energy are likely beneficiaries from the recovery/vaccines, albeit not as much as if stimulus were greater).
We now have a Brexit deal but there remain elements of the agreement that include decisions still to be agreed. Going forward, it will be important for the UK prime minister to build a relationship with Biden in the US, just as it is also crucial that Biden builds a strong relationship with the EU.
The UK has endured an extremely challenging period…any positive news – be that vaccine-related, Brexit or otherwise – could open the door for a stronger performance from UK equities in 2021
With that in mind, I believe any positive news – be that vaccine-related, Brexit or otherwise – could open the door for a stronger performance from UK equities in 2021.
At the end of the global financial crisis in 2009 we saw a sugar rush within markets, specifically for a couple of quarters from March that year where economy-sensitive stocks performed very well. This is being mimicked somewhat today, but following unprecedented levels of stimulus and government intervention the level of debt is going to be even greater than it was after 2009, so that rush of recovery is unlikely to persist. We will thus emerge into a world of low inflation, low growth and low interest rates – a repeat of the 2010s in some way. Such a backdrop is not one where traditional value is likely to outperform over the longer term. A big fiscal deficit is of course potentially inflationary, but any inflation is unlikely to persist for two reasons: one is that there is a lot of spare capacity within the economy, as measured by unemployment and low industrial capacity utilisation; and secondly, any inflation will be accompanied by rising interest rates which will quickly dampen growth due to the cost of servicing such high levels of debt. We would therefore caution against a rush to value and poorly performing stocks irrespective of the outlook, and would also caution investors about value traps.
Volatility will likely continue to be elevated in 2021, but it would be a mistake to make knee-jerk reactions to sudden strong moves in markets. Again, as investors we must maintain our strategic positions and focus on the longer term.
Instead, we expect this environment will favour the type of investments that Columbia Threadneedle Investments makes – long-duration assets and durable growth companies that keep grinding higher because they have all the characteristics we look for in a business: sustainable returns driven by a sizeable moat; a high Porter’s Five Forces score; strong environmental, social and governance credentials; and sustainable competitive advantage. We want risk within portfolios, but we want controlled risk. Volatility will likely continue to be elevated in 2021, but it would be a mistake to make knee-jerk reactions to sudden strong moves in markets. Again, as investors we must maintain our strategic positions and focus on the longer term.
That said, there is a subtlety to the recovery that we must heed. It could be a mistake to believe people will begin flying to places and staying in hotels at the same rate as before. With the digitisation of the economy and the use of video conferencing, for example, there is a strong case that business travel and spending will not return to pre-pandemic levels. As a result, certain hotel groups and airlines that are geared towards business may not do as well as more leisure-focused airlines as we emerge from our Covid hibernation.
Equities
Investors must be prepared for current secular trends such as digitisation and automation to continue, while the growth of e-commerce has been pulled forward by the pandemic. The stocks benefiting from these trends continued to outperform in 2020 and we expect them to do so in the future. We also expect cyclical areas that were hit by Covid-19 to bounce back when the recovery kicks in, including travel and entertainment. That said, investors should not ignore the companies which might have underperformed during the pandemic but have the financial strength and the business models to gain market share on the other side. Looking at specific regions, it is a question of short term versus long term.
The UK is clearly cheaper than other markets around the world and may benefit if we see the expected recovery over the next nine to 12 months; and I would put Europe in that camp too. Longer term we can see potential in the US and Asia/emerging markets.
In the US we see a market which is broader than other markets around the world and in the case of the technology sector is a leader in terms of digitalisation around the world, but we see its recovery taking longer.
In Japan we would look at Shinzo Abe’s replacement as prime minister, Yoshihide Suga, as being very much the continuity candidate. He has made positive noises about continuing on the path that has seen the country embrace corporate governance and regulatory reform, digital transformation and a more attractive environment for foreign tourists and workers. Japan has significant exposure to industry within its market, particularly to Chinese investment, so we see an improved outlook for Japanese equities going into the recovery, even if Japan’s demographics do continue to create a real headwind.
As ever with emerging markets there are those countries where we see growth ahead, and others where we see challenges, such as Brazil or India (although they are a smaller part of the emerging market investment landscape). The largest emerging market is of course China, which is growing this year and was the first to emerge economically from Covid-19. Other countries are at different stages of their recovery and this will be linked to how quickly mass vaccinations are rolled out, but we see China at the forefront and the likes of India and Latin America further behind.
Credit
Investment grade markets benefited directly from fiscal stimulus such as corporate bond-buying programmes and furlough schemes. We do see some downgrade risk when those props are removed, but there is a greater risk in the high yield area where investors must tread carefully due to higher financial leverage. Not all those companies are going to make it through – indeed, if high financial leverage is linked to operational leverage, which it often is, one should tread ever so carefully. So while we like an element of risk within credit, we believe investment grade is ultimately a better home for it than high yield.
This leads me to the UK equity market, for which 2021 is hugely important. The UK has endured an extremely challenging period, buffeted by ongoing Brexit uncertainty, political upheaval and the pandemic. Companies in the UK appear cheap, which is evident in the rising number of takeovers and mergers and acquisitions.
Our research teams work collaboratively across all major asset classes, using big data and analytics such as machine learning and augmented intelligence to turn information into forward-looking insights that add real value to investment decisions, enabling consistent and replicable outcome heart of our investment process. This year we have focused our research on Covid-19 and its impact, including the health care impacts, economic and market impacts, and long-term implications. This has helped inform our view of how we see the trajectory of the virus, vaccine development and economic recovery. We call this inter-linking of our analysts and research team with our fund managers to create well-argued and sensible views the “path forward”. It has given us insights throughout the year that have allowed us to add value for our clients.
As active managers we have performed strongly throughout the pandemic crisis, using our knowledge, expertise, collaborative skills and research capabilities to remain calm.
As active managers we have performed strongly throughout the pandemic crisis, using our knowledge, expertise, collaborative skills and research capabilities to remain calm. Whatever 2021 brings, this approach, coupled with our experience of 2020, means we will be particularly well positioned to navigate through financial markets for our clients.
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US Savings Cushion
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Source: Hutchins Center calculations from Bureau of Economic Analysis data, as at November 2020
Cumulative Excess Savings $13.5 trillion
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Important Information: For use by Professional, Institutional and/or Qualified Investors only (not to be used with or passed on to retail clients). This is an advertising document. This document is intended for informational purposes only and should not be considered representative of any particular investment. This should not be considered an offer or solicitation to buy or sell any securities or other financial instruments, or to provide investment advice or services. Investing involves risk including the risk of loss of principal. Your capital is at risk. Market risk may affect a single issuer, sector of the economy, industry or the market as a whole. The value of investments is not guaranteed, and therefore an investor may not get back the amount invested. International investing involves certain risks and volatility due to potential political, economic or currency fluctuations and different financial and accounting standards. The securities included herein are for illustrative purposes only, subject to change and should not be construed as a recommendation to buy or sell. Securities discussed may or may not prove profitable. The views expressed are as of the date given, may change as market or other conditions change and may differ from views expressed by other Columbia Threadneedle Investments (Columbia Threadneedle) associates or affiliates. Actual investments or investment decisions made by Columbia Threadneedle and its affiliates, whether for its own account or on behalf of clients, may not necessarily reflect the views expressed. This information is not intended to provide investment advice and does not take into consideration individual investor circumstances. Investment decisions should always be made based on an investor’s specific financial needs, objectives, goals, time horizon and risk tolerance. Asset classes described may not be suitable for all investors. Past performance does not guarantee future results, and no forecast should be considered a guarantee either. Information and opinions provided by third parties have been obtained from sources believed to be reliable, but accuracy and completeness cannot be guaranteed. This document and its contents have not been reviewed by any regulatory authority. In Australia: Issued by Threadneedle Investments Singapore (Pte.) Limited [“TIS”], ARBN 600 027 414. TIS is exempt from the requirement to hold an Australian financial services licence under the Corporations Act and relies on Class Order 03/1102 in marketing and providing financial services to Australian wholesale clients as defined in Section 761G of the Corporations Act 2001. TIS is regulated in Singapore (Registration number: 201101559W) by the Monetary Authority of Singapore under the Securities and Futures Act (Chapter 289), which differ from Australian laws. In the USA issued by Columbia Management Investment Advisers, LLC (CMIA) is an investment adviser registered with the U.S. Securities and Exchange Commission. In UK issued by Threadneedle Asset Management Limited. Registered in England and Wales, Registered No. 573204, Cannon Place, 78 Cannon Street, London EC4N 6AG, United Kingdom. Authorised and regulated in the UK by the Financial Conduct Authority. In the EEA issued by Threadneedle Management Luxembourg S.A. Registered with the Registre de Commerce et des Societes (Luxembourg), Registered No. B 110242, 44, rue de la Vallée, L-2661 Luxembourg, Grand Duchy of Luxembourg. In Switzerland issued by Threadneedle Portfolio Services AG, Registered address: Claridenstrasse 41, 8002 Zurich, Switzerland. In the Middle East this document is distributed by Columbia Threadneedle Investments (ME) Limited, which is regulated by the Dubai Financial Services Authority (DFSA). For Distributors: This document is intended to provide distributors’ with information about Group products and services and is not for further distribution. For Institutional Clients: The information in this document is not intended as financial advice and is only intended for persons with appropriate investment knowledge and who meet the regulatory criteria to be classified as a Professional Client or Market Counterparties and no other Person should act upon it.
