Covid-19 and the Global Leaders Portfolio

16 Apr 2020

Patrick Lawlor

Writer, Investec Wealth & Investment

An Investec portfolio manager talks us through the positioning of the Global Leaders portfolio, the impact of the pandemic and some of the opportunities it presents.

We spoke to Richard Cardo, portfolio manager at Investec Wealth & Investment, who co-manages the Global Leaders portfolio, alongside colleagues in the UK. The Global Leaders portfolio is a concentrated portfolio of shares in leading global companies that have been carefully selected for their growth potential.
 
In addition to having to tackle the Covid-19 pandemic when it comes to his portfolio, Richard has also had his own personal experience with the illness, when he and his family came down with it in late March. 

Q: First of all, we are pleased that you and your family have now made a recovery. What was it like?

A: I had many of the usual symptoms, including fever, shortness of breath, body aching and fatigue, among others. My wife experienced similar symptoms but with no fever, aches or shivers.  She had chronic fatigue at the very outset and immediate loss of smell and taste. Her symptoms lasted for a shorter period than mine.
 
My son was asymptomatic throughout as was my 13-year-old daughter. I had fully recovered by day 12, but still feel somewhat weak and lethargic. I’m a fit person who exercises daily and I am not up to doing any of that just yet.
 
Throughout the illness I was concerned that my work colleagues could have been infected. It also felt surreal being Investec’s patient zero! 

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Q: Has the illness changed your perspective at all? Do you think you view this whole crisis through a different lens than you otherwise would have?

A: You need to follow the medical protocols of social distancing and isolation. You need to stay resilient. It was good that I was healthy and fit, and you need to remain mentally positive throughout.
 
It was reassuring to know that at Investec we manage money on a collegiate basis –  there are four senior portfolio managers managing the Global Leaders Portfolio, with a team of analysts and trade implementors too, so the wheels kept turning smoothly.
 
We experienced an outpouring of concern, kindness and support in various shapes and forms from family, friends and work colleagues, from shopping for us to regularly checking in virtually on us.
 
I have a renewed respect for the value of life, what’s important, what to sweat about and what not to, a greater appreciation of some of the daily things we may take for granted especially family and friends, and I’m more thankful.
Richard Cardo, portfolio manager and co-mandate head, Global Leaders Portfolio, at Investec Wealth & Investment SA

We have around 35% of our portfolio currently invested in various technology stocks and over 18% in healthcare counters – these have been two of the most resilient and relatively better performing sectors year to date.

Richard Cardo, Investec Wealth & Investment portfolio manager

Q: How has this pandemic affected the companies in your investment universe?

A: This has been one of the fastest and steepest equity market meltdowns in history. The global lockdown has brought an abrupt stop in global economic activity - demand for oil is down -25% YoY.
 
With global markets now down over 20% in US dollars this year, we are seeing some selective opportunities that just weren’t there a little while ago, allowing us to buy some great quality, fundamentally sound companies at much more reasonable valuations.
 
Our approach is to invest in good quality, global growth, large-cap companies with sustainable and enduring competitive advantages or “investment moats” – these have high returns and margins, persistence of profitability, stable earnings growth through different market cycles, as well as strong cash generation.
 
What we’ve seen is that quality as an investment style or approach (and hence our own portfolio) has outperformed the broader market and other investment styles in this drawdown. In fact, the bigger the drawdown, the greater the extent to which quality has outperformed. Over time, the strong get stronger, and great companies are hard to kill off. Quality and leadership persist.
 
Conversely, we don’t invest in structurally challenged businesses or those which are too leveraged, capital intensive or cyclical – some of these have been found wanting in this sell off and will continue to be found out.
 
We have used this time to stress test our companies’ financial wellness, balance sheets, leverage and liquidity positions. The market is currently rewarding stocks that are reducing debt and those with strong balance sheets, and we are well-positioned for this.
-25% YoY
Demand for oil
20%
% global markets are down in dollars this year

Download the Investec Wealth & Investment Global Investment View Q2 2020

A modest tilt towards more risk; long-term earning power of the global economy recognised.

In an environment where everyone’s top line revenues are under pressure, companies with strong cash flows and gross profits are also faring better.
 
Companies with more defensive earnings streams, for example Amazon, are benefiting from the calamity and holding up much better than companies where demand is more cyclical, for example energy companies, or those more geared to economic growth like banks.
 
Given that the pandemic is some way from being over and that it will take time for the economy to get back to reasonable growth rates, we continue to favour defensive growth companies and believe that there is more downside risk in cyclical companies’ earnings.
 
Other companies we own which are specifically benefitting from, and proving their resilience to, the crisis better than the rest include: Roche, Thermo Fisher, Nestle, Unilever, Novartis, Danaher, Adobe, Visa, Roper Technology, and Zoetis. Zoetis is a play on animal healthcare, which is quite topical given the potential origins of the Coronavirus.
 
We have around 35% of our portfolio currently invested in various technology stocks and over 18% in healthcare counters – these have been two of the most resilient and relatively better performing sectors year to date.
 
The US stock market has held up better than most others this year, and we have an overweight position to that region with around two-thirds of our portfolio invested in US listed names.

