How should investors take advantage of the current environment, even as the global economy slowly recovers from the battering of the Covid-19 pandemic? Amid a tumultuous year, 2020 has seen global economies shrink as financial markets plunged. It has also witnessed one of the most contentious US presidential elections in modern history — all happening amid a health crisis not seen since the 1918 Spanish flu outbreak.
In short, the world has seen an unprecedented “synchronised global recession” and the fastest bear market on record. What happened after that was a rebound that remains “bifurcated and divergent”, says Tan Min Lan, Head of UBS’s Asia Pacific Chief Investment Office.
However, with the news of effective vaccines hitting headlines, UBS forecasts that they will reach critical mass come the second quarter next year, and 2021 is going to be characterised as the “year of renewal”. As such, this will enable corporate earnings across most of the major regions globally to recover to pre-pandemic levels by the end of next year, says Tan.
Until the US secures a higher employment rate along with some inflation, Tan believes that the US Federal Reserve will hold rates at the current ultra-low levels. Investors will have to think “very hard” if they still want to hold on to cash and bonds. For one, there is still US$17 billion ($22.77 billion) of debt globally that is negative-yielding.
Tan urges investors to turn toward global equities, for “the laggards of 2020 will become the performers of 2021”. The huge US tech stocks have enjoyed a big run thus far but Tan believes that it will soon be the turn of industrial mid-caps to outperform, not just the US ones but also those in other markets such as the UK and Asia. Meanwhile, value stocks in emerging markets could start to see a cyclical bounce and therefore play catch up, she adds.
The UBS house view is that short term investors can profit by investing in companies exposed to a cyclical recovery. However, this needs to be combined with exposure to the disruptors set to drive technological transformation over the decade ahead, including 5G, FinTech, HealthTech and GreenTech.
Monetary and fiscal stimulus should also continue to provide what UBS calls “a tailwind” for stocks, and they anticipate significant earnings growth as the global economy recovers. Low interest rates will further accentuate the attractiveness of equities relative to cash and bonds.
To do that, investors should “think global” and maintain an exposure to secular trends. The US market — which has outperformed the global average in the last 10 out of 11 years — might underperform in the coming year. On the other hand, the post-pandemic recovery in corporate earnings is seen to be stronger in the more cyclically exposed Eurozone and UK markets. Valuations are more favourable in emerging markets too, for Asia retains a combination of reasonable valuations, robust earnings and secular growth.
Tan also maintains that “Asian growth is rebounding”. There is a V-shaped recovery seen in China — the first to be hit from the virus — as consumption has recovered since the third quarter of this year. Furthermore, she added trade tensions may ease with the Biden administration, and the economic priorities articulated under China’s next five-year plan presents significant opportunities for the region in the area of technology, as well as the green economy.
Outside of China, Tan sees a “powerful catch up narrative” happening in Asia. She expects gains of more than 15% upside for Asian stocks from now to the end of 2021, driven primarily by earnings. Year to date, Asia ex-Japan is up about 17% to 18%, while the MSCI Asean Index is down about 13% with more than 75% of Asean stocks still down y-t-d. “There is a powerful catch-up story unfolding,” she adds.
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The next big thing
UBS’s report observes that the pandemic has accelerated, rather than halted, most of the longterm trends already underway. The world has become “more indebted, more unequal, and more local, but also more digital and arguably more sustainable,” says Tan.
She believes this will result in below-average long-term returns across traditional asset classes. But on the flip side, investors have the opportunity to earn higher returns by positioning for a more digital future across 5G, FinTech, HealthTech as well as more sustainable avenues in GreenTech. Investors can also look to invest in what she calls “the next big thing”, what Tan calls companies that are using technology to disrupt other sectors.
UBS’s report said it expects “the next big thing” to materialise within the FinTech, HealthTech, or GreenTech spaces. It could also be enabled and accelerated by the global rollout of 5G technology. Tan says with penetration rates of these new technologies still very low, they represent a “multi-year opportunity”.
She also recommends investors to jump into money-making opportunities from the broader trend of sustainability. “We are at the intersection of powerful forces, both in shifts in consumer preferences as well as regulatory pressure. So we do think that with the flow of money seeking better sustainability, ESG (environmental, social and corporate governance) practices will continue”.
UBS’s report highlights that social and environmental issues can impact the economy and financial performance, as illustrated by numerous crises in recent years including wildfires and the Covid-19 pandemic. As such, governments and businesses alike will place an increased emphasis on sustainability over the coming decade and beyond.
With the world shifting toward sustainability, many of the highest growth opportunities in the decade ahead are set to be sustainability-related. This includes companies that are in the GreenTech space ranging from battery electric vehicles to renewable energy. UBS said they should benefit strongly from government regulation, recovery spending and investment aimed at propelling a transformation from high to low-carbon economies, and from improved marginal economics.
HealthTech innovations like telemedicine have also exploded since the onset of the pandemic, and UBS expects these higher utilisation levels to persist even if a near-term slowdown is possible as economies reopen.
Over time, healthcare will be transformed from an episodic service into a life-long process of managing and maintaining health, driven by technologically savvy health consumers.
In its report, UBS cited an estimate that said the total US telemedicine market could grow by roughly 17% a year from 2019 to 2024 to US$35 billion. The currently smaller Chinese market could also grow by nearly 50% a year, overtaking the US market in size by 2023.
What next for the US?
Assuming a divided US government — with a Democratic House of Representatives and President versus a Republican controlled Senate — UBS forecasts that this is likely to mean a smaller-than-anticipated, but still sizeable, fiscal stimulus package.
The report added that political gridlock could also have some positive effects. The Republican control of the Senate, for example, would make significant tax increases on businesses or individuals unlikely in the coming years.
It would also reduce the probability of aggressive new regulation on healthcare or fossil fuel companies. More broadly, the divided government lowers the potential for significant policy changes, reducing the potential for policy-induced market volatility.
UBS thinks the new administration will be able to enact another Covid-19 aid package worth between US$500 billion and $1 trillion — or roughly 2.5% to 5% of GDP — which should bode well for consumer spending and business confidence, and help drive a shift in market leadership away from large-caps and toward mid-caps, which are more leveraged to economic recovery, and are seen to grow at around twice the pace of large-cap earnings in 2021.
But with higher fiscal spending, UBS sees a weaker US dollar as this spending is expected to be funded by a rising deficit, rather than additional taxes. While spending can largely be funded by private domestic savings in the near term, as the economy begins to recover in 2021, UBS expects the private sector to increase spending, widening the current account deficit and requiring a weaker dollar to attract external funding.
More importantly, UBS predicts that the administration of President-elect Joe Biden will improve its relations with Europe. Unfortunately, there is less optimism with regards to ties with China as UBS believes that the fundamental US-China geostrategic rivalry will not change. But unlike President Donald Trump, the new administration will be less likely to use tariffs as a foreign policy tool. These reduced trade tensions should support economic recovery, reinforcing their preference for cyclicals such as industrials.
As the UBS report puts it succinctly in its foreword: “If investing in 2020 was about going resilient, large and American, we think 2021 will be about going cyclical, small and global as the sectors and markets most heavily affected by lockdowns start to revive”