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Deputy Global Head of Fixed Income
Gene Tannuzzo
Gene Tannuzzo is a senior portfolio manager and deputy global head of fixed income at Columbia Threadneedle Investments. He is involved in the management and oversight of the firm’s fixed income business in North America and EMEA. He joined Columbia Threadneedle Investments in 2003 and moved into the role of portfolio manager in 2007. In this role, he leads the fixed income asset allocation committee and serves as lead portfolio manager for the Strategic Income and Income Builder strategies. He is also a member of the portfolio management team for the Core and Core Plus strategies and institutional portfolios. Prior to this, he was a member of the municipal bond team. Gene received a BSB. and MBA from the University of Minnesota, Carlson School of Management. In addition, he holds the Chartered Financial Analyst designation.
The US Federal Reserve’s aggressive response to the coronavirus pandemic has driven yields on safe-haven debt to near zero, leaving “low-risk” portfolios increasingly susceptible to interest rate-driven price volatility.
We believe the Fed’s accommodative stance will persist for many years, which may prevent yields from rising materially. However, this doesn’t ensure that they will fall, and the risk appears asymmetric given that low yields fail to protect against even modestly higher rates.
As a result we recommend that investors consider balancing their interest rate risk by focusing on more credit-centric areas of the bond market. The Fed’s efforts to depress high-quality government yields creates a powerful source of demand for credit assets by forcing investors further out on the risk spectrum to generate income. This demand, coupled with the prospect of continued economic growth, supports a broadly positive outlook for credit assets.
Staying nimble will likely be a key factor to enhancing returns in 2021, better enabling investors to preserve the balance between income and capital preservation.
Investors should remain flexible and diversified. Following a significant rally that saw prices recover 20% or more, risk compensation is currently below the long-term average across most fixed income sectors. Relative value relationships also appear fair, suggesting that a diversified approach to sector allocation may yield better risk-adjusted results than a narrow focus.
We see an opportunity to diversify credit risk across corporate, consumer and sovereign balance sheets, which have all experienced fundamental repair since the depths of the crisis. Equally important is that investors remain flexible and prepared to rebalance if and when relative value changes. Staying nimble will likely be a key factor to enhancing returns in 2021, better enabling investors to preserve the balance between income and capital preservation.
We expect security selection to be a key driver of outperformance. Our base case is that the economy continues to recover through 2021, though with greater differentiation between the pandemic economy’s winners and losers. Changing demand patterns and prospects for an uneven recovery will impact industries and issuers in dramatically different ways.
Rather than passively owning market risk, we recommend that investors might consider focusing on security selection to avoid the potential downside scenarios that can significantly impair income and total return opportunities.
Good credit research that identifies which trends are most likely to persist – especially those that result in permanently reduced demand – should be viewed as an indispensable tool in today’s lower return world.
Credit selection may prove to be the most valuable risk management tool in fixed income in 2021.
Head of UK Equities
Richard Colwell
Richard Colwell is a portfolio manager and Head of UK Equities at Columbia Threadneedle. He manages the Threadneedle UK Growth & Income Fund, Threadneedle UK Equity Income Fund and the Threadneedle UK Equity Alpha Income Fund. He also co-manages the Threadneedle Monthly Extra Income Fund and has research responsibility across all sectors. Before joining the company, Richard ran high alpha UK equity portfolios at Aviva Investors. He has also held portfolio management roles at Credit Suisse and Schroders and worked at the Bank of England. Richard has a degree in Banking, Insurance & Finance from the University of Bangor. He holds the Chartered Financial Analyst designation and is a member of the CFA Society of the UK as well as the Chartered Institute of Bankers.
If the UK equity market was out of favour at the beginning of 2020, it’s even more so now. Until the arrival of three vaccines prompted a wave of market exuberance towards the end of the year, UK equities had fallen approximately 20%. The only two worse-performing equity markets were Russia and Brazil and asset allocators remain reluctant to look at UK equities, which are now even cheaper than they were a year ago.
In previous market crashes, the stocks that led the markets higher in the earlier peak years have suffered most in the shakeout. Logically, that would mean US technology or China stocks being this year’s laggards; yet in 2020 they stand out as the brightest stars in global markets. Meanwhile international companies listed in the UK, pound for pound are on double discounts versus if they were quoted in Europe or the US. An average of a 40% discount to the World MSCI!
As the UK’s double discount starts to narrow, following the greater clarity that Brexit should bring and as vaccines progress, 2021 and into 2022 could be exciting for the UK equity market
Equity markets have become bipolar, with the five big US tech stocks – Facebook, Apple, Alphabet, Amazon and Microsoft – accounting for most of the US equity market’s strong performance. But there are twists and turns to come. As UK chancellor, Rishi Sunak, said in the November Spending Review, the country’s 11.3% contraction in GDP for 2020 is the biggest for 300 years. Although the economy is forecast to recover in 2021 and 2022 we still have a boneshaker ride ahead.
Consider how quickly the UK equity market rotated after Pfizer and BioNTech announced their successful Covid-19 vaccine data in mid-November. Many months of outperformance by growth stocks was erased in a single day, revealing that many investors have similar positions. The proliferation of quantitative investors, ETFs and factor-based investing has made the market unbalanced and typifies the high levels of consensus thinking.
We continue to firmly believe in the UK, but trends often go on for longer than predicted. This creates the opportunity we see today, as it amplifies the impact when the switch in momentum finally occurs.
However, the window on unlocking this potential value is closing. While sentiment about the UK economy has been hurt by both Covid-19 and Brexit, the equity market does not need a great recovery to perform better.
Figure 1: FTSE All Share/S&P 500 Composite
Source: Refinitiv Datastream.
FTSE All Share/S&P 500 Composite
We continue to firmly believe in the UK, but trends often go on for longer than predicted. This creates the opportunity we see today, as it amplifies the impact when the switch in momentum finally occurs
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As the UK’s double discount starts to narrow, following the greater clarity that Brexit should bring and as vaccines progress, 2021 and into 2022 could be exciting for the UK equity market. Even the UK’s quality growth companies like Unilever are a lot cheaper than their rivals globally. We believe it’s not just one or two areas of the UK market that are cheap; the whole market is cheap!
The best opportunities for a decade
The best time to invest is when it feels uncomfortable. For sure, the UK remains out of favour, but three quarters of UK companies’ profits come from international markets, so the market should be driven by global GDP.
1 Bloomberg, Morgan Stanley, as at 30 September 2020. 2 Morgan Stanley, as at 30 September 2020. 3 FT.com, Sunak warns of ‘economic emergency’ as borrowing hits record £394bn, 25 November 2020. 4 Badon Hill Asset Management/Columbia Threadneedle, November 2020.
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Beware the closing window
Brexit has finally been determined and the late, thin deal provides some certainty, as would a reasonable recovery in 2021. Given this, a lot of the short positions against UK equities are likely to be closed. Although Brexit will still result in some short-term frictional trade costs, this deal is a good outcome, removing a large part of the uncertainty that has weighed on UK equities in recent years.
