Achieving their personal financial goals is the destination investors hope to reach when making investment decisions. A hazard on the road to this destination is spending too much time and energy trying to smooth out the ride. In the current slow growth environment, the road feels bumpier than normal, but investors who avoid traveling may prevent themselves from reaching their destination ̶achieving their long-term investment objectives.
Investors today appear to be most concerned about the macroeconomic environment and its impact on the short term value of their wealth. This has fueled a push into perceived safe haven investments such as fixed income securities, which has subsequently driven current bond yields to historically low levels. But, this can be a slippery slope. It is important for investors to realize that bonds may not drive them to their financial destination, since the low yields are a reflection of the potential returns from fixed investments going forward.
If investors steer away from bonds, they can take a ride on the stock market. But, here too, the hazards of a low growth/low yield world may make keep investors from reaching their destination. Recent fund flows into equities have been tilted toward indexed equity products including exchange-traded funds. Index funds provide cheap access to equity markets, but in reality many index-based products are simply providing exposure to the broad economy. Given the slow growth trend faced by the debt-laden developed world, investors should not expect the stock market in aggregate to provide returns much beyond the broader macro slow growth trend.
So, what investment vehicles can take investors to the destination of their long-term financial goals, despite the rough roads and headwinds of the current macro environment?
First, equity exposure is necessary, but the opportunities may reside more with individual companies than with the total stock market. Specifically, investors may have a better chance of reaching their intended financial destination with stocks of ‘quality’ companies, meaning well-positioned companies that are well-equipped for the rough road including having the ability to generate stable cash flows in both good times and bad.
Second, part of being well-positioned means that investors should seek out business models that have a license to drive globally. The types of investments that will provide investors with compelling returns in the long-run are likely to be companies with a meaningful presence and ample runway for growth through market share gains globally.
Third, investors should avoid paying too much for these well-positioned growth companies, as quality and stability are characteristics that can become over-priced in a volatile environment. Fortunately, valuations of many solid companies are generally attractive today. Still, investors should exercise discipline in deciding how much to pay for well-positioned growth companies.
Following are examples of high-quality businesses we believe are positioned to do well down the road despite the current hazardous conditions. These examples help illustrate how focusing on the standard features described above can help investors reach their long-term investment objectives amid a slow economic growth reality.
MasterCard (MA) is a global transactions and payment processing company. It manages the world’s second largest electronic payment network and has operations in over 200 countries and territories. MasterCard is exposed to a long-term secular trend in which electronic payment solutions are gaining market share at the expense of traditional paper-based (cash and checks) methods of payment. Studies show that by accepting electronic payments, businesses tend to experience more traffic and stronger revenue growth as compared to those that do not, all else being equal. Moreover, electronic payments make recordkeeping and tax collection easier and more efficient which is of great importance to both businesses and governments, particularly in emerging markets.
Despite the slow global economic growth environment, a limiting factor for overall growth in global transaction volume, MasterCard should still grow faster than the broader economy given the cash-to-cards secular tailwind. While penetration of electronic payments is already fairly deep in some developed markets, there is still room for additional growth. Meanwhile, penetration in emerging markets is generally low and this provides ample runway for future expansion.
In the Consumer Staples sector two examples of quality companies are Procter & Gamble (P&G) and Netherlands-based, Unilever. Both are large cap multinational and household names. What makes them quality companies, however, transcends their strong brands and is more about the strength of their competitive position and repeatability of their sales and business models. P&G has over 33% of total sales in high-growth emerging markets and Unilever has over 50%. It is more than the mere presence in these markets, but rather the ability to leverage global brands and the global scale in manufacturing, sales, and distribution to break into new markets and repeat success again and again.
P&G and Unilever are the types of quality companies that opportunistically widen the gap between themselves and peers during difficult times, because they have the stability and resources to do so.
In summary, the primary risk for long-term investors in this slow growth environment is reinvestment rate risk – that is, the risk of investing in assets at rates of return which are inadequate to reach their long-term investment goals. By investing in well-positioned global businesses that are in greater control of their own destiny, and doing so at attractive prices, investors should be able to steer clear of this risk, keep their eyes on the horizon and reach their long-term financial goals.
Unless otherwise noted, figures are based in USD.
Analysis: Manning & Napier Advisors, LLC (Manning & Napier).
Sources: FactSet, The Wall Street Journal, The Financial Times, Datamark.
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