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A World of Profound Change

08 June 2020

The Covid-19 crisis, combined with other shocks, has led to some significant changes and an acceleration of key trends. GAM Investments’ Niall Gallagher considers some of the themes that have been “supercharged” by the crises and how to navigate them.

We are in a world of profound change. The global economy has been impacted by a series of intense and inter-related shocks: Covid-19 and associated policy actions have caused a record collapse in demand, while the oil price capitulation has hit producing nations without a corresponding benefit to consuming regions. The initial rapid deleveraging and severe disturbances within financial markets have been somewhat becalmed by extraordinary central bank actions, with huge fiscal policy actions and liquidity injections, but it has been something of a perfect storm.

Developed markets – the US and especially Europe – have been at the epicentre of the healthcare and economic crises. Mortality rates have been far higher than in Asia and the developing world, although with very wide cross-country variations. There have been significant differences in their approaches to controlling the spread of the virus and mortality between Asia, Europe and the US and, importantly, between European countries. This is likely to lead to significant differentials in the economic recovery of those countries, and between sectors and stocks. Emerging market (EM) economies contribute almost as much revenue to European equities as European countries; more than 50% of revenues are derived from outside of Europe, and the Asian region in particular is bouncing back strongly since economies reopened. Select European Union (EU) companies are therefore able to offer strong EM growth but with developed market corporate governance and cost of capital.

Chart 1: Regional breakdown of European equity revenues

Source: Redburn. Forecast data from March 2019.

Past performance is not an indicator of future performance and current or future trends.

There is much debate over the possible shape of any economic recovery – will it be V-, U- or W-shaped – and the likelihood of permanent damage. But we are not convinced this is the right question. In our view the crisis greatly accentuates and accelerates a number of key structural trends.

We have identified five such trends which have been supercharged by the events of this year.

  • The shift of relative growth in consumption to EM / Asia and the rise of the Asian middle class. The region has been significantly less impacted by Covid-19 (so far) and there is evidence of a V-shaped recovery in Asia and faster relative growth. Asia is on track to represent two thirds of the global middle class by 20301 , so is of huge importance.
  • Offline to online commerce switch. This is visible across all sectors and is likely to continue even after lockdown due to a combination of consumer caution on physical retail and the new positive experience of digital.
  • Payments switch away from cash towards digital. Digital payments have been a beneficiary of rising online commerce. There is also something of a consumer ‘revulsion’ towards physical cash.
  • Remote working / digital change has boosted demand for cloud computing and processing, and digital infrastructure. In the words of Microsoft CEO Satya Nadella: “The current cloud architecture has been very helpful in helping us all as an economy pivot to this new way of working.” We are likely to see permanent changes in global working patterns.
  • Decarbonisation and the ‘greening’ agenda / electric revolution. Europe is the public and private sector leader in decarbonisation. Companies in this space are likely to be beneficiaries of government fiscal support in the shape of, for example, car scrapping schemes.

The rise of the Asian middle class consumer is having a particular impact in themes such as luxury, urbanisation and the growth of ‘megacities’, health and wellness, and electric mobility. In the luxury space, China remains key, with Chinese consumers accounting for a third of global luxury spending. Europe is the global leader in luxury brands, boasting long-established names such as LVMH and Pernod Ricard. Meanwhile there are a number of companies that can benefit from, for example, the shift to online fashion retailing, the acceleration in online banking, the growth in online betting and gaming, the increased installation of elevators in apartment buildings and the development of the ‘smart factory’.

In our view there remain a number of compelling reasons to consider European equities. Europe is home to global leaders in their respective sectors at the leading edge of worldwide growth trends. We see unique opportunities in disruption, where we divide companies into enablers, ie those that are critical enablers of globally disruptive technology; disrupters ie companies benefiting from and driving change in the online channel shift for example; and adapters, ie those which are successfully adapting their business models. We also see winners in sustainability, where European companies are enabling cost efficient delivery of global public policy objectives.

Against such a changing backdrop we feel active management comes into its own, enabling active managers to seek out potentially alpha generating opportunities while avoiding those areas of the market which have been and may continue to be negatively impacted.

1Source: “The Geography of the Global Middle Class. Where they Live, How they Spend” by Visa August 2019. The global middle class consumption study is a collaboration of Visa and Oxford Economics. Study based on Visa and Oxford Economics projections through 2030.
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Source: GAM unless otherwise stated. The information in this document is given for information purposes only and does not qualify as investment advice. Opinions and assessments contained in this document may change and reflect the point of view of the manager in the current economic environment. No liability shall be accepted for the accuracy and completeness of the information. Past performance is no indicator for the current or future development. The mentioned financial instruments are provided for illustrative purposes only and shall not be considered as a direct offering, investment recommendation or investment advice. Reference to a security is not a recommendation to buy or sell that security. June 2020