But the UK stock market is coming off very depressed valuations. Hence why mergers and acquisitions remain high and are accelerating, because there is a lot of appetite to ignore the short-term noise and focus on valuations – not from market practitioners, but rather private equity and US corporates. They see time is running out. The former remain too timid to exploit this valuation arbitrage, but waiting much longer for the certainty with which to act may see the opportunity lost.
Dividends have a critical role in pensions, savings and the income of the British public. The unprecedented nature of the pandemic, and the consequential need for companies to restore their liquidity, led to a contraction in dividend payments in April and May which was one of the quickest, sharpest and broadest ever encountered. This is a process which comes at close of every cycle, but Covid-19 meant it was condensed into just three weeks. However since then, as conditions have stabilised, the tide has turned and 60 companies have already reinstated dividends. More will follow.
Dividends are coming back
But looking ahead we expect more prudent policies and better cover, and even in the worst-case scenario the UK market should still offer a healthy yield premium to bonds by next year. For now, however, balance sheets and liquidity are paramount.
As active managers we are excited about the UK market. We see some of the best opportunities in distressed stocks for a decade. While quantitative investing and factor investing focuses on which buckets stocks are in – a form of paint by numbers – active management logically relates the value offered by a stock to its price. We look forward to a levelling up for the UK market and its unloved companies.
Head of Asian Equities
Global Head of Emerging Market Equities
Dara White
Dara White is Global Head of Emerging Market equities at Columbia Threadneedle Investments. He has acted as lead portfolio manager of emerging market equities since 2008. Dara joined one of the Columbia Threadneedle Investments legacy firms in 2006 as co-manager of the strategic investor team. Previously, Dara was a portfolio manager and analyst with RCM Global Investors. Dara received a B.S. in finance and marketing from Boston College. He is a member of the CFA institute and the Security Analysts of San Francisco. In addition, he holds the Chartered Financial Analyst designation.
Despite its huge impact on health and wellbeing, the Covid-19 pandemic has done little to disrupt the powerful structural trends driving growth in emerging markets (EMs). We expect these trends to gain additional momentum in the coming year and for EMs to remain unchallenged as the primary engine of global economic growth.
As we enter 2021, the macro-economic backdrop is extremely supportive. Several major economies, notably China and South Korea, were among the first to be hit by the pandemic, but thanks to their robust approach to tackling its spread they have recovered strongly and are well positioned to continue their rebound. More generally, EMs are benefiting from the global wave of interest rate cuts and liquidity injections. Moreover, they have more scope than developed markets to apply further stimulus, thanks to their higher real interest rates.
With a supportive macro-economic environment and the promise of Covid-19 vaccines, we believe EM’s transition from export-led growth to reliance on buoyant domestic demand will assert itself more strongly than ever
1 https://www.brookings.edu/wp-content/uploads/2020/10/FP_20201012_china_middle_class_kharas_dooley.pdf October 2020 2 https://data.worldbank.org/indicator/SH.XPD.CHEX.GD.ZS December 2020. 3 https://www.biopharminternational.com/view/china-joins-ich-global-harmonization-efforts August 2017. 4 FT.com, Global drugmakers strike deal to slash prices in China, 28 November 2019. 5 https://www.bloomberg.com/news/articles/2020-10-28/brazil-holds-key-rate-at-2-as-growth-woes-outweigh-fiscal-fears October 2020.
Nowhere is this clearer than in the shift we have witnessed in the centre of gravity of the global middle classes. In October, the Washington-based Brookings Institution pointed out that China is experiencing the fastest expansion of the middle class the world has ever seen, adding that this was taking place “during a period when the global middle class is already expanding at a historically unprecedented rate thanks in part to some of its neighbours like India”. The Brookings paper forecasts that the Chinese middle class will reach 1.2 billion people by 2027, representing a quarter of the global total. By comparison, in the 1950s more than 90% of the world’s middle classes lived in Europe and North America.
Our approach to capturing these opportunities will lead us to continue to focus on the EM companies serving domestic demand. We see significant opportunities across consumer discretionary, information technology and communication services sectors, where there is exciting global growth potential as businesses develop products and services to meet evolving consumer tastes.
Elsewhere, there are pockets of growth in financials thanks to digital innovation. For example, in Brazil record-low interest rates are driving investment in equities and creating opportunities. As financial deregulation, structural reform and technology adoption continue, we expect areas such as digital brokerage and payments to yield more prospects for high growth. And although the pandemic has slowed the reform agenda in EMs somewhat, the long-term trend is intact. Indeed, we note that important reforms are progressing in countries including Brazil, Indonesia, India and China.
Many investors remain under-allocated to EMs, but the case for owning this asset class is becoming stronger. We are finding a growing number of companies that meet our “quality growth” investment style with strong, investor-friendly management teams and the ability to fund their growth internally while increasing their returns on invested capital.
We see the growth and diversification benefits of this asset class as compelling, and believe 2021 will offer attractive opportunities to increase exposure.
Many investors remain under-allocated to EMs, but the case for owning this asset class is becoming stronger – a growing number of companies meet our “quality growth” investment style
Head of Global Rates and Emerging Market
With a supportive macro-economic environment and the promise of Covid-19 vaccines becoming widely available during 2021, we believe the key long-term trend driving EMs – their transition from export-led growth to reliance on buoyant domestic demand – will assert itself more strongly than ever.
Healthcare is another sector that has accelerated during the pandemic. With healthcare spending in China only around 5% of GDP, compared to 17% in the US, there is a clear trend of where this sector could go. In China people are getting older, richer and sicker. Big bang reforms have been a key catalyst for the industry, with its membership of the International Council for Harmonisation of Technical Requirements for Pharmaceuticals for Human Use (ICH) helping to integrate China’s clinical process and adherence to global standards. As such, drug approval and reimbursement times have since fallen dramatically. The market has opened up and there is now the demand and capability to realise it. We wouldn’t be surprised if the healthcare sector doubles in weight over the next few years.
This continuing shift will fuel strong domestic demand for goods and services, a significant proportion of which will be met by fast-growing domestic companies. We believe themes such as digital innovation, ecommerce and digital payments penetration, financial deepening and environmental development – all of which have been reinforced by the effects of the pandemic – will provide rich sources of investment opportunity through the coming year and beyond.
Many investors remain under-allocated to EMs, but the case for owning this asset class is becoming stronger. We are finding a growing number of companies that meet our “quality growth” investment style with strong, investor-friendly management teams and the ability to fund their growth internally while increasing their returns on invested capital. We see the growth and diversification benefits of this asset class as compelling, and believe 2021 will offer attractive opportunities to increase exposure.
Portfolio Manager Multi-Asset
Maya Bhandari
Maya Bhandari joined the company in 2014 and is a portfolio manager and member of the Global Asset Allocation team. In this role she is responsible for managing and co-managing a range of multi-asset portfolios, as well as providing strategic and tactical input to the Threadneedle asset allocation process. Before joining the company, Maya spent over 10 years advising buy-side companies on their multi-asset strategies. Most recently, she was a strategist and director at Citigroup within the Global Macro Strategy & Asset Allocation team where she developed broad global macro themes and investment ideas across asset classes. She was also a member of the Citi Private Bank’s Investment Committee, where she advised the private bank on their asset allocation decisions. Prior to that, she spent six years at Lombard Street Research, latterly as head of Emerging Markets Analysis, whilst also previously working as a senior economist and strategist. Maya started her career as an economist for the European Commission. Maya holds an MA (Honours) in Economics from Edinburgh University, and a MPhil in International Relations from Cambridge University.
Both financial markets, and us, have come a long way since the dark days of spring to the (unseasonally) brighter days of winter. Back in March, as the huge and synchronised shock to economic activity from Covid-19 was met with an equally vast and synchronous policy response, we, as most others, marked sharply lower our expectations for economic and corporate earnings growth in 2020.
Stimulus notwithstanding, the short-term shock from sudden stops to economic activity was set to be enormous. But we also raised considerably our exposure to quality risk assets across multi-asset funds, which we held on to until late summer, locking in super-normal profits in areas that appeared to be both severely dislocated and set to benefit most from ultra-easy policies, like high-quality investment grade bonds and higher-quality equities.
