08 Oct 2020
Preparing for the post-pandemic investment landscape
Digital content team
It’s been described as a crisis for main street, not Wall Street. Investment legends Howard Marks, David M. Rubenstein and James Anderson share their views on whether the pandemic will change the way we invest in the future.
Post-pandemic world, episode two
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Read the transcript on Preparing for the post-pandemic investment landscape
- N: Narrator
- DC: Dr Daniel Crosby – leading behavioural finance expert
- AN: Alexandra Nortier – Joint-head National Wealth Management at Investec
- HM: Howard Marks – Director and Co-Chairman of Oaktree Capital.
- JH: John Haynes – head of research at Investec Wealth & Investment UK
- DR: David M. Rubenstein – co-founder of The Carlyle Group
- PH: Philip Hammond – British Conservative politician and former Chancellor of the Exchequer
- JA: James Anderson – investment manager and Partner, Baillie Gifford
- LK: Lesetja Kganyago – Governor of the South African Reserve Bank
N: A time-traveller from last year from last year might be forgiven for thinking they’d stumbled onto the set of a dystopian science fiction movie. And for good reason: not since the last world war has a single event altered our way of life so dramatically in such a short space of time.
From the onset of the crisis, some six months ago, Investec Focus has been documenting this seminal moment in a series of discussions with experts in a broad range of disciplines, all of which you can listen to in full in previous episodes of Investec Focus Radio.
In this series, we shine the spotlight on a specific question that runs through these discussions: will this surreal detour in human history lead to lasting changes in the way we live and work, how we think about money, or even the dynamics of global trade and the political economy?
In this second episode we survey the Investment landscape. How has it been impacted by the pandemic, the shutting down and gradual re-opening of entire economies, and the measures taken by governments and central banks to avert economic catastrophe? Why the apparent disconnect between the crisis on main street and the optimism on Wall Street? And where do the opportunities lie?
We’ve had the privilege of putting these questions to some of the world’s most accomplished investors, financial policy-makers and central bankers. Their responses are nothing less than a treasure trove of insights.
One of the more comforting and unanimous observations was that the basic principles of sound investment practice have changed not a jot. Surprising, perhaps, given that, with the possible exception of “you’re on mute,” the term “unprecedented” has become the cliché of this pandemic.
Daniel Crosby: "This time round is not different"
Narrator: Daniel Crosby, a psychologist and behavioural finance expert whose books on investor behaviour frequently grace the New York Times bestseller list, cautioned against the temptation to assume that the tried and tested axioms of investing no longer apply.
DC: The most dangerous words in investing are “this time is different”. And even though many of us know the right thing to do, we know to stay the course, we know to continue contributing to our accounts, we know to remain diversified, we know all of these things but this situation, as singular as it is as uncertain as it is, it can seem different. It can seem like an exception to the rule. And I'm here to tell you that the rules apply, this time is not different and you are not different.
Alexandra Nortier: "Irrational behaviour is expensive"
N: When the dust of this pandemic has settled, the market will recover as it has done from all the other crises that preceded it, and it’s those investors who stayed the course who will benefit, says Alexandra Nortier, National Wealth Management Joint Head at Investec Wealth & Investment.
AN: Although Black Swan events such as Covid-19 have undesirable consequences, the markets have previously recovered each time. In the Global Financial crisis, the peak to trough fall was 56% and the S&P 500 took 2.8 years to recover. Black Monday in 1987 saw a fall of 28.5% and the recovery took just over a year.
Despite these reassuring statistics, we have been witness recently to things that frankly I never would imagine I would have seen. Wealthy people fighting over toilet paper? It's actually a fact that only 30% of the world's population even use toilet paper. People are also hoarding the most USD in cash since Y2K.
This irrational human behavior is expensive. As markets advanced in the middle of the last decade in the US, investors placed about US$660bn of new assets into the US equity mutual funds. During and after the crash, they withdrew more than half a trillion dollars, missing out on what was one of the best buying opportunities in history.
Howard Marks: "History does not repeat, but it does rhyme"
N: While no set of circumstances is the same – and who would argue that we are not living through historic times? – there do seem to be certain fundamentals of market cycles that hold true regardless. Few understand this better than Howard Marx, co-founder and chair of Oaktree Capital, one of the world’s most successful asset managers. Warren Buffet once said that when he sees Howard Marks’s memos in his inbox, they’re the first things he opens.
