- About Us
The views expressed are those of the author at the time of writing. Other teams may hold different views and make different investment decisions. The value of your investment may become worth more or less than at the time of original investment. While any third-party data used is considered reliable, its accuracy is not guaranteed.
With the current blend of macro headwinds and tailwinds, we believe it is critical to keep a global growth equities portfolio well balanced. As quality-growth investors, we evaluate investments using four factors — quality, growth, valuation upside, and capital return — with varying emphasis based on where we are in the economic cycle. Wellington’s proprietary Global Cycle Index (Figure 1) recently peaked and is trending sideways following the largest economic bounce on record. In this environment, we weight each of our four factors equally as we rank stocks in our investment universe and believe that maintaining higher quality and valuation discipline is essential to navigating today’s volatility.
In this short outlook, we highlight how this market backdrop may impact growth companies, including areas that we think are well positioned for the year ahead.
Firstly, it’s important to evaluate the macro factors currently affecting growth equities. The combination of effective vaccines and treatments against COVID-19, unprecedented government monetary and fiscal stimulus worldwide, and positive consumer confidence drove economic growth this past year.
But the tailwinds from 2021 are now driving headwinds as inflation increases and the US Federal Reserve begins to taper bond purchases in 2022, raising interest rates. Notably, we believe the market will price in more persistent inflation, which may hit a 30-year high in September 2022. We expect economic growth to slow down in the first half of 2022 as higher prices for energy and other goods weigh on consumer confidence and squeeze real incomes unless wages rise enough to support reflation.
In our view, it is crucial to next consider how different growth companies will behave amid these diverse factors.
The effect of rising rates varies significantly across companies and sectors. On the positive side, high-quality growth financials may benefit from exposure to wider interest-rate spreads. For example, wealth management companies can charge higher fees on cash balances, banks’ net interest margins should expand as rates go up, and demand continues to increase for private equity investments that are uncorrelated with public equities.
On the other hand, when interest rates rise, valuation discipline becomes even more important, in our view. This is particularly true when investing in growth equities. Higher rates impact more expensive, higher-multiple stocks as their cost of capital rises. For instance, we see examples of this among some technology stocks. This is one reason why we view that valuation discipline is an essential input into our process. We typically look for stocks to have a minimum of 10% valuation upside potential and also seek to avoid exaggerated free-cash-flow yield valuation multiples. In addition, companies with more balance-sheet leverage and emerging markets countries with high levels of dollar-denominated debt may struggle in a higher-interest-rate environment. Our focus on high-quality companies generating strong free-cash-flow margins with low debt levels is therefore especially important in this environment.
Similarly, the impacts of inflationary pressures range widely across companies and sectors. Some can absorb higher cost inputs without sacrificing margins because they have the pricing power to pass these costs on to their customers. Such companies usually exist in the software and services, health care, data analytics, and industrials sectors. In our view, these businesses are attractive in this environment as they have pricing power because their products and services are unique and high value, improve efficiency, lower costs, and are mission critical for their customers.
Conversely, companies that sell products that are less differentiated or lower value-add may lack pricing power, particularly given the price transparency available online. For example, consumer staples companies are more vulnerable to today’s rising inflationary pressures. These companies absorb higher raw material and transportation costs without fully passing these costs on to their customers, resulting in lower margins. Wage inflation also puts margin pressure on companies with high labor costs, such as those in the consumer services or consulting sectors. Notably, leading companies with global scale are less susceptible to wage inflation as they have better technology platforms to hire and train people and recruit from different countries, which is more difficult for smaller companies.
Lastly, we believe China offers strong economic growth potential and investment opportunities in 2022. The country tightened liquidity with increased regulations during 2021. As a result, China’s increase in economic growth was low relative to other major countries, and its equities lagged. However, we believe China may still be offering investment opportunities and attractive valuations, as we expect the government to stimulate the economy in 2022 while the rest of the world tightens. Furthermore, we anticipate that China’s regulatory activity seen this past year will slow down.
In particular, we like consumer, internet, and health care companies in China as we think these sectors may benefit from secular government support for growth as well as an emerging middle class with discretionary income to spend on goods and services.
Today’s markets are influenced by strong macroeconomic forces, including government stimulus, rising interest rates, inflation, and regulation. As growth equity investors, we find it easier to navigate this volatile environment by adhering to our disciplined, structured philosophy and process. Looking to 2022 and beyond, we believe this approach to identifying potential companies with high quality, growth potential, valuation upside, and capital return to shareholders is especially important in this market.
Past results are not necessarily indicative of future results and an investment can lose value. Funds returns are shown net of fees.
Source: Wellington Management
© 2022 Morningstar, Inc. All Rights Reserved. The information contained herein: (1) is proprietary to Morningstar; (2) may not be copied or distributed; and (3) is not warranted to be accurate, complete or timely. Neither Morningstar nor its content providers are responsible for any damages or losses arising from any use of this information. The Overall Morningstar Rating for a fund is derived from a weighted average of the three, five, and ten year (if applicable) ratings, based on risk-adjusted return. Past performance is no guarantee of future results.
The content within this page is issued by Wellington Management Singapore Pte Ltd (UEN: 201415544E) (WMS). This advertisement or publication has not been reviewed by the Monetary Authority of Singapore. Information contained on this website is provided for information purposes and does not constitute financial advice or recommendation in any security including but not limited to, share in the funds and is prepared without regard to the specific objectives, financial situation or needs of any particular person.
Investment in the funds described on this website carries a substantial degree of risk and places an investor’s capital at risk. The price and value of investments is not guaranteed and may fall or rise. An investor may not get back the original amount invested and an investor may lose all of their investment. Investment in the funds described on this website is not suitable for all investors. Investors should read the prospectus and the Product Highlights Sheet of the respective fund and seek financial advice before deciding whether to purchase shares in any fund. Past performance or any economic trends or forecast, are not necessarily indicative of future performance. Some of the funds described on this website may use or invest in financial derivative instruments for portfolio management and hedging purposes. Investments in the funds are subject to investment risks, including the possible loss of the principal amount invested. None of the funds listed on this website guarantees distributions and distributions may fluctuate and may be paid out of capital. Past distributions are not necessarily indicative of future trends, which may be lower. Please note that payment of distributions out of capital effectively amounts to a return or withdrawal of the principal amount invested or of net capital gains attributable to that principal amount. Actual distribution of income, net capital gains and/or capital will be at the manager’s absolute discretion. Payments on dividends may result in a reduction of NAV per share of the funds. The preceding paragraph is only applicable if the fund intends to pay dividends/ distributions. Performance with preliminary charge (sales charge) is calculated on a NAV to NAV basis, net of 5% preliminary charge (initial sales charge). Unless stated otherwise data is as at previous month end.
Subscriptions may only be made on the basis of the latest prospectus and Product Highlights Sheet, and they can be obtained from WMS or fund distributors upon request.
This material may not be reproduced or distributed, in whole or in part, without the express written consent of Wellington Management.