Our central forecasts are for a ceiling of 2% on 30-year US yields, and 1% for 10-year yields, which should create fertile conditions for more persistent risk rallies
Our focus has been on building exposures in Japanese and emerging Asian equities, held together with US equities. We also continue to like credit markets
1 For instance: purchaser manager indices fell to levels we have never seen before, including in 2008-2009; the US unemployment rate surged from a 50-year low to a nearly 80-year high in just two months; and the UK economy is poised to shrink by the most in 300 years in 2020. 2 In March, global IG bonds were compensating investors for 50 times the historical default rate, while also being very direct beneficiaries of the alphabet soup of US, UK and European monetary policies. Many equity indices were priced at, or close to, book value, stripped down to the realisable value of assets in the event of liquidation. 3 Bloomberg/Columbia Threadneedle analysis, December 2020. 4 Columbia Threadneedle analysis, December 2020.
On the one hand, the combination of US quality growth and Asian quality cyclicals allows us to capture growing profits over the next couple of years. This is particularly striking in operationally levered Asia, where earnings are expected to grow by a compounded 10% in Japan and more than 17% in EM Asia between this year and 2022 – and for the same forward multiple as the UK, where earnings are expected to grow by 0.25%. Asia also has the added kicker of easy domestic monetary conditions: China’s credit impulse, for example, just surpassed its 2016 high and is a whisker away from 2012/13.
On the other hand, valuations are full, with 40% of asset markets currently trading more than one sigma above their long-term averages – a chief reason why we are not as positive on returns to risk as we were earlier this year. Equity index valuations are sky-high against their own histories on a range of metrics, with the yield-to worst on high-yield corporate bonds close to all-time lows. Put differently, companies’ cost of finance has rarely looked so good.
Fast-forward to the brighter days of November and three developments have tilted the balance once more, but this time in favour of select cyclicality within a more neutral risk budget. First, a relatively favourable US election outcome has removed tail risks and brought with it some unanticipated fiscal reprieve. Second, a far greater number of meaningfully more efficacious vaccines for Covid-19 than we and most others expected. And last but not least, shallower 2020 contractions than feared, which has led to more V-shaped forecasts for economic and earnings growth in areas like the US and Japan, with Asian emerging markets notably shrugging off the disruption from Covid-19. While this last feature may matter less for forward-looking markets, which have also looked through second waves of the virus and the greater associated stringency, it does set the foundations for a more sustainable recovery.
Our focus has been on building exposures in Japanese and emerging Asian equities, held together with US equities. We also continue to like credit markets, but as spreads have normalised we are adding our incremental pound or dollar to higher-yielding credit that should also benefit from the better cyclical picture, in addition to continued ultra-easy policy. These are the areas where we expect the best risk-adjusted returns to come from over the next 12-18 months. But you gotta have faith in low discount rates to justify current market prices, even with the positive factors just described.
Columbia Threadneedle’s central forecasts are for a ceiling of 2% on 30-year US yields, and 1% for 10-year yields, which should create fertile conditions for more persistent risk rallies. By equal measure, an unpinning of longer-dated yields is among the greatest risks.
Figure 1: Asset allocation snapshot with key recent changes highlighted
Source: Columbia Threadneedle Investments, 8 December 2020.
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Portfolio Manager
Head of Investment Grade Credit, EMEA
Alasdair Ross
Alasdair Ross is Head of Investment Grade Credit, EMEA, with responsibility for our UK and European investment grade corporate credit teams based in London. Alasdair is lead portfolio manager across various global, euro and UK corporate credit portfolios including Threadneedle (Lux) Global Corporate Bond Fund, Threadneedle European Corporate Bond Fund, Threadneedle UK Corporate Bond Fund and is also deputy portfolio manager on the Threadneedle Credit Opportunities Fund. Alasdair’s investment background is as a fundamental, bottom-up, investment grade credit analyst. Between joining the company in 2003 and becoming a portfolio manager in 2007, he had responsibility for covering the TMT, utility and energy sectors, as well as the sterling whole business securitisation sector. Prior to joining the company, Alasdair worked at BP plc in a rotation of commercial roles. Alasdair has a first class honours degree in Politics, Philosophy and Economics from the University of Oxford. He also holds the Chartered Financial Analyst designation.
We came into 2020 on the back of one of the longest expansion phases ever, with increasingly loose monetary policy extending the growth cycle. Because of that growth and low interest rates, companies had been gearing up and corporate leverage was actually relatively high going into the pandemic.
With Covid-19-related lockdowns, governments and policymakers had to act to prevent an economic shock turning into a financial crisis. To achieve this, programmes were designed to keep the credit channel open. As well as fiscal support packages such as furlough schemes, we saw support through direct lending schemes, banking sector forbearance and expanded purchases of corporate bonds.
Investment grade markets benefited directly from this. In March the US Federal Reserve said it would directly buy corporate bonds for the first time, which followed the Bank of England and European Central Bank’s expanded corporate quantitative easing (QE).
We shouldn’t underestimate the fact the pandemic may have changed behaviour significantly. Will we return to five days in the office or is home working here to stay?
While there might be some default or downgrade risks as these schemes wind down, the makeup of the market means it shouldn’t be a major concern. IG’s biggest single sector is banks, which is supported by an economic policy to manage losses. So, we would expect credit quality to go sideways and weaker players to merge with stronger ones. That accounts for almost 25% of the global IG market. There are also sectors where the outlook is as good, if not better, than before: technology, and food and beverage, which is 10% of the market. Largely unaffected sectors, such as utilities, telecoms and healthcare add up to another 20%. Even real estate, which is 4% of the market but isn’t really a homogenous sector as there are so many different sub-sectors, has seen good performance in some areas. Warehouses and logistics have benefited from home delivery and the Amazon effect. Retail and offices have been more difficult, but that is only 1% or so of the market.
Even for sectors where the pandemic has negatively affected operations and earnings, many IG-rated companies have significant levers they can pull in order to react to that. A combination of cost-cutting, capex phasing, working capital management and inorganic activity such as asset sales, dividend cuts or equity raises can and will be utilised to defend balance sheet credit quality.
However, we shouldn’t underestimate the fact the pandemic may have changed behaviour significantly. Will we return to five days in the office or is home working here to stay? Some sectors may benefit from such changes, like tech or food and beverage, but it might put a question mark over others.
But policy tools are typically applied quicker than they come off. For example, the ECB’s QE lasted longer than was strictly necessary for market stress or the cost of debt for large European corporates. More recently the Fed has said it will move to average inflation targeting, where even if inflation goes above 2%, interest rates won’t be increased until that level is sustained for some time. So, we expect policy support to last for some time.
IG spreads globally are at 130bps over government bonds, which is the long-run average (see Figure 1). Yield levels on government bonds and cash rates, meanwhile, are at all-time lows, and equity P/E ratios are at two-decade highs because discount rates were so low. In that context an asset at long-run average valuations is not bad value.
Figure 1: Long-term global IG corporate spreads
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Source: Bloomberg as at 31 October 2020
Global IG corporate spreads
The combination of policy factors and the fact this asset class can deleverage – and management teams will try to deleverage – makes us quite positive for the future. More positive than we were coming into the year.
1 Bloomberg, Fed Will Begin Buying Broad Portfolio of Corporate Bonds, 15 June 2020. 2 All IG market percentages Columbia Threadneedle analysis, November 2020. 3 FT.com, Fed to tolerate higher inflation in policy shift, 27 August 2020
Ann Steele
Ann Steele joined the company in 2009 as a senior portfolio manager in the European equities team. Ann manages the Threadneedle (Lux) Pan European Equities Fund and various segregated mandates. Ann has been actively involved in the development of enhanced ESG analytics. She manages specialist Responsible Investment solutions for large institutional clients to enhance portfolio returns. Before joining the company, Ann worked at Pictet Asset Management, Gartmore and Henderson where she managed a number of institutional funds. Ann holds a degree from the University of Glasgow.