HM: I'm now 51 years into the investment business and I've seen a number of major cycles, three in particular debt crises, this is the fourth. And so, I think that I've learned to understand them sufficiently that I don't fly off the handle anymore...Mark Twain, the American humourist is supposed to have said that history does not repeat, but it does rhyme.
And you know, I think that studying and understanding cycles is probably the single thing we can do to best get the odds on our side.
We can't ever as investors get to the point where we are sure such and such is going to happen or we are sure such and such is going to work but we can get to a point with where the odds are on our side and I think that understanding cycles is the most important element in that.
David Rubenstein: "I'm reasonably optimistic that there will be a vaccine by early next year"
N: If recent history has demonstrated anything, it’s the folly of trying to predict the future. But can we at least position ourselves for whatever fate might throw our way? We’ll return later to the question of which elements rhyme from one market cycle to the next. First, though, it’s worth reflecting on those elements that are, dare we say, unprecedented.
In contrast to the market meltdown of 2008, the predicament we now find ourselves in is not primarily a financial one, but rather a public health emergency whose impact has reverberated through the real economy – a crisis on main street rather than Wall Street.
And while governments and central banks across the globe have mounted an extraordinary financial response to shore up market demand, such measures can only hope to treat the symptoms, while the world waits for a cure, or more accurately, a viable vaccine.
In the meantime, the pace and shape of the economic recovery hangs in the balance. Hardly surprising, then, that the subject of a vaccine tends to come up when the world’s business and investment leaders get together on Zoom calls. As host of the globally syndicated television show that bears his name, David Rubenstein takes part in these calls regularly. In a recent interview with Investec Wealth and Investment, he shared some of what he’s learned.
DR: I've talked to many of the people involved in the process interviewed many of the CEOs, I am reasonably optimistic that by early next year one or more vaccines will be deemed to be healthy and effective. However, we still have to make certain that they are produced and that they are distributed and that takes some time, for everybody should remember this, vaccines are complicated things to produce the shortest time ever produced for a vaccine was the mumps vaccine which took four years start to finish, the polio vaccine took about seven years.
We're now trying to telescope all of that into about 1 year, which is very difficult. Now, it's possible because we have so many companies and so much money involved in it, but I do think that we should recognize until there is a vaccine many people around the world are not going to feel comfortable in social gatherings of the type we've been used to our entire life so hopefully that will happen.
Philip Hammond and John Haynes: "Sharp recovery of global economy expected"
N: Broad consensus, then, that a viable vaccine is imminent, but that rolling it out will take time. More contentious, perhaps, is the extent to which the economy will be permanently dented by the crisis.
John Haynes, chair of Investec’s Global Investment Strategy Group, discussed this issue with Philip Hammond, former Chancellor of the Exchequer in the UK government. Let’s listen in.
JH: The key starting point clearly is to believe that this is a temporary factor it's traumatic but it is temporary and our view is very much that we are still very confident that the shape of the curve if you like will see a recovery a material recovery this year.
We are adopting demand restriction policies as a price for controlling this virulent virus that is a choice we're making which is an excellent one for humanity it's tough economically. But we think you'll start to see demand returning and then you'll see a rapid move upwards in global growth to something close to let's say 95, 98% or so of the previous level before we went in and then you'll start to see a slower curve.
Now precisely how much we recover depends upon the effectiveness both of policies to ensure that the fiscal plumbing the financial plumbing is secure and also policies to inject demand into the world economy in the place of the demand that you've suppressed.
N: And here’s Philip Hammond...
PH: I think we will be very lucky to get through this without any structural damage to the economy. I think sectors of the economy which were already fragile I'm thinking about retailing in the UK for example, I think, will suffer some structural damage.
I do not believe that all the retailers that have shut down for the crisis will reopen after it. I think the decline of the High Street will be accelerated for example, so we are going to have to deal with some structural change as a consequence of this crisis that yes, it's primarily a supply shock and as the supply side of the economy kicks back into life provided governments have done what they are doing now maintaining households’ ability to deliver effective demand.
Yes, I would agree with John that we would expect the economy to start recovering quite sharply later on in the year.
David Rubenstein: "The emerging markets situation is going to get worse before it gets better "
N: Even if the overall outlook is not entirely bleak, the harsh fact remains that some businesses – indeed some entire sectors – will not emerge intact.
It’s also likely, as David Rubenstein points out, that developed economies, with strong public health systems and ready access to the capital required to stimulate demand, will be able to weather the storm more easily than their developing world counterparts.
DR: In the United States we've been able to deal with it because we borrowed a lot of money and helped shore up the economy and it's still got some challenges.
