European equities: Best monthly performance on record
November was another amazing month for the global stock markets, which reached new historic highs, making November the strongest month of the year. Investors were becoming more and more convinced of the benefits of the 'reopening' trade, given the excellent news flow on the COVID-19 vaccine. Optimism that President-elect Biden would be in favour of strongly supporting the US economy, while being less rude on China, clearly added to investors' optimism. Central banks have not changed their message (after all, the global economy is still in rather bad shape) and continue to defend their accommodative monetary policy.
European equities saw the best monthly performance on record, with Spain and Italy outperforming in a decisively pro-cyclical month. With vaccine news signalling light at the end of the tunnel in Europe (and elsewhere), uncertainty around the length of the COVID-19 crisis is beginning to fade, which, in turn, is brightening the outlook for risk assets and, further, European equities – despite the difficult winter ahead for the economy. Within equities, the outperformance this month of this year’s losers makes sense, with a return to normality now on the horizon. As the economic recovery plays out, earnings expectations should continue to recover, providing continued support for equities.
In November, services PMIs fell further, in line with the lockdown measures. The restrictions to contain the virus have once again exacerbated the gap between the pace of recovery in the manufacturing and the services sectors of the economy. The manufacturing PMI for November slowed by 1 point, to 53.8, while the services component fell 4.9 points, to 41.3, indicating contraction.
The perspective of vaccination has made the return of the economy to close to its former track by the end of 2021 more likely. After renewed weakness in Q4 2020, the recovery should start gaining steam at the beginning of 2021: GDP growth could be above 7% in 2021. National government responses continue to be uneven. While the German government plans to double its net borrowing for 2021, France, Italy, and to a larger extent, Spain, are lagging. The Next Generation EU programme has not yet been ratified.
The ECB has already announced it will do more. In particular, it will likely increase the size of its Pandemic Emergency Purchase Programme at its December meeting. This crisis will leave some legacy. Labour markets will be durably affected, especially low-qualified workers. Given the strong increase in the number of workers having left the labour force, 3.9 million jobs need to be created in order to return to 7.4% unemployment by the end of 2021. In addition, public debt will be durably higher and divergences between Member States are likely to be aggravated.
In terms of sectors, Energy, Financials and Information Technology outperformed, as news flow around the vaccine and the Biden election victory, in line with the ongoing economic normalization, favoured Value stocks. Information Technology also outperformed, as fundamentals remained solid, with secular growth drivers. Consumer Staples, on the other hand, underperformed, given the recovery from the pandemic allowed by the vaccine.
In terms of themes, Value and Small Caps were the best performers, while Min Vol underperformed, as European market rose sharply. As you can see below, November saw a massive outperformance of the Value style, enabling the European market to outperform the US.
Since the last committee, our strong overweight on Financials (+2 Banks, +1 Insurance) has paid off, with news around the vaccine and the US election acting as a strong catalyst for the sector. Our strong underweight on Utilities also paid off.
We suspect the rotation has further to run, even if we expect some profit-taking in the short term after this strong outperformance. In the near term, investors will have to deal with poor lockdown-driven data, and there are several unresolved questions around vaccine distribution. However, every crisis has a seminal moment which marks the beginning of its end. We think that the vaccine news is the first step towards economic normalization. In addition, consumers have been patiently accumulating savings to unleash in a less COVID-afflicted world. This is why we should soon be in a PMI upcycle that should last well into 2021. This situation should continue to support the ongoing rotation.
As a result, we are keeping our grade on Insurance to +1, as the sector is attractive and especially as long-term interest rates are rising. We are keeping our strong overweight on high-quality Retail Banks, as they still offer attractive valuations, despite the recent outperformance. The ongoing normalization of the economy should continue to support the sector. In addition, US and European rates should rise. We are keeping our strong underweight on Utilities. We currently have a very expensive defensive sector and very high debt level. In addition, the sector is very sensitive to the ongoing tension regarding long interest rates. We are keeping our Neutral grade on Household & Personal Care, given its high sensitivity to interest rates. However, in our view, this sector remains a long-term winner. We are keeping our negative grade (-1) on Communication Services, which is showing challenging fundamentals (negative growth and declining margins).
US equities: Solid economic momentum
US equity markets reached new historic highs. The announcement of three vaccines that are effective against the virus drove a risk-on mood in markets and added fuel to the post-US election rally, eclipsing worries about the near-term economic outlook.
In light of the solid economic momentum up until November, economic indicators pointed to continuing recovery. Flash purchasing managers’ index (PMI) surveys for November showed that both manufacturing and services activities were improving, with both indices rising more than expected. Labour market data for October also continued to improve, with the unemployment rate falling 1 percentage point, to 6.9%.
However, the US infection situation has continued to escalate, with new cases continuing to rise and deaths following. The new wave of COVID-19 pushed local governments to take lockdown measures that would curb activity in December and January.