There are reasons for optimism in 2021. Forget a U-shaped recovery; the letter we look for in 2021 is V, which stands for vaccine. Our baseline scenario is that vaccines roll out across Europe in early 2021, allowing business and consumer activity to start to return to normal. But even if there are delays and further lockdowns, the economic impact of Covid-19 should ease markedly in 2021.
Expect a big rebound from corporate earnings crushed by the virus, and support from Europe-wide fiscal stimulus, injections of money from central banks, and recovering companies and consumers.
As 2020 draws to a close, many companies in Europe are so cheap that we expect a surge in mergers and acquisitions
Unemployment is expected to be higher, but among those who have retained their jobs, many European consumers have been building cash reserves – in the second quarter of 2020 the household savings rate in the euro area hit a record high of 24.6%. The European Union has agreed a €750 billion stimulus package to combat the pandemic, while quantitative easing and record low interest rates from the European Central Bank, the Bank of England and other European central banks should continue throughout 2021.
The second is stocks that did see earnings decline, but the share prices were savaged – by year-end they were heavily oversold, and some did not deserve to be so heavily punished. We expect many of these stocks to enjoy strong earnings rebound in 2021. And as 2020 draws to a close, many companies in Europe are so cheap that we expect a surge in mergers and acquisitions.
So as in 2020, stock selection is key and will play to the core strengths of Columbia Threadneedle Investments, where investment decisions are backed by an extensive team of experienced sector analysts.
There will be laggards and leaders in European equities – performance, as ever, needs to come from stock selection
1 European Commission, https://ec.europa.eu/eurostat/documents/2995521/10663666/2-02102020-BP-EN.pdf/f30ab193-3e6d-2bfb-8916-dd058322105e 2 October 2020. 2 Bloomberg, https://www.bloomberg.com/news/articles/2020-07-21/eu-leaders-reach-deal-on-750-billion-euro-virus-recovery-fund 21 July 2020. 3 BBC.co.uk Climate change: China aims for ‘carbon neutrality by 2060’, 22 September 2020. 4 Bloomberg, April 2020.
A lot of European companies have cut costs and improved operational efficiencies in the wake of Covid-19. So, our central case is European equities to be well supported. However, we expect there are some companies which won’t survive, or will be hobbled by the crisis. So, laggards and leaders – performance, as ever, needs to come from stock selection.
We believe the European winners in 2021 will fall into two categories. The first is globally competitive companies with robust franchises, strong management teams and excellent pricing power – often these companies have business models which meant earnings did not suffer the hit in 2020 and even – within healthcare and technology, for example – derived some benefits from the new normal environment.
Aside from the vaccine, two other themes will influence European equity markets as we start 2021: the outcome of the Brexit trade negotiations with the EU, and the impact Joe Biden will have as the new US president.
On Brexit, at the time of writing a deal is yet to be agreed. Whatever the final outcome, there could be potential trade disruptions for both UK and European businesses next year as supply chains are reworked. However, given the goodwill on both sides to iron out any issues, we expect major problems to be short lived.
President-elect Biden, meanwhile, has already had a positive impact on global markets: stock indices rose strongly in the wake of the US elections and as senior nominations in his administration were announced. Renewed global impetus on climate change may well follow, especially with the looming UN Climate Change Conference and China’s promise to achieve net zero carbon emissions by 2060. This bodes well for strategies which follow environmental, social and governance (ESG) standards.
2020 has been a challenging year for investors. From peak to March’s lockdown trough, at the height of pessimism, the Euro Stoxx 50 Index was down almost 40%. But as we enter 2021 the pessimism is behind us. And this means that, for equity investors, there are gains to be made.
Head of US Equities, EMEA
Nicolas Janvier
Nicolas Janvier is Head of US Equities, EMEA, at Columbia Threadneedle Investments. He took up this role in October 2020 and leads the London-based team which manages a significant US equities franchise for clients. Nicolas has been with the company for 14 years, working as a US equities portfolio manager in both our US and London offices. He is currently lead manager for the Threadneedle American strategy and Threadneedle American Smaller Companies strategy, as well as ESG portfolios managed by the London team. He is also co-portfolio manager of the Columbia Large Cap Growth Opportunity strategy. Nicolas joined the company in 2006, spending eight years in our New York office as a portfolio manager in the Value Strategies team focusing on US mid and small cap companies. Prior to this, Nicolas was a portfolio manager with the Private Bank at Bank of America. Nicolas holds a BSc in Telecommunications-Operations from the University of Florida. He also holds the Chartered Financial Analyst designation.
With the prospect of early access to effective vaccines getting steadily stronger, the major question for investors in US equity markets is how to position their portfolios for an economy returning to normal after the Covid-19 shock?
This question begs many others. How long will the normalisation process take? To what extent will this be a “new normal” rather than a reversion to the pre-pandemic status quo? What difference, if any, might a new US administration make?
The rebound will look different to previous phases when economies were emerging from recession, because this time household balance sheets are in much better shape
1 Source: Bureau of Economic Analysis.
Against this background, the US equity team is working closely with our Fundamental Research team to analyse two major themes that will drive our sector positioning and stock picks over the coming months.
However, we believe the pattern of consumer spending that emerges during 2021 will be different to the pre-Covid world. During the pandemic, consumers unable to travel and spend on hospitality and leisure activities started spending more heavily on goods for their homes. We expect this trend will reverse as the “experience economy”, which emerged strongly in the decade from 2010, returns to growth. Tourism, out-of-home entertainment and leisure spending will all benefit.
The first of these is the recovery in consumer spending. We believe the rebound after the pandemic will look different to previous phases when economies were emerging from recession, because this time household balance sheets are in much better shape. Despite the significant hardship that Covid-19 has caused among lower-income groups, many middle- and upper-income households are emerging from the downturn in excellent financial health. The savings rate in the US rocketed during 2020 to reach the unprecedented level of 32% in April, reflecting the lack of spending opportunities during the pandemic as consumers’ freedom of movement was restricted and many businesses temporarily closed.
The US consumer
However, consumer demand in other areas will most likely be curtailed by the acceleration in the “virtual economy” seen during the pandemic, with activities such as video conferencing becoming a feature of everyday life. We believe remote working will remain at elevated levels and a significant proportion of business travel – perhaps as much as 50% – will not return.
This may have major impacts in many areas. Patterns of mass transit usage and office occupancy will most likely change, and city centre services that cater for office-based workers might see revenues contract. Airlines and hotel chains that have positioned themselves to benefit from pre-Covid trends in business travel may face big challenges.
A long-term decline in business travel is part of the second major theme we have identified: changes in corporate costs that will feed into increased operational leverage and improved profitability as revenues rebound. During the crisis companies made deep cost cuts, deferred capital spending and reworked business processes to protect profits and liquidity. Our research suggests that while some will have to add costs back as their revenues grow, others have reorganised in ways that will result in permanently lower operating expenses.
One to watch: operational leverage
One of our key areas of analysis over the coming quarters, therefore, will be to identify those companies that have succeeded in permanently reducing their operating costs during the pandemic. This may be a result of restructuring and changing working practices in response to an unprecedented crisis, or it could be due to greater use of data and technology to optimise operations.
Either way, the improved operating leverage these companies have created will fuel sustained improvements in profitability through the next business cycle. It is also our job as investors to analyse which companies will not succeed in this way – and our research intensity enables us to look through the short term to find these longer-term winners and losers.
Naturally, the incoming US administration will also affect the business environment, although we expect a divided Congress to limit its scope for action. However, we are paying close attention to President-elect Biden’s cabinet nominations and his picks for the heads of the regulatory agencies for any indications of the new policy direction.
Our research does indicate that there will be clear sector winners and losers in a Biden presidency. For example, among the winners will likely be utilities, where the push towards generating cleaner power is likely to continue and should benefit regulated companies in this sector. Divided government creates a more challenging path for tax reform, but even with lower rises in the corporate tax rate, regulated utilities can pass the costs on to customers.
The incoming US administration will affect the business environment, although we expect a divided Congress to limit its scope for action
We also see winners in the consumer staples, real estate and tech sectors, but are not as bullish on healthcare, utilities and financials where, in the case of the latter, the picture is somewhat mixed. The likelihood of higher corporate taxes has decreased, which would be a positive for the sector, but the odds of new, more stringent regulatory initiatives may act as a drag.
