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Recent short-term volatility
Style volatility has been very high over the past 18 months, as the market digested a seismic shift in interest rate policies. This reflects the exceptionally elevated inflationary pressures post Covid. The changes in interest rate expectations and the pressure on quality growth assets has been extreme.
Rising inflation and rapid rate hikes in 2022 marked the third calendar year ever in history where bonds and equities fell in tandem. Within equities, value outperformed on the back of rising yields, whilst quality growth stocks sold off heavily due to the long duration nature of these businesses.
This significant and rapid style leadership shift away from quality and growth, towards value, has created volatility. However, growth and quality factors combined have outperformed the market in the long term (chart 1).
Chart 1. Price performance of Global Equity, Growth, Quality and Value segments
Source: Martin Currie and Bloomberg, October 2023. Global equities represented by MSCI ACWI Index. Style segments represented by MSCI ACWI Growth Index, MSCI ACWI Value Index, MSCI ACWI Quality Index
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We invest in companies with solid balance sheets, high returns on invested capital, low disruption risk, that operate in industries with favourable dynamics for value creation, and have exposure to structural growth opportunities.
Quality growth stocks resilient in the face of uncertainty
A focus on quality growth stocks is our core investment philosophy. We invest in companies with solid balance sheets, high returns on invested capital, low disruption risk, that operate in industries with favourable dynamics for value creation, and have exposure to structural growth opportunities. These companies typically emanate long duration characteristics, given their superior returns and cash flows, and long-term growth prospects. Therefore, they carry bond-like characteristics.
Rising interest rate expectations tend to lead the market to sell down or out of long-duration assets. This is in favour of those with shorter duration, including the value-oriented parts of equity markets. It can result in a pronounced and persistent style rotation, which is the situation in markets currently. During style rotations, there can be significant valuation anomalies, resulting from divergence between company fundamentals and market sentiment. This creates opportunities for long-term investors like us. Ultimately, we are confident that after knee-jerk style shifts, markets will return to fundamentals. We believe that the long-term fundamentals of the businesses that we hold in our clients’ strategies remain intact and undervalued by the market.
Uncertainties remain, but we believe the headwinds for long duration quality growth stocks should recede as interest rates peak. Profitable, quality growth stocks with high returns on invested capital and strong balance sheets should fare well in such elevated uncertainty:
Solid balance sheets
Provide better protection in case of recession.
Earnings resilience
Protects against the risk of ongoing earnings downgrades.
Structural growth opportunities
Provide opportunities in a low-growth environment.
Pricing Power
Protects margins in a stickier inflation environment
International equity fundamentals remain strong
International equities look attractively valued, compared to US equities. In addition, they are currently at a discount to the threeyear average discount.
Chart 2. Historic valuation of International and US equities
Source: Martin Currie and Bloomberg, October 2023. International equities represented by MSCI ACWI ex USA. US equities represented by MSCI USA.
Our focus on quality growth companies enables us to identify the pockets of the market which we believe to have the most potential to outperform in the future. These show superior growth profiles to the international equity market as a whole. Although the valuation of the portfolio remains elevated relative to the market, we believe this is justified by the greater growth potential.
| Portfolio | International equities | |
|---|---|---|
| Price Earnings (NTM) | 24.4 | 12.3 |
| EV/EBITDA | 16.3 | 8.6 |
| Net debt/EBITDA | 0.6 | 1.4 |
| Revenue growth (NY 5 CAGR) | 12% | 3% |
| EBIT growth (NY 5 CAGR) | 13% | 5% |
| EPS growth (NY5 CAGR) | 12% | 6% |
| DPS growth (NY5 CAGR) | 11% | 4% |
| Free cash flow growth (NY5 CAGR) | 16% | 9% |
Source: Martin Currie and FactSet as at 30 September 2023. Representative Martin Currie International Long-Term Unconstrained account shown. Please note that this strategy is unconstrained by any benchmark. We show it against the MSCI ACWI ex USA for illustrative purposes only.
In In the context of the global style shift, we believe that the market will ultimately re-align to company fundamentals. With our longterm approach, this presents an attractive growth opportunity in international equities.
Important Information
This information is issued and approved by Martin Currie Investment Management Limited (‘MCIM’), authorised and regulated by the Financial Conduct Authority. It does not constitute investment advice. Market and currency movements may cause the capital value of shares, and the income from them, to fall as well as rise and you may get back less than you invested.
The information contained in this document has been compiled with considerable care to ensure its accuracy. However, no representation or warranty, express or implied, is made to its accuracy or completeness. Martin Currie has procured any research or analysis contained in this document for its own use. It is provided to you only incidentally and any opinions expressed are subject to change without notice.
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Risk warnings – Investors should also be aware of the following risk factors which may be applicable to the strategy shown in this document.
- Investing in foreign markets introduces a risk where adverse movements in currency exchange rates could result in a decrease in the value of your investment.
- This strategy may hold a limited number of investments. If one of these investments falls in value this can have a greater impact on the strategy’s value than if it held a larger number of investments.
- Smaller companies may be riskier and their shares may be less liquid than larger companies, meaning that their share price may be more volatile.
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