Over the past couple of years, value and recovery managers have continued to be blindsided by external events.
This year looks like another unpredictable year, with new Covid lockdowns in China, interest rate rises and the war in Ukraine causing a spike in geopolitical risk, economic uncertainty and inflation.
In many ways, global economies are moving into a period of significant public and private investment. There is a need to spend more on defence and to support more sustainable energy, while not forgetting the need to invest in the existing energy supply (and ensuring it is as secure as possible).
There is also a need to provide a greater balance between on-shore and off-shore supply chains, and invest in the capital-intensive industries that have seen under-investment over the past few years and are as a result unable to cope with recent demand.
The next 10 years is, on many levels, going to be different from the post-global financial crisis years, and stock markets are currently struggling to understand exactly how this will play out.
Yes, we need to be cautious, but there are some really attractive valuations out there right now. Despite such uncertainty, value and recovery stocks continue to demonstrate opportunities for the investment industry. The aforementioned geopolitical and market events have encouraged the flight of capital back to relatively safer markets, like the US.
But in my view, it’s so much easier to find standout valuations in the rest of the world. My team continues to hunt for new ideas and investments in the US, but we are, and will remain, genuine global investors.
We are seeing so many stocks where the valuation is ridiculously low. There are so many examples of stocks trading on distressed levels all around the world. Yes, we need to be cautious of bubbles in certain parts of the investment universe – as well as a lot of expensive assets following a bull market for a period of time – but there are some really attractive valuations out there right now.
Looking at the market as a whole, the chart below shows the differential between value and growth stocks. I see this as a once-in-a-career opportunity to invest in great stocks, at very low valuations.
Take banks for example, which were popular for the first time in 10 years at the beginning of this year but are now back to being hated.
They were doing well when they were seen as hedges on higher interest rates, then they promptly collapsed as they were seen to be exposed to economic and geopolitical concerns.
They are, on average, trading at big discounts and have strong balance sheets, despite the cost of living crisis. We think they are positively geared for an upward trajectory. They are also very resilient in the context of an economic downturn. Banks are as cheap a hedge on interest rates as you can find.
Another example would be energy stocks, where we have a lot of exposure, which are also trading at attractively cheap levels.
It’s not all doom and gloom
In addition, recovery strategies are positioned to exploit the generational opportunity in value and create wealth over the long term, despite the media continuing to sound the alarm on inflation and predicting quite a deep recession.
The world has been shocked by Covid and now by Vladimir Putin and this is putting severe short-term strains on an under-invested fixed capital base, but quite a few of the prices that have rocketed up are very cyclical and will fall in time.
The reality is that the consumer is in a much better financial position since the pandemic than the media and many strategists now suggest.
Furthermore, job security is perceived as robust; pay packets have at least gone up; forced savings during Covid have not all been spent; the wealth effect from property is robust; and we are all happy to be out and about.
Share prices of consumer stocks are discounting a big consumer recession. However, I am not convinced, as I think the average consumer is more savvy and optimistic on the outlook for inflation than the media or the market is.
Hugh Sergeant is head of value and recovery at River and Mercantile