Much about the political backdrop remains unresolved. But we are confident that understanding how individual companies are likely to perform in an environment dominated by the two major themes that we have identified – the consumer spending rebound and changes in companies’ operating leverage – will yield significant opportunities over the coming quarters. This is a situation that strongly favours an active, bottom-up approach to stock selection based on fundamental research.
Soo Nam Ng
Soo Nam Ng is the Global Head of Asian equities at Columbia Threadneedle Investments, based in Singapore. Mr. Ng joined one of the Columbia Threadneedle Investments firms in 2013. He is currently responsible for building the investment process and capabilities for Asia ex Japan equities. Besides leading discussions on regional strategy, he still assumes bottom-up research responsibilities for selective stocks particularly in China as he believes this helps him keep his ears close-to-the-ground. A member of the investment community since 1995, he was previously the Chief Investment Officer at Nikko Asset Management. Prior to that, he was Chief Investment Officer at Mirae Asset Global Investment Management, and a senior Fund Manager at Schroder Investment Management where he spent his first 10 years in the industry. Mr. Ng received a degree in economics from the University of Adelaide in Australia. In addition, he holds the Chartered Financial Analyst® designation.
If I were to sum up Asia ex Japan equity markets in 2020, it would be the pain of negative headwinds followed by the triumph of human ingenuity and determination in rising above them. This perhaps seems too optimistic a story for such a year, given how the world has suffered from Covid-19, but not too far-fetched if the performance of equity markets can be submitted as a verdict.
Equity markets quite quickly found a bottom around late March, shortly after China reported no locally spread infections for the first time since the Wuhan outbreak. For investors in Asia this was an important signal that the disease spread could be suppressed. The pandemic’s impact in the US brought forth strong monetary stimulus, which facilitated central banks in Asia to do likewise without fear of severe currency weakening. This sparked fresh optimism.
China’s climate change efforts forged ahead during the year, with stocks linked to electric vehicles and solar energy capping a stellar year for equities.
The shift online of both corporate and consumption activities saw hardware and software technology rise to the occasion, accelerating trends that were already in motion pre crisis. As a result, the information technology sub-index grossly outperformed (see Figure 1), resulting in the strong performances of the Taiwan and Korea equity indices.
The strength of China’s online ecosystem, which is heavily represented in the China Index, helped support a return to positive economic growth in Q2 as production started to return after the spread of Covid-19 was brought under control. As such, for the full year China is likely to grow 2% in 2020, outperforming developed nations by a wide margin.
Not all Asia economies fared as well, however. Those countries more heavily reliant on tourism, such as Thailand, suffered badly. India, Indonesia and the Philippines also had difficulty keeping infections in check, while lacking the benefit of a more buoyant online ecosystem to facilitate continuing commercial activities where people movement had to be curtailed.
The Trump administration continued its adversarial approach towards China, including exerting pressure on US allies to stop using Huawei 5G equipment, and measures aimed at restricting supply chains of high-end semiconductor chips and equipment to Chinese companies. This forced China to embark on a push towards supply chain self-reliance, particularly in high-tech components.
This forms part of China’s broader “dual circulation” strategy targeted at increasing the reliance on its own demand for sustaining economic growth. Other aspects include the promotion of domestic travel and strengthening the quality of local brands to compete with premium foreign goods. Notably, it does not mean moving away from China integrating itself into the global trading network, with the China-led Regional Comprehensive Economic Partnership (RCEP) successfully signed in November with the 10 South-east Asian countries, South Korea, Japan, Australia and New Zealand. China is also considering joining the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP), which replaced the Trans-Pacific Partnership (TPP) following US withdrawal under Trump’s “America first” pivot.
Figure 1: A technology-led rally over a Covid-stricken economy
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The prospect of a post-pandemic recovery should see very strong economic performances across the world, with Asia’s growth again anchored by China
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China’s climate change efforts also forged ahead during the year, with stocks linked to electric vehicles (EVs) and solar energy capping a stellar year for equities. These stocks should continue to do well in 2021 under President-elect Joe Biden as he seeks to turn the US back towards the climate change agenda in the next four years.
Climate change
In geopolitical terms, Biden’s presidency should see the return of professional US diplomacy, with the effort to “heal America” spilling over to the rest of the world, including in US-China relations and China-Australia relations, though some damage may remain.
2021: potentially more win-win outcomes
The prospect of a post-pandemic recovery should see very strong economic performances across the world, with Asia’s growth again anchored by China where the street and the World Bank is expecting around 8% real GDP growth. Against this backdrop, 2021 should be another strong year for equities, whereby sectoral performances are less bifurcated. Non-tech sectors should rebound strongly, but tech stocks will also perform as themes such as 5G, artificial intelligence, big data, EVs, cloud computing, ecommerce and video live-streaming still have lots of momentum.
1 World Bank East Asia and Pacific Economic Update, openknowledge.worldbank.org, October 2020.
Head of Investment Grade Credit
Head of Global Rates and Emerging Market Debt
Adrian Hilton
Adrian joined Columbia Threadneedle Investments in June 2016 as a Fixed Income portfolio manager in the Interest Rates & Currencies team. Prior to this, he spent eight years as a portfolio manager at Brevan Howard Asset Management, where he traded Emerging Markets local rates and currencies. Adrian began his career at the Bank of England in 2000, holding various positions in the Sterling Markets and Foreign Exchange divisions. He became a portfolio manager in the Bank’s Reserves Management team in 2005 before leaving to join Aberdeen Asset Management in 2007 as a portfolio manager in that firm’s global rates team. At Aberdeen, he contributed to absolute return rates strategies before joining Brevan Howard in September 2008 at the launch of Brevan Howard’s UCITS absolute return rates strategy. Adrian holds a BA (Hons) in History from the University of Birmingham.
The legacy of Covid-19 in emerging markets (EMs) may take some time to become clear. Having lagged advanced economies’ initial surge in cases in March and April, lower income countries experienced highly concerning case growth at the end of the summer, before once again being eclipsed by the developed markets’ second wave (Figure 1).
There are reasons to expect a slower and less comprehensive vaccine roll-out among EMs than in richer countries, and the fiscal damage done to already-fragile sovereign balance sheets may increase vulnerabilities.
The steady recovery of the asset class since Q2 has been every bit as remarkable as the initial blow-out in spreads back in March
1 Bloomberg, Negative-Yielding Debt Hits Record $15 Trillion on Trade Woes, 5 August 2019.
Our attention is focused on the higher-yielding end of the EM sovereign and credit markets, where performance has lagged that of both higher-quality EM credits and equivalently rated developed market corporate bonds (Figure 2). The excess yield available in EMD relative to US High Yield does not adequately reflect the lower default rates and higher recovery values observed in the former.
In the EM corporate space, despite a tough year for revenues and increased gross leverage, balance sheets tend to be rich with undeployed cash and deleveraging potential as earnings recover next year. As ever, selectivity and discerning fundamental analysis are essential.
But the steady recovery of the asset class since Q2 has been every bit as remarkable as the initial blow-out in spreads back in March. Much of the higher-rated EM universe now trades at spreads over US Treasuries roughly equivalent to those prevailing at the start of the year.
It will be unwise to ignore the vulnerabilities implied by those policies over the longer run. But relative to those on offer in advanced economies, real yields are attractive even on a currency-hedged basis.
With valuations in EM sovereigns around long-run averages – and with balance sheet risks now more pronounced – we are cautious about the potential for significant further spread tightening in hard-currency fixed income. But total return opportunities in the year ahead remain attractive, especially when accompanied by judicious credit selection. So far this year EMD performance has still to fully catch up with other parts of the fixed income asset class.
The structural tightening of spreads in the early years of the 21st century have given way to a much more cyclical market; the EM credit asset class displays a strong correlation with developed market corporate credit and is well positioned for even a modest global growth recovery in 2021.
Moreover, the global rate environment remains conducive to EMD performance with inflation benign, central banks expected to maintain accommodation and the stock of negative-yielding assets at around $15 trillion. Meanwhile, allocations to the asset class among international investors are still low, suggesting persistent inflows in coming years.