In terms of sectors (as at 07/12), Energy and Consumer Discretionary outperformed, as news flow around the vaccine and Biden election victory, in line with the ongoing economic normalization, favoured Value/Cyclical stocks. Utilities underperformed, as the sector is very sensitive to ongoing tensions regarding long interest rates.
In terms of styles, small caps outperformed, while Min Vol underperformed, given the strong Value/Cyclical rally.
Since the last committee, our strong overweight on Financials has paid off, with news around the vaccine and the US election acting as a strong catalyst for the sector.
We suspect the rotation has further to run, even if we expect some profit-taking in the short term after this strong outperformance. In the near term, investors will have to deal with poor lockdown-driven data, and there are several unresolved questions around vaccine distribution. However, every crisis has a seminal moment which marks the beginning of its end. We think that the vaccine news is the first step towards economic normalization. In addition, consumers have been patiently accumulating savings to unleash in a less COVID-afflicted world. This is why we should soon be in a PMI upcycle that should last well into 2021. This situation should continue to support the ongoing rotation.
As a result, we decreased our grade on Consumer Staples, given the recovery from the pandemic allowed by the vaccine. This sector is too defensive.
We have kept our overweight on Banks, as the new vaccine should allow the economy to normalize. Moreover, the American 10y treasury yield is now constructive for the sector.
We have kept our neutral grade on Media/Entertainment, as Biden could raise taxes on these companies. This sector should also suffer from the normalization of the economy, as investors position their portfolios to “Back-to-Work” instead of “Stay-at-home” stocks.
We have kept our overweight on Technology, despite the recent downtrend, as fundamentals remain solid, with secular growth drivers.
We have kept our neutral grade on Consumer Discretionary. The upside is now limited on specific names. Moreover, it is a very heterogeneous sector, with companies like Amazon dominating and many losers. On the other hand, the vaccine could change the situation and favour “reopening economy” stocks. Investing in this sector requires a good sense of stock-picking.
We have kept our neutral grade on Industrials, as this sector has limited upside, given the recent outperformance and relatively expensive valuation at current levels.
Finally, we have kept our positive exposure to Healthcare, given its decent valuations (especially from a historical perspective) and resilience in the current COVID-19-driven economic slowdown. It is almost sure now that the Senate will remain under Republican control while the Presidency goes to Joe Biden. This outcome was our main assumption and, as such, is a good outcome for the healthcare sector. Granted, Joe Biden does have a healthcare agenda but he is nonetheless a politician with moderate views who favours consultation, while a split Congress makes drastic changes virtually impossible.
Emerging Markets: Turning point
Following a period of some consolidation in September, October – supported by fiscal and monetary stimulus and improving economic data – started off in a positive mood for global and emerging markets. However, sentiment turned cautious, as a second wave of COVID-19 hit Europe and the US (even President Trump), forcing some new confinement initiatives.
Metal prices and clean-energy stocks held up well (with many investment initiatives expected worldwide) and oil prices strongly corrected (on expectations of lower COVID-driven demand and increased supply, not least from Libya). In this environment, markets saw a clear performance divergence, with developed markets (-3% in USD) strongly underperforming EMs (+2%), more in particular Asia ex-Japan (+2.8%).
YTD, emerging markets are now outperforming developed markets. Asia was strong, with China – driven by strong economic data, hardly existing COVID, the expected huge ANT Finance IPO and the coming 5-year plan – strongly up.
Korea, Taiwan and India remained slightly positive, while some ASEAN markets (especially Indonesia and the Philippines) finally showed some catching-up, although Thailand, suffering from political tensions, did not.
EMEA and Latam kept the EM asset class from performing better, with both regions ending in negative territory and markets like Russia, Poland and, especially, Turkey, suffering strongly.
Most sectors ended positive, with exceptions including Energy, which lost heavily on the oil-price correction and on falling (short- and long-term) demand expectations.
The election of Joe Biden, which should strengthen international cooperation, should, in turn, have a positive impact on Emerging Markets.
As a result, we increased our grade on banks to neutral, as they offer an excellent risk/reward level. In addition, the new vaccine should allow the economy to normalize and US and European rates to rise.
Within Consumer Discretionary, although there is the potential for an upgrade on Automobile, given the news regarding the vaccine and the ongoing value run, there is hesitancy following the recent strong performance.
We increased our grade from Neutral to +1 on Latin America, as this a typical region with high bombed-out value and cyclical content (Financials, Energy, Commodities). The ongoing Value rally should benefit the region.
We are keeping our grade on transportation, as valuations are attractive. Stocks, severely punished, are likely to recover on the back of the reopening/vaccine. As risk/reward is clearly on the upside, re-opening the potential for a rally, we continued to keep a balanced portfolio, taking some profit on strong-performing quality Growth stocks and sectors. We are gradually adding some reopening stocks, given valuation extremes and recent news on the vaccine.
In terms of styles, we are more balanced between Growth/Value and are reducing the Momentum bias as a source of funding, despite our longer-term positive view.
