Published on LiveWire 23/09/2020 (Original Article Here, subscription required) – Romano Sala Tenna
Every Monday morning, my email sends me a very powerful reminder of why the equity markets must rise over the medium term. A very clear, unequivocal, message that signals the future direction of our markets. Irrefutable, obvious and repetitive. And yet most investors miss it.
What is this signal and why do so many investors fail to see it? Let’s begin with the 2nd question first. Most likely the reason that investors miss this signal, is that we are being completely overwhelmed with information, and the volume is drowning out what requires our ongoing focus. We are being overwhelmed with ‘useful but not critical’ data to the point that we are struggling to apportion weighting and priority. Every piece of information blurs into the next.
Consider a recent summary we compiled of just some of the issues that face our markets:
|Covid-19 infections are still accelerating (globally)|
|The economic impact is enormous and as yet only partially quantified. Government and central bank stimulus have insulated investors to this point, but in time we will see widespread bankruptcies, corporate failures and at the very least a collapse in corporate earnings.|
|2nd Wave infections are now progressing through countries and regions that were previously ‘under control’|
|Despite the rhetoric, countries are less able to cope with a 2nd wave as re-closing an economy is not a realistic policy option in all but extreme circumstances|
|Effective treatments and vaccinations may prove more elusive than current expectations|
|US policy (both domestic and foreign) is more erratic and potentially damaging than at any time in the modern era.|
|US- China trade rhetoric has escalated further and relations have regressed considerably|
|The US election is shaping as a growing risk: the Democratic nominee Joe Biden is firming as the favorite to win the election. Biden and the Democrats are running on a platform that is ‘detrimental’ to Wall Street, including higher corporate taxes (from 21 to 28%); increasing the capital gains tax rate (from 20% to as high as 39.6%), higher personal tax rates (top rate from 37% to 39.6%); increased death duties et al.|
|President Trump and the current US Regime, have exerted undue pressure on the US Federal Reserve which in our assessment has led to the Fed acting more forcefully than it otherwise may have. A Democrat Government is more likely to observe and respect true independence, which is likely to lead to less Central Bank ‘shock and awe’ (a central tenet in our current thesis).|
|Record corporate debt at a time of the lowest interest rates on record|
|Approaching record Government debt as a percentage of GDP|
|US driven Nationalism is escalating and if left unchecked will detract from global trade, growth and synergies/efficiencies.|
|‘Robinhood’ / day trading bubble|
|Tech mega cap stocks (FAANGM) are up 500% in 7 years and now represent 24% of the total market capitalization of the S&P500|
|Stock / Market|
|Valuations are not cheap across the board and over-inflated in some sectors|
|Genuine earnings growth is rarer than at any point in our careers (hence the tsunami of money that has overrun the technology and healthcare sectors).|
|There may be increasing anxiety and volatility as we approach the rollover for:
· Mortgage and SME Interest and capital repayments
· Jobkeeper/seeker subsidies.
And this is a snapshot. Next week, there are likely to be new issues.
Yet many of these issues whilst ‘relevant’, are not critical. But like a lawyer trailing in a long running court case, they deflect and distract us from what is important.
The successful investors that we have been able to get close to, all seem to have a relatively clear set of criteria that they focus on. Their success is not from doing something ‘brilliant’ or analyzing every piece of data. Rather the opposite is true. Their success comes from doing the right thing at the right time all the time. Their singular focus on what is important enables them to move calmly, confidently and rapidly in times of crisis.
The challenge we have as investors, is not to analyze every last piece of data, but rather to understand what is important, focus on that and allow it to anchor us through the inevitable volatility.
Which brings us back to my weekly reminder. At about 8am every Monday morning, I receive an email that looks something like this:
Whilst the weekly deposit ‘specials’ may look innocuous or just another data point, to the experienced investor they are the proverbial punch in the face. A clear and irrefutable signpost: 0.55% less tax, less inflation equals negative 2%. Negative 2%.
The longer investors sit on a return of negative 2%, the more the pressure is building. Compelling them to move up the risk curve. There is simply no other choice. Investors will be forced into other asset classes to seek a positive real return. Reluctantly at first, but inevitably in the end.
Remember, marginal buying is what moves assets – individually and collectively. As investors start the long migration out of cash and fixed interest and into equities, valuations will expand and yields contract. Of course this is a medium term driver, and over the short term, ‘noise’ will drive share prices.
For our team, our challenge is to prioritise what will drive the big moves in our market and remain focused. As we sit here today, few things are more important than the cash rate, whose current level is unprecedented in all the history of our markets.