Source: WHO, November 2020.
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Figure 1: New Covid-19 cases, 7-day moving average
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EM local currency bonds also present an interesting opportunity as we move into the next phase of the Covid cycle. The combination of deteriorating fiscal health, as governments rushed to insulate their economies, and aggressive monetary easing enabled by tame inflation, has left many local currency yield curves unusually steep.
More importantly for returns, a steady global growth recovery supported by more constructive and multilateral US trade policy may just create ideal conditions for EM currencies to correct some of their underperformance against the US dollar.
As ever, the semi-mature state of EMD markets creates good alpha opportunities across sovereigns and corporates in both hard and local currencies. We continue to focus on pairing rigorous, fundamental analysis with macro research to identify the best risk/reward opportunities.
Source: Bloomberg, November 2020.
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Agency MBS
Director of Responsible Investment Portfolio Management
Simon Bond
Simon Bond joined the company in 2003 and has been the portfolio manager of the Threadneedle UK Social Bond Fund since its launch in 2013, as well as the Threadneedle (Lux) European Social Bond Fund launched in 2017. Having previously managed a number of institutional and retail investment grade corporate bond portfolios, Simon now concentrates his focus on managing Columbia Threadneedle’s social bond portfolios and developing other responsible investment strategies across the firm. Simon has 34 years’ experience in the fund management industry, with the last 29 years specialising in corporate credit. Throughout his career, Simon has taken a keen interest in the social investment space and as an analyst the first entity Simon reported on was Peabody Trust and the first sector he covered was housing associations. Simon is particularly passionate about the role of infrastructure in both regeneration and economic growth. Prior to joining the firm, Simon managed £6 billion in his role as the Senior UK Credit Fund Manager for AXA. Simon also worked for GE Insurance as a Portfolio Manager, Provident Mutual as a Fixed Income Analyst and Hambros Bank as an Investment Accountant and Pension Fund Investment Administrator. Simon is a Fellow of the Chartered Institute for Securities and Investment, holds the Investment Management Certificate and the General Registered Representatives Certificate.
Looking forward to a recovery with ‘green collar’ jobs
2021 promises to be a seminal year. Following the Democrat win in November’s US presidential election, the world’s biggest polluter looks set to reverse its decision to leave the Paris Agreement. Further, more countries look likely to commit themselves to zero carbon emissions targets, as well as frameworks for achieving this and new regulations.
A competitive tension is building as countries want to make sure they do not get left behind. For instance, the UK looks likely to try to get ahead of Europe in its emerging green agenda.
The announcement around green gilts not only signalled the government’s intent, but also set an example that is likely to spur further issuance of green bonds
Responsible Investment
1 FTadviser.com, UK to launch first green gilt in 2021, 10 November 2020. 2 https://www.impactinvest.org.uk/wp-content/uploads/2020/10/Green-Plus-Gilt-Proposal.pdf, October 2020. 3 The Construction Index, National Infrastructure Strategy: UK infrastructure bank, 26 November 2020. 4 Data from Bloomberg and International Bank for Reconstruction & Development, 31 December 2020. 5 Columbia Threadneedle analysis, January 2021. 6 European Parliament, Covid-19: 10 things the EU is doing for economic recovery, 29 October 2020.
We are proud of not just the size of the bond market’s response to the crisis, but also the speed. These Covid-19 response bonds were being issued by the end of March, just a few short weeks after the pandemic reached Europe.
Issuers like these could respond quickly because they already had green, sustainability or even social bond frameworks in place, setting out what types of projects they could finance, how to report on use of proceeds and so on. That allowed them to react very fast. In 2021, I would hope to see not just more issuance, but also more agencies, companies and financial institutions putting in place similar frameworks – this would offer greater opportunities for us as we continue to invest in these areas.
When UK Chancellor, Rishi Sunak, announced in November his plans to issue the UK’s first green gilts in 2021 it was a significant step. The announcement not only signalled the government’s intent, but also set an example that is likely to spur further issuance of green bonds and galvanise the development of green and social finance in the UK.
For Columbia Threadneedle Investments, this is especially welcome as we have been campaigning for a green gilt, notably through our membership of the Impact Investing Institute. The Institute’s October 2020 joint proposal for a Green+ Gilt was supported publicly by 400 asset owners and investors, representing assets under management of more than £10 trillion, showing the substantial support in the market.
We see part of our role as engaging to help improve the green and social bond markets. The UK’s green gilt will bring a promising start to 2021, a year in which the UK hosts the COP-26 UN Climate Change Conference. Even more impactful, though, is the announcement that the government will launch a national infrastructure bank, which could issue green or social bonds itself.
Supranationals and government agencies were among the leading issuers of Covid-19 response bonds in 2020. The volume of newly issued debt based on environmental, social and governance principles reached $520 billion for 2020, up by more than $215 billion from 2019. Notably, $160 billion of this were social bonds, which equates to a 788% increase in issuance versus 2019, which itself was a record year for social issuance, and more than half were specific bonds targeting Covid-19 alleviation.
Both governments and the bond market will channel funds into a green recovery in 2021. Notably, the EU is raising €100 billion to aid countries hit hard by Covid-19, with much of the issuance conducted in 2021. While this money will focus on environmental projects, it should have social co-benefits too in the form of “green collar” jobs created in sectors such as green infrastructure.
By working with the Impact Investing Institute and the International Capital Markets Association (ICMA), we are looking to improve the market – in terms of the opportunities for issuance, the quality of the bonds and the rigour of reporting
A final word on new environmental and social legislation expected in 2021. Such legislation is likely to impose substantial costs on some businesses. In that situation, would you rather be invested in a conventional fund where regulation may introduce headwinds for its holdings or in a responsible investment fund that could benefit?
By working with the Impact Investing Institute and the International Capital Markets Association (ICMA), we are looking to improve the market – in terms of the opportunities for issuance, the quality of the bonds and the rigour of reporting. We have previously contributed to the design of the ICMA’s social bond principles and have committed to work with the association for another year.
Portfolio Manager, UK Equities
Sonal Sagar
Sonal Sagar is a fund manager on the UK equities team with responsibility for researching UK companies in the leisure, healthcare and life insurance sectors. She is the lead manager of the Threadneedle UK Sustainable Equity Fund as well as deputy portfolio manager on a number of institutional and core mandates, in addition to the Threadneedle UK Institutional Fund. Prior to this, Sonal worked at Jefferies International latterly covering European Aerospace & Defence and before this European Pharmaceuticals. Before Jefferies she was at Nomura International as an analyst in Equity Capital Markets. Sonal holds the Chartered Financial Analyst designation and a BSc in Economics, Politics and International Studies from the University of Warwick.
Backing responsible businesses emerging stronger from the coronavirus crisis
There can be no doubt that 2020 was an unprecedented and difficult year for businesses and employees. As the Covid-19 crisis unfolded, it became clear that the pandemic was bringing the S in environmental, social and governance (ESG) investing more to the fore.
We kept in close contact with our investments, paying particular attention to the safety and wellbeing of employees. With some businesses suffering sharp declines in revenue and temporary closure of operations, our focus also turned to financial robustness such as liquidity, cashflow, working capital and balance sheets. We needed to be sure we are invested in companies with strong and sustainable business models that are going to survive the pandemic and to identify those that should emerge stronger with opportunities to gain market share.
In the UK, opportunities will be thrown up by Prime Minister Boris Johnson’s 10-point plan for a green industrial revolution covering clean energy, transport, nature and innovative technologies
UK sustainable equity
1 Reuters.com, Compass raises 2 billion pounds as pace of recovery in question, 19 May 2020. 2 https://www.smith-nephew.com/news-and-media/media-releases/news/update-on-oxvent-ventilator-programme/ 29 April 2020. The mention of stocks is not a recommendation to deal. 3 Bloomberg/Columbia Threadneedle analysis, as at 30 November 2020.
We see opportunities for companies such as Johnson Matthey, which is a pioneering manufacturer of catalytic converters for combustion engines. As countries like the UK transition towards electric vehicles, there is likely to be rising demand for catalytic converters as emissions standards become stricter.
