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2021 : The Revenge of the Consumer

Pascal Blackburne, CIO 2020-12-01

Financial markets are closing 2020 on a decidedly positive note, even as the second wave of COVID exacts a heavy toll on Western countries. The forthcoming deployment of vaccines, on the back of very impressive interim phase 3 results, explains such optimism: the huge pent-up demand accumulated during these long months of lockdowns and social distancing should underpin strong GDP and earnings growth next year.

ussavingsrate Source : Bloomberg

Anything consumer-related, particularly the battered leisure and travel sector, stands to benefit from this rebound. It is admittedly not an immediate prospect, but stock markets are known to be an option on the future – rather than a reflection of the current reality. That said, while recognising that the consumer discretionary space does present an investment opportunity, even after the violent sector rotation that took place in November, we would stress that not all individual companies will survive the COVID crisis. In other cases, investors risk finding themselves diluted as managements are forced to seek additional financing. Exposure to this segment of the market should thus be taken in a diversified manner, rather than focusing only on a few positions.

As regards the broader equity market, our analysis has not changed. The main driver remains the TINA (“There Is No Alternative”) factor and traditional valuation metrics simply no longer make sense at current interest rate levels. When money costs – and yields – nothing, any financial asset that promises to generate some return will tend towards infinite value. Put differently, as long as central banks keep rates at or below zero, the party will go on.

In this sense, one can say that central bank presidents today wield greater power than many governments. Particularly, should we add, in the case of Mrs Lagarde, to the extent that the European Central Bank (ECB) seems no longer to abide by any rules. Or rather, it is changing the rules as it pleases. Government debt purchases used not to be permitted? Now that asset class accounts for a third of its balance sheet. Purchases had to be made in proportion to a country’s economic weight? Now the ECB is unabashedly focusing on Italy (whose public debt level, incidentally, is approaching 160% of GDP).

With all this free money continuing to pour into the financial system, rather than serving to finance productive ventures, stock markets have become a form of “playground” for speculators and institutional investors desperate to obtain some yield. At some point down the road, disaster lurks. But for the time being, mounting deficits and government debt are not an issue – the interest burden being near zero – and there are no signs of inflationary pressures such that central banks would be forced to change their stance at short notice.

So, as we look to 2021, or at least the first part of the year, our call on risky assets remains positive, backed by the prospective sharp economic and earnings rebound. Volatility is, however, likely to remain very much part of the picture, suggesting that a “buy the dips” approach (such as we effected last October) is more appropriate than a “chase the rally” one. And some form of protection is warranted to cover for the – most dangerous by nature – “unknown unknowns”.

China-Australia Relationship Is Souring

It may not be making quite such headlines on this side of the globe, but relations between China and Australia have recently taken a serious turn for the worse. As a measure of retaliation for the Australian government’s (i) decision to exclude of Huawei from 5G deployment, (ii) criticism of China’s annexation of several islands in the South Chinese seas, and (iii) joint request with the US for an official investigation into the Wuhan coronavirus outbreak (currently underway via the World Health Organisation), Chinese authorities have drastically cut their coal imports from Down Under.

Our take is that China is flexing its muscles in a show of power vis-à-vis the West. From China’s perspective, Australia represents an easy target: it is one of the relatively large countries of the region but does not enjoy the same US “protection” as, for instance, South Korea or Japan. Interestingly, China made clear what it expects of Australia not through the standard diplomatic channels but instead via an article in the – official – China Daily newspaper. This article lists half a dozen points that Australia must comply with in order to see former trade relations be restored.

In such a context, the 2021 change of presidency in the US represents a very welcome development. Under Joe Biden’s leadership, multilateralism should regain ground. And moving forward together will be key if Western countries want to stand a chance of keeping up pace with China’s rapid economic and technological advances.

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