In other parts of the world the ability to borrow enormous amounts of money and deal with it is not there, so many people are suffering and I think in the emerging markets the situation is going to get worse before it gets better because the disease has not yet completely spread throughout the emerging markets and I'm not sure they're going to have the health facilities and the financial resources to deal with it the way that we have in the United States and Western Europe and we haven't done a great job in the United States.
Lesetja Kganyago: "Bond purchases can do nothing if a country has unsustainable debt"
N: One of the emerging markets that has been hit hardest by the pandemic is South Africa. At the time of recording, the number of confirmed Covid cases in this nation of less than 60 million people was the fifth highest in the world.
The figures could look even worse had the South African government not acted early in imposing one of the world’s strictest national lockdowns. But the impact on the already struggling economy and fiscus has been severe.
We spoke to the governor of South Africa’s Reserve Bank, Lesetja Kganyago, in early July, just after the bank had embarked on a massive programme to buy up government bonds, a measure he deemed necessary to save the economy from collapse.
LK: There are however two limits that we have got to take account of which have got nothing to do with the balance sheet of the central bank. The first limit is that bond purchases can do nothing where there is a concern about the sustainability of the debt of a country.
The second one is that unlike the advanced economies that have got the benefit of having their currencies as reserve currencies, we are a small open economy so there is a limit to the bond purchases that you could make because as you make these bond purchases you are actually creating Rands that you are putting into the market and at some stage you will start to see people using that currency to create forex because at the moment what people are looking for globally is dollar liquidity? And so you might end up creating dollars through your asset purchases programme.
Howard Marks: "Global interest rates are the lowest they've been in history"
N: Even if no such limits exist in developed economies, it is clear that the current levels of fiscal stimulus cannot be maintained indefinitely.
Why then, at the time of recording this podcast, were markets testing all-time highs? Why the apparent disconnect with the carnage on the high street?
One factor behind the resilience of the stock market is a global low-interest rate environment, which pre-dated the pandemic but has been further entrenched by monetary policies designed to ease the burden on borrowers.
Howard Marks, among others, notes that low interest rates have compelled investors to look to equities for returns that might otherwise be found elsewhere.
HM: The main reason for all of these things is the low level of interest rates and of course interest rates certainly in the US, but in most almost every place interest rates have been the lowest in history and in Europe and Japan at the government level negative, we've never seen that before.
David Rubenstein: "Be very wary of these high market values"
N: Apart from his career in broadcasting, David Rubenstein also happens to be the co-founder and co-executive chairman of the legendary American private equity firm, The Carlyle Group. He pointed to the high index weighting of tech stocks relative to other sectors.
DR: I think you have to be very wary of these high market values and people should also recognize that the high values in the market indexes reflect the fact that the technology companies are doing spectacularly well Amazon Microsoft Facebook Google Apple they're doing so well they're driving up the indexes whereas the indexes don't reflect how restaurant companies are doing or travel companies are doing so I'd be wary of these indexes.
Richard Cardo: "Tech stocks will continue to do well in the reshaped world to come"
N: Which leads us to the key question of which sectors will not only survive, but thrive in the so-called new normal. It's by now a truism that being confined to our homes has compelled us to embrace new connected technologies – from conferencing and education apps, through to digital collaboration platforms, online grocery shopping and indoor cycle trainers.
The future is looking decidedly digital. That’s top of mind for Richard Cardo, portfolio manager at Investec’s Cape Town office, as he seeks to identify long-term growth stocks.
RC: I think likely adapters to a possible new or differently shaped world of stocks that we do already own in our portfolio. They also provide exposure to secular growth investment themes such as e-commerce, cloud computing a massive move to doing business online, the Internet of Things, fintech, digital payments, digital entertainment, automation and particularly relevant given what we're going through at the moment personalised medicine and medical technology.
So we own a lot of these stocks and we do think they've done well in this crisis and they probably will continue to do well in the reshaped world to come. We particularly excited about internet platform and cloud businesses. These benefit substantially as people adopt more and more to online technology and we well represented in our portfolios holding stocks like Amazon, Alphabet, Microdobe Microsoft rather than Adobe.
David Rubenstein: "We've invested in a number of telemedicine companies"
N: We asked David Rubenstein which sectors are piquing his interest in these strange times.
DR: The industries that we think are particularly attractive now are ones that are technology-related, so we have invested a fair bit in these technology companies.
