Japan and Emerging Markets (EMs) offer equity investors the best value for 2019, while UK shares are also cheap for those prepared to ride out the Brexit storm, according to Willis Owen, the leading online investment platform.
Japanese equities have failed to keep up with the country’s underlying economic growth while in Emerging Markets, Asian companies are particularly attractive after the recovery that began in 2016 vanished in 2018, says Adrian Lowcock, Head of Personal Investing at Willis Owen
Although the United States economy looks set to continue being the strongest of the developed markets, this is largely reflected in the expensive share prices, which are hard to justify unless earnings growth drives further gains.
Adrian Lowcock commented: “The big question for many investors is how the long the stockmarket bull run can last. However, the economic fundamentals globally continue to be strong, which supports a positive outlook and confidence in the New Year.”
Adrian’s views on each region are provided below, including his recommended funds.
Companies’ earnings per share continue to improve and low valuations make this an attractive area for investors in 2019. Risks include the country’s sensitivity to global trade disputes because of its dependence on exports but the domestic economy remains strong. The country will raise VAT in October 2019, which is likely to weigh on the economy and markets. Ongoing reforms mean corporate governance continues to improve.
Top fund picks for Japan include:
- Manager Andrew Rose has run Japanese funds since the 1980s and is one of the sector’s most experienced managers. He has a forward-looking view and prefers companies that he believes have the potential for positive surprises over two to three years. His approach is closely aligned with the methodical process used by his team. Rose displays a sensible awareness of social and economic trends and market behaviour, which complements his stock-picking skills. The portfolio is largely unconstrained and investment decisions are driven by his convictions.
Man GLG Japan Core Alpha
- Stephen Harker is a contrarian investor, looking for companies out of favour with investors. Focusing on the largest 300 listed companies in Japan, he looks for those companies that appear to be undervalued when compared with rivals. He uses valuation measures including Price to Book, Dividend Yield and Price/Earnings ratio to identify companies. He selects companies with strong fundamentals and managers and which offer the potential for turnarounds. Harker uses a rigorous, repeatable process that draws on his team’s extensive knowledge of the Japanese market. With his clear focus on value, a long-term investment horizon and no consideration for the benchmark, the portfolio differs significantly versus the stock market index.
The US-Chinese trade war, plus a strong US dollar driven by interest rate rises, drove EMs into a bear market in 2018. Overall, EMs are better-positioned now to meet the headwinds of a stronger dollar and higher US interest rates because the largest emerging economies have much less dollar-denominated debt than previously. Furthermore, EMs continue to benefit from long-term drivers that should support businesses and stocks, including younger populations that continue to boost domestic demand. Valuations are also highly favourable: some estimates value EM stocks at 60% cheaper than those of the US (Research Affiliates).
Top fund picks for EMs include:
Fidelity Emerging Markets
- Manager Nick Price focuses on companies that offer quality growth and display superior and sustainable return on assets. To find such companies, Price's investment process is based on a deep analysis of companies and their accounts. He looks for strong, unleveraged balance sheets, shareholder-friendly managements and reasonable valuations. Price actively manages this as a "best of breed" portfolio, topping up or trimming holdings based on price targets and technical analysis. The portfolio shows clear biases to growth and a higher return on equity compared with the Index.
Lazard Emerging Markets
- James Donald’s insights are a key advantage for this fund. The team tap into Lazard's deep pool of analytical resources, helping it to form views on different companies and industries. Each team member spends more than eight weeks meeting with company managements and local experts. The focus is on firms with improving financial productivity that haven't been widely recognised by the market. An initial screen uses a range of valuation metrics to filter the universe. The analysts then conduct detailed research to understand the drivers of a company's profitability. They pay particular attention to cash flow and its impact on the balance sheet and shareholder value.
Brexit has adversely impacted the UK economy and stock market. As of end-November, negotiations had reached a critical stage and the situation could change dramatically. As a result, UK stocks remain cheap and while uncertainty persists in the short-term, they should be attractive to patient investors willing to ride out any storm. Brexit uncertainty has caused volatility in sterling, which has impacted the stock market: a weaker pound boosts the domestic value of the overseas earnings that a majority of FTSE 100 companies earn, thereby supporting their share prices. Domestically-focused UK companies with few, if any, overseas earnings have suffered because they are more vulnerable to a slowdown in the UK economy.
Top UK fund picks include:
Man GLG Undervalued Assets
- Henry Dixon and co-manager Jack Barrat believe they can add value through thorough analysis of companies’ balance sheets to understand their real-world assets and liabilities. They seek to identify two types of stock: those trading below their view of a company’s value and those in which the company’s profit stream is being undervalued relative to the cost of capital. The portfolio has a value bias, but it does include elements of quality and positive earnings momentum. Dixon has demonstrated his ability to consistently execute the investment process with discipline.
Investec UK Alpha
- Simon Brazier blends fundamental company research with economic analysis and believes that a clear understanding of the thematic background is essential. He then meets company managers, which he sees as key to his approach. His assessment of a company management’s track record, strategy, and allocation of free cash flow are vital parts of the research framework, alongside a thorough valuation analysis that considers both the upside potential and downside risk of any investment. The manager’s approach is flexible and pragmatic and he constantly seeks to balance out the risk/reward opportunities not only at the individual stock level, but more importantly, at an overall fund level.
Although the tech stocks led the markets higher in 2018, this is likely to be less evident in 2019 as the market continues its rotation away from the sector and performance is driven by a broader spectrum of companies and possibly a recovery in value areas of the market. While the US is not cheap, it is important to maintain some exposure to it.
Europe’s markets have been flat over the past 18 months, even though corporate earnings have grown. As a result, European equities are not over-valued but nor are they particularly cheap either. The outlook for the region has softened and business and consumer confidence has weakened. There are several negative factors, including political risk, which is a big concern once again because Italy’s budget plans put it at loggerheads with the EU leadership. Although the chances of a crisis have receded for now, this issue, together with Brexit, remain headwinds for the region. Also, the region’s banking system remains weak, while fears of ECB tapering and global trade disputes are affecting sentiment. However, low interest rates and strong earnings growth along with global growth should provide some support to markets.
The Chinese economy has benefited from Government Stimulus in 2015 and 2016, which supported the economy until now. China’s economy slowed in 2018, on the back of a drop in the rate of borrowing growth (i.e. borrowing rose but at a slower rate) and concerns over an escalation of the US-China trade war. The central government can act quickly to provide any support as and when it is needed and with policy now more accommodating, the slowdown should be more manageable. The impact of increasing tariffs from the US is also likely to remain manageable, although rhetoric could cause some volatility in markets. The country may also benefit from continued innovation in technology where regulation and privacy concerns are less of an issue than for developed markets.
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