A prime example is catering group Compass, which serves a broad range of sectors including healthcare, education, sports and leisure and offices. Though its businesses supporting hospitals, schools and key business remained open through the beginning of the pandemic, other areas were closed. Unsure how long the crisis would last and its severity, the company raised equity in the market as it wanted to emerge from the pandemic with a stronger balance sheet. This improved financial position should equip it to win contracts from failing rivals and positions it well for any economic upturn in 2021.
As countries like the UK transition towards electric vehicles, there is likely to be rising demand for catalytic converters as emissions standards become stricter
Another company well-placed is Smith & Nephew, the medical device maker. In April, it collaborated with the University of Oxford to produce ventilators to help the global effort. Elsewhere, however, sales suffered as many elective surgeries such as hip and knee replacements were delayed, leading to a derating in the stock price. The company has managed costs and cashflow well during the crisis, preparing it for a return in demand.
We believe companies that invest in their people and products while delivering positive sustainable outcomes are better placed to achieve superior investment returns. Governments around the world are focusing their Covid-19 recovery plans on sustainability: green infrastructure, clean energy and electric vehicles. In the UK, opportunities will be thrown up by Prime Minister Boris Johnson’s 10-point plan for a green industrial revolution covering clean energy, transport, nature and innovative technologies.
Sustainable businesses set for future success
We are also interested to see how engineering and energy consultants John Wood Group performs as it makes a huge push into renewables. It is pinning its growth strategy on rising demand for offshore wind and green hydrogen, which it predicts will also revolutionise how homes are heated.
Our defensive positioning in 2020 cushioned us from the worst bouts of market volatility. As we enter 2021 we have increased exposure to companies where underlying business models and growth opportunities remain intact and are positioned for sustainable success. This stance should underpin performance as consumer and business activity starts to return to normal and the green revolution continues apace.
Sustainable opportunities in the UK market
We also see value in the wider UK market. There are plenty of sustainable global leaders in the benchmark, the FTSE All-Share index, which we feel is trading at too-wide-a-discount relative to other international indices such as the S&P 500 or FTSE Europe, where in both cases dividend yields are lower and price-to-earnings ratios higher. This is despite 77% of the FTSE All-Share’s earnings coming from outside the UK.
This stark anomaly provides a fruitful hunting ground for our fund managers, who are backed by one of the UK’s largest teams of investment professionals specialising in UK equities, as well as by an entirely independent and well-resourced responsible investment team.
Head of High Yield EMEA
Roman Gaiser
Roman Gaiser is the Head of High Yield, EMEA, with responsibility for our high yield fixed income team in London. He manages the Threadneedle High Yield Bond, European High Yield Bond and European Short Term High Yield Bond funds as well as a number of other funds and institutional mandates. He is also co-manager of the Threadneedle Credit Opportunities Fund. Based in London, Roman has 22 years of experience of European Corporate Credit and 20 years of experience in running European High Yield portfolios. Roman worked at the company before as a High Yield portfolio manager between 2005 and 2011 rejoining the company in 2018. Since 2011 he was Head of High Yield at Pictet Asset Management where he was in charge of its European High Yield and European Short-Term High Yield bond strategies. Previously he has worked at F&C in London. Roman holds a post-graduate degree from Dauphine University of Paris, a Diploma in Economics from the University of Hamburg (HWP) and a diploma in business management from EDC, Paris. He also has a CeFA.
Glimpses of light at the tunnel’s end
After a rollercoaster 2020 for European high yield markets, 2021 looks set to be more stable. Fears of high levels of corporate defaults have proved unjustified, allowing high yield to rebound in 2020 and setting the scene for the coming year. While the second Covid-19 wave, and the new variant, are weighing on recovery, once vaccinations bring the virus under control a degree of normality should return to the economy and high yield.
As lockdowns across Europe led to deep economic contractions and huge stress on cyclical companies, so Europe’s high yield market grew, largely due to investment grade companies being downgraded, becoming so-called ‘Fallen Angels’
High Yield
1 Based on ICE BoAML Index HPS2 data. 2 Based on ICE BoAML Index HPS2 data. 3 JP Morgan, Final Score: European High Yield Q4 and FY20 Review, 5 January 2021.
Looking in the rear-view mirror, 2020 saw a remarkable turnaround in all financial markets, including high yield. The authorities’ powerful blend of monetary and fiscal support, plus widespread refinancing of corporate debt, sparked a strong rally after a dismal first quarter. At the 23 March 2020 nadir, European high yield markets had fallen close to 19% since the beginning of the year – yet by December’s close they were up by almost 3%.
Loose liquidity has spawned a number of ‘zombie’ companies which are able to continue to exist for now. However, there is the question of whether they will be able to generate enough cash to cover their operating expenses and debts once the economy begins to recover
At the start of the crisis there were fears that as much as 10% of Europe’s high yield universe would default within a year. However, government support packages have successfully kept the number of defaults surprisingly low, and investors and lenders have proved willing to refinance companies such as Rolls Royce, Lufthansa, PureGym and many more that should be viable businesses once the pandemic lifts. A low or zero interest rate environment gave yield-starved investors every incentive to buy high yield securities.
Such a loose liquidity environment has spawned a number of “zombie” companies which are able to continue to exist for now. However, there is the question of whether they will be able to generate enough cash to cover their operating expenses and debts once the economy begins to recover given higher leverage levels and the pace of the recovery. However, we seek to avoid these through focusing intensely on cash flows, strong balance sheets, operational risks, strategic value and so on.
Even so, this is an altered landscape. As lockdowns across Europe led to deep economic contractions and huge stress on cyclical companies, so Europe’s high yield market grew in size by about €100 billion, or a quarter, largely due to investment grade companies being downgraded, becoming so-called “Fallen Angels”. A number of large, high-quality, well-established businesses, such as Ford and Renault, have entered the high yield universe and appear unlikely to be upgraded in the near future.
At the beginning of 2021 the key question is how quickly can economies return to 2019 levels of GDP? Realistically, we think this year will be one of relatively strong growth from low levels with recovery beyond previous levels deferred until 2022. It might well be a less agitated year for high yield, helped by the fact that many corporate issuers refinanced in 2020. About 10% of the market – approximately €45 billion of bonds – has refinanced in the past 12 months, taking the opportunity to repay their bonds maturing in 2021 and 2022 – and beyond.
Given the expectation of continued monetary and fiscal support and market optimism for improvement as vaccinations are rolled out, Europe’s high yield market looks set for a positive year. However as other market commentators share similar views, it is a risk in itself. According to our estimates, the overall market could return about 3.5%. That takes into account a current yield of just over 3%, the “roll down” effect of seasoned bonds, and the inevitable defaults on bond payments by a small number of corporate issuers, as well as the potential for credit spreads to tighten moderately as the Covid-19 crisis lifts.
This is an attractive return in a low-yield world. Notably, in the past 12 months even the US has become a zero-yield country, as the short end of the yield curve has collapsed and the US 10-year Treasury yield dipped below 1%, before recovering somewhat in response to hopes of a large US stimulus package.
As the vaccine provides a pathway back to normality, so European high yield’s expanded universe stands out as a possible source of relatively steady, positive returns.
Senior Portfolio Manager
Ingrid Edmund
Ingrid Edmund is a senior portfolio manager within the Infrastructure Investments team with responsibility for managing global infrastructure portfolios, including our European Sustainable Infrastructure strategy. She has 15 years’ experience in infrastructure investment, financing, strategy and fundraising. Ingrid joined Columbia Threadneedle from HSBC Global Asset Management, where she was Senior Infrastructure Product Specialist, responsible for the delivery of its infrastructure debt investment offering and business strategy for institutional clients. Prior to that, Ingrid led business development in Europe at specialist infrastructure investor Hastings Funds Management. Her other experience includes positions at Stormharbour Securities as Infrastructure Director, Sumitomo Mitsui Banking Corporation Europe advising and financing social infrastructure and renewable energy transactions in EMEA and Standard & Poor’s, where she focused on analysing private project finance transactions. Ingrid has a BSc in mathematical economics from the Academy of Economic Studies in Bucharest and an MSc (with distinction) in Finance, Economics and Econometrics from Cass Business School, London.
In a sweet spot
European sustainable infrastructure
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