Buyouts, growth capital companies that are likely to grow to take advantage of this Covid-19 environment. Example of that is telemedicine - we've invested in a number of telemedicine companies where people are getting doctors to give them advice and so forth and care over the internet or through other kinds of technology devices and I think you're going to see a lot more growth in that area.
I also think you're going to see a lot of people saying that they want to invest in financial service industry-related things that are going to be prudent.
In other words a lot of people recognise now that when you have a recession or times are tough you want to make sure you have enough cash, enough liquidity, and so investing with people that will make certain that you keep your cash and keep your liquidity, it won't get lost, is also going to be a very valuable thing to do.
Richard Cardo: "We're going to have a new normal in terms of how consumers behave"
N: Beyond tech and financial services, Richard Cardo also sees opportunities in substitutes for the kinds of activities that might become less desirable as the world adopts a more vigilant attitude towards contagion.
RC: We're going to have a new normal in terms of how consumers behave, their willingness to spend on high value goods, human movement, events, travel and discretionary spending on things versus experiences.
So we’re spending a lot of time unpacking the winners in that space and some of the stocks we own would be the likes of Louis Vuitton, Compass and Home Depot.
Richard Cardo: "Strong companies have become stronger during the crisis"
N: The virtue of quality investments was an oft-repeated theme in our discussions. As Cardo explains, crises have a way of exposing the pretenders from the real thing.
RC: What we've practically seen in this meltdown is that quality as an investment style or approach and hence our own portfolio has actually outperformed the broader market and other investment styles.
In fact, the bigger the drawdown the greater the extent to which quality tends to outperform. It's almost a case of the strong getting stronger, great companies that are hard to kill off and quality in leadership persist.
And conversely, I guess you know more structurally challenged businesses or those which are too leveraged, capital intensive or cyclical they've really been found wanting.
Richard Cardo: "Doing good business is good business"
N: He also notes that one of the hallmarks of quality companies is their sensitivity to their customers and the broader society – a phenomenon that we will be exploring in more detail in the third episode of this podcast series.
RC: Companies that communicate with and inform are best connected to their customers and societies at large should prosper going forward, in other words doing good business is good business and purposeful companies, I think, will increasingly be rewarded by the market. So we're going to spend a lot of time trying to hone in and identify the gems in that space.
James Anderson: "We will see 2020 as the beginning of the end of carbon"
N: One category of good business that has made headlines during the pandemic is green energy, not least thanks to the stellar market performance of Tesla.
Apart from Elon Musk, the single biggest shareholder in Tesla is Bailie Gifford, thanks to a prescient early bet by its Scottish Mortgage Investment Trust, managed by James Anderson.
Anderson was also an early investor in the likes of Alibaba, Amazon and Tencent. But when we asked him about the most important change to the investment landscape in 2020, he skipped right past e-commerce, social media and even the pandemic itself.
JA: I would say that when we look back on 2020 the critical development will actually have been a profound turning point, which is much more unusual than a pandemic, that is an energy transition. I think we will see 2020 as the beginning of the end of carbon.
N: As evidence, Anderson points to the rapidly accelerating rate of learning in the alternative energy sector.
JA: All the academic and scientific and practical wisdom was telling us this was going to happen, yet people didn't take it seriously for a very long period of time.
Now we started paying a lot of attention to this area close to a decade ago, and we were probably rather too early, but you know, two or three years too early you know we've back… we’ve been shareholders in Tesla since 2013.
It seemed to us that these trends were very firmly in place. At that point we surmised that the whole gamut of solar wind battery storage etc was having a learning rate of somewhere between 15 and 25 percent per annum which is what it had displayed already.
As you're certainly well aware yourself, one would think that as more capital got applied that learning speed ought at any rate to be replicated probably should be improved. But the recent data is really pretty amazing on this front.
So, you know our confidence that this is happening has become a great deal stronger and you know again, we're sort of puzzled as to why people find it so difficult to adapt to it.
Yeah, and I think it will absolutely dominate our lives, it's not just the direct effects, the whole nature of our society is likely to change.
David Rubenstein: "There will be some opportunities in the emerging markets"
N: But of course, as in any crisis, some of the greatest opportunities lie in already established sectors that have been oversold, with the critical caveat that success requires the skill and knowledge to sift the wheat from the chaff.
DR: Clearly some values of some companies have gone down, so companies in the tourism industry, hotel industry, restaurant industry are very very cheap and so you have to be careful and make sure they're going to survive, but there are some opportunities that are cheap in industries that have been hard hit.
N: That’s David Rubenstein again.
