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Long-term wins out – Assessing the implications from Coronavirus on investing

01st May, 2020

Global equity markets fell sharply in the first quarter of 2020 as the spread of Coronavirus triggered a collapse in global economic activity. The level of uncertainty around the depth and duration of the global recession has caused volatility to exceed levels witnessed during the global financial crisis. The impact of the pandemic is having profound implications across a range of industries, with those companies dependent on leisure, travel, and consumer discretionary activities hardest hit.

Growth versus Value

Within equity markets, a clear distinction has emerged between those companies that can maintain or grow their customer base throughout the pandemic and those that have had their revenue base severely reduced. This has translated into a material performance differential between the Growth and Value styles of investing, with the MSCI World Growth index outperforming MSCI World Value by over 20% in the year to date to the end of April. Investors with a growth investment philosophy can be broadly characterised as investing in those companies expected to benefit from secular trends and long-term changes in consumer behaviour. Contrastingly, a value style of investing seeks to identify stocks trading at meaningful discounts to their intrinsic value. Sectors such as Information Technology, Healthcare, and Communication Services are more growth oriented, whereas cyclical sectors such as Energy and Financials that have underperformed in Q1 have a higher representation with value investors.

The active lens

The market environment in the year to date also highlights the benefits of investing with active managers that have a long investment time horizon and a willingness to build portfolios meaningfully different to their benchmarks. The impact of the coronavirus has led to an acceleration of long-term themes across activities ranging from how we conduct our work, how we access food, to how we consume media as evidenced by increased online digital consumption of media. The migration from physical to online that may otherwise have materialised over a multi-year period has rapidly accelerated due to the stay at home policies being implemented globally.

Within our portfolios, we have seen active managers generate meaningful outperformance by owning businesses which had been overlooked by the broader market and have performed well against the backdrop of the virus outbreak. These include video conferencing services, sterilisation product producers, food delivery companies, and antibody developers. It is important to stress however that active managers can only benefit from an acceleration of long-term themes by taking a long-term view in the first place.

Longer-term wins

To paraphrase Vanguard founder John Bogle, our assessment of active managers is that there is a clear distinction between investment centric firms focused on stewardship versus those more concerned with salesmanship. Within the latter category, firms are more likely to build benchmark aware portfolios to limit any short-term underperformance. Those firms set up to act as long-term stewards of client assets tend to be more long-term oriented, unconcerned with short term performance and more willing to build high conviction portfolios that include stocks with little or no representation in benchmarks. At Davy we invest using both passive and active instruments but when investing with active managers, we favour managers that take a long-term view, have a structured and repeatable investment process, and build high-conviction portfolios.

The ability of an active fund manager to manage portfolios in this manner is also very much related to the firm’s corporate structure. Fund managers with incentives that are aligned with their clients, that are remunerated on long-term rather than short-term performance, and where incentives are related to long-term returns rather than asset growth, in our view, are much better positioned to continue to deliver outperformance over the long term.

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