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Q: Are you seeing some potentially attractive new entry points as a result of the global sell-off?

A: With the equity market pull-back so far this year, valuations are now at much more attractive levels, notwithstanding that near-term economic data will be dismal and corporate profits are under pressure and likely to fall by around 30% year-on-year in 2020.
 
Based on our model of fair value for equities, which considers dividends and the long bond yield, the US stock market is trading below its long-term fair value. However, in the short term, markets may continue to be hostage to a combination of fear, hope, and technical factors. I should caution that markets may not have hit the bottom yet and could still fall further. 
 
We’re not smart enough to pick the bottom but it makes sense to keep buying good quality, fundamentally sound businesses when there shares prices keep dropping and the gap to their intrinsic value widens.
 
We’ve recently bought a new position in Deere and added to CRH, with both stocks likely beneficiaries of the massive increase in fiscal stimulus.
 
We’ve also taken the opportunity of the pull-back to add to some of our existing positions in stocks which are not financially geared, but which will be operationally leveraged to an economic rebound, like PayPal, LVMH, Estee Lauder, ASML and Disney.
 
While Disney’s parks and resorts business will struggle near-term, it’s a diverse entertainment company with unparalleled intellectual property and content. The broadcast TV network and video streaming business should potentially do very well in this environment. We are very comfortable with our current overweight positions in the defensive technology and healthcare sectors.
 
Travel and leisure has been particularly hard hit as it’s the epicentre of the decline in demand from the virus. We have some exposure here via Disney and Compass, but we are actively looking for a new low risk opportunity in this sector.
 
But we are not in a rush to invest as uncertainty is still high, and we continue to invest with patience and for the long-term. In previous healthcare crises (Ebola, SARS, etc), global equity markets have on average rallied by over 20% in US dollars in the subsequent 12 months.
30%
likely YoY fall in corporate profits in 2020
20% in USD
average rally in global equity markets 12 months after previous crises

Q: Given the consensus view that this pandemic will change our lives and the way we work, will you be looking at sectors and companies that you feel will adapt well to this new world?

A: Absolutely. Likely adaptors to a possible new or different world are stocks which we have held in our portfolio for some time, providing exposure to secular growth investment themes such as e-commerce, cloud computing, the move to online, the internet of things, fintech / digital payments, digital entertainment, automation, personalised medicine and medical technology.
 
Many of the stocks we currently own in these spaces have outperformed during this crisis and are likely to continue to do well in the re-shaped world to come.
 
We believe that internet platforms and cloud businesses will benefit substantially as people adopt online technology. We are well-represented here, owning stocks such as Amazon, Alphabet, Microsoft and Adobe.
 
We do not think that the trend towards globalisation is dead, but some things will likely be done differently. There will be a reduced reliance on a single producer for critical components and a move to bringing some of the supply chain closer to home. On the medical front, China currently supplies around 80% of the US’s antibiotics – that’s just not sustainable, so there will likely be big pressure going forward to develop home grown supplies of products deemed critical for economic and national security.
 
Stocks we own with competitive advantages in sourcing and distribution networks, include the likes of Microsoft, Visa, Roche and Diageo.
 
From a supply chain perspective, there will be greater emphasis on worker safety, social distancing, logistics and working from home. Investec already has most of its people currently working remotely and is fully equipped to do so.
 
Companies that communicate, inform and are best connected to their customers and the societies they work in, should prosper. Doing good IS good business, and purposeful companies should be rewarded.
 
Consumer preferences may change and there could be a new normal in consumer behaviour. This includes consumers’ willingness to spend on high value goods, human movement, events, travel and spending on experiences vs. things. Some of the stocks we own in this space include LVMH, Compass and Home Depot.
 
Over the long term, we believe the things that have been important parts of human existence should endure. These include social gatherings, sports and leisure activities, school, office work, travelling freely and conducting business.
 
We are cognisant that there’s a growing movement away from share-buy backs and to some extent dividends too, with a preference to see company cash flows used to pay wages and make real investments that can lead to higher productivity and growth. This will impact companies’ earnings per share and some will be better positioned to take advantage of it.
 
The most successful companies of the recent past may face larger tax burdens to help pay for the higher near term fiscal spending – this could be the start of a cycle of wealth redistribution at the corporate level, and we need to identify who will suffer most and who will benefit.
 
Ultimately, we believe that businesses that ‘survive and thrive’ are those that will continue to invest in their people, processes, products/services and brands. Earnings from these businesses will likely be higher over the next five years and outperform the broader market.

Q: Finally, any overall message for investors?

A: Historically times of market turmoil generally lead to good wealth creation opportunities for patient, long-term investors. Take a deep breath, have a long-term perspective, don’t run away from the market. If anything, now is the time for you to selectively be adding to great quality risk assets. 
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About the author

Patrick Lawlor

Patrick Lawlor

Editor

Patrick writes and edits content for Investec Wealth & Investment, and Corporate and Institutional Banking, including editing the Daily View, Monthly View and One Magazine - an online publication for Investec's Wealth clients. Patrick was a financial journalist for many years for publications such as Financial Mail, Finweek and Business Report. He holds a BA and a PDM (Bus.Admin.) both from Wits University.

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