DR: And last I would say is that there will be some opportunities in the emerging markets for sure, some things are going to be very depressed in pricing, but you have to be very careful what you do and make sure you are investing with people who actually know what they are doing.
Daniel Crosby: "People who work with professionals outperform"
N: On this point, Daniel Crosby mentioned a number of studies showing that people who work with a professional wealth manager on average land up with more than twice the wealth over the long term than those who go it alone.
DC: Now when I drill down into this research to see why people who work with professionals outperform, it's really not for the reasons that most people think.
It's not because, in fact, these wealth managers are picking the hottest stocks for them. It's not because they have any sort of specific magical esoteric knowledge about where the market is going.
The best use we find of a wealth manager, and the use that accounts for this dramatic outperformance over time, is to keep people from making a critical error at a time of great fear.
Daniel Crosby: "The best thing to do in financial markets, tends to be nothing"
N: One of the more startling findings Crosby cites in support of this view comes from a Fidelity study on trading behaviour which sought to isolate the variables that accounted for the success of their highest performing accounts.
DC: "When they called and contacted the people with the best performance, they had two things in common, and I promise you it's not the things that you are thinking.
The two things that these people had in common was that they had either forgotten that they had a Fidelity account or they had died. So the two best predictors of exceptional market performance were forgetfulness, or having passed away.
It is incredible to think that the people who were trading and churning and researching were under performed by those who had passed away, or who had forgotten about their account entirely.
It is firm evidence that the best thing to do in financial markets, tends to be nothing. It tends to be staying the course.
David Rubenstein: "Forbes 400 list didn't buy at the bottom of the market"
N: And just as we should resist panic selling in times of crisis, David Rubenstein cautions us to be equally wary of jumping in guns blazing when we assume the market has bottomed out.
DR: Realistic rates of return is much better than saying 'the market is in a freefall, I'm now going to go in at the bottom and buy something'.
If you look at the Forbes 400 list in the United States, there are 400 people who are the wealthiest people in the United States, not one of those is somebody who didn't know something about investing, went into the investment market at the bottom of a recession and picked a lot of great stocks and companies to buy and all of a sudden they got in the Forbes 400. That does not happen.
Howard Marks: "We've had too much optimism, too much willingness to bear risk"
N: Which brings us back to Mark Twain, Howard Marks, and history’s tendency to rhyme. After 51 years in the game, Marks has come to understand that what rhymes in market cycles is not so much the events themselves, but the psychological patterns of market sentiment.
HM: Okay, so what are the elements that rhyme from one cycle to the next. Well, first of all, I think the causes and in the investment world when we have too much willingness to bear risk, too much optimism with regard to the future, and too much money in the hands of investors, and too much eagerness to put it to work, then I think eventually markets will go too far to the upside.
And you know, a positive market will turn into a bull market and a bull market will turn into a market which is too high and a market which is too high it eventually will turn it into a bubble.
And I think that in the last few years we have had those things, we've had too much optimism, too much willingness to bear risk and too much money in investors' hands, and too much eagerness to put it to work.
Now the interesting thing is I don't describe this cycle as having reached a bubble, valuations were not highly excessive, behaviour was not crazy and in particular, a bubble is characterised by hearing people say 'there's no price too high'. We didn't hear that this time.
Daniel Crosby: "I would never bet against humanity"
N: As we navigate these troubled times and ponder our many possible futures, it’s worth reflecting, as Daniel Crosby does, that the defining tenet of investors is a belief that things will ultimately get better.
DC: Being an investor is rooted in optimism, investing in markets is a belief that the future will look better than the present. That's all it is. It's to think that the world will look a little bit brighter, a little bit better tomorrow than it does today.
And I want to tell you that my belief in that is rooted in the fact that never since, you know, not since World War Two has the whole world been so united in a common fight.
I have no idea what will happen in the markets, I won't be one of the experts that I told you about that will try and make a bold prediction, but if you look at the US market in previous pandemics - SARS, MERS, Ebola and swine flu - every single one of those years the market ended up double digits, and I do not know if that's what will happen this year but I can say safely that I am optimistic about the future and that I would never bet against humanity.
N: That was episode two of a special Investec Focus Radio series on preparing for a post pandemic world. The next episode examines the evolving role of the firm and the responsibility of businesses and business people to the environment and the wider society.
For episode one, or to listen to the complete interviews with any of the people featured on today’s podcast, please subscribe to Investec Focus Radio wherever you get your podcasts. And if you’re enjoying the content, please take a moment to rate us.
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