GLOBAL EQUITY STRATEGY - Best Bank in Dubai and UAE | … · 2019-09-17 · CIO OFFICE - GLOBAL...

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GLOBAL EQUITY STRATEGY Adding a Defensive Tilt in the Late Cycle

Transcript of GLOBAL EQUITY STRATEGY - Best Bank in Dubai and UAE | … · 2019-09-17 · CIO OFFICE - GLOBAL...

Page 1: GLOBAL EQUITY STRATEGY - Best Bank in Dubai and UAE | … · 2019-09-17 · CIO OFFICE - GLOBAL EQUITY STRATEGY - SEP 2019 High dividend yield stocks trade close to their lowest.

GLOBAL EQUITY STRATEGY Adding a Defensive Tilt in the Late Cycle

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CIO OFFICE - GLOBAL EQUITY STRATEGY - SEP 20192

■ Select companies with sustainable dividend strategies

■ Select sectors that can ride through all economic

cycles ■ Stay with what the consumer wants We stand at a crossroads, as the longest economic expansion in US history continues and the consumer is strong, whilst manufacturing is in recession. Developed markets have delivered strong performance in 2019 and are trading at fair value, limiting upside. Emerging economies held the promise of double the growth of developed economies, with their large domestic consumer base, but their equity markets have not escaped the headwinds of trade tensions and a strong US dollar. The global economy has moved into the late stage of

THE LATE CYCLE IS THE RIGHT TIME TO START GETTING DEFENSIVE

OUR DEFENSIVE STRATEGY IS ARTICULATED AROUND 4 CATEGORIES

We would not take off all bets on growth strategies as yet (as select technology sectors are the backbone of all industry). Our growth focused Sustainable Portfolio has outperformed global markets over the last 3 years (total return since 1st Jan 2017 is +50%). However, it’s time to start adding a defensive tilt to portfolios to safeguard assets and stabilize returns. It is a slightly different investment philosophy. Our

Sustainable Portfolio strategy focuses on companies which generate high earnings growth by investing for the future, leading global trends and penetrating new markets. By contrast, our Defensive Strategy focuses on companies with resilient free cash flows, reasonable valuations and products that will be bought regardless of the economic cycle. These companies tend to be less volatile in all cycles.

A SHIFT TO A DEFENSIVE STRATEGY

the economic cycle, that comes with positive but lower risk-adjusted returns. In this low-growth, low-inflation, low-rate world, we recommend investors start implementing a defensive bias, with yield and safety in focus. Consistent with the flight to safety (the gold and treasuries rally), equity market positioning turned defensive in August. Cyclical sectors underperformed as bond yields and PMIs touched fresh lows, with a rotation into quality and safety plays. Utilities, Staples and Healthcare sector ETFs had the biggest inflows in the last few months, while Banks, Resources, Autos, Energy, Industrials and Tech had outflows. We continue to see volatility. Risk on rallies, as in September could provide attractive entry points for defensive strategies.

■ YIELD AT A LOW COST: Companies with sustainable dividend yields with low valuations

■ SECTORS whose products are immune to slowdowns: Healthcare & Consumer Staples

■ BUYBACKS: Companies where cash is used for stock buybacks, without raising excess debt

■ THE US: Home to quality consumer and healthcare companies and as the USD remains the world’s reserve currency

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CIO OFFICE - GLOBAL EQUITY STRATEGY - SEP 20193

High dividend yield stocks trade close to their lowest valuation in 40 years relative to growth. Growth has outperformed value and high dividend strategies over the last 3 years (refer to the chart above), returning more than double that of the latter, a trend that began late 2016. As the Value/Growth valuation dispersion is near extreme, the growth space is the

most vulnerable to profit-taking, regardless of the near-term market direction. A sustainable rebound in PMIs and bond yields is required for a further rally in growth stocks. Growth tends to sell off more during extreme risk off periods, as seen in December 2018, hence adding to defensive strategies is prudent, as we live in uncertain times.

MSCI World Value Net Total Return IndexMSCI World High Dividend Yield Net Total Return IndexMSCI World Growth Net Total Return Index

-20

-10

0

10

20

30

40

50

60%

2014 2015 2016 2017 2018 2019

Source: Bloomberg, data rebased to zero as of 5 Sep 2014

2014 2015 2016 2017 2018 2019-0.6

-0.5

-0.4

-0.3

-0.2

-0.1

0

0.1

0.2

0.3

0.4

0.5

Source: Bloomberg 30 Aug 2019, CGERGLOB Index

WE SEE A SHIFT TO VALUE AND YIELD AS GROWTH OUTPERFORMANCE MAY REVERSE

GLOBAL EARNING DOWNGRADES CONTINUE

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CIO OFFICE - GLOBAL EQUITY STRATEGY - SEP 20194

As we enter Q4, the message from markets is ambiguous: defensive assets are increasingly pricing-in an imminent recession, with lower rates being a consequence, while cyclical assets are priced for the success of rate cuts to avoid an imminent recession. Global equities endured a very volatile August, with both positive and negative market forces at play. Increasing signs of a global economic slowdown and uncertainty about trade policy, led to sharp down days. Big down days occurred on announcements of tariff increases, or flashing red macro indicators, while market positive days were triggered by positive Q2 earnings announcements and hopes of stimulus policy. August saw a rally in consumer staples and utilities, both gaining over 2%. Investors flocked to defensive and high-yielding sectors to make up for declining income from the bond market. Financials were the losers as treasury yields compressed, causing fears about recessionary indicators and lower bank margins. It’s been a good year (to date) with the MSCI World (TR) Index generating a 16% return and just 2% below its peak, in spite of sharp swings through the year and last month. In August, the S&P 500 posted 11 daily moves of over 1% and 3 days on which the Index fell more than 2.5%.

INCREASED VOLATILITY NECESSITATES DEFENSIVE POSITIONING

■ Inverted yield curves and weakening profit margins are recessionary red flags

■ Manufacturing could continue to be a key drag on

global growth in H2 as the trade uncertainty intensifies while the Chinese economy keeps slowing

■ Q2 earnings results were mixed and FY estimates

continue to be lowered. Companies in the S&P 500 are on course to increase earnings per share by 2.4 per cent this year, a drop from the 7.7 per cent anticipated at the start of the year. US companies are seeing almost flat earnings growth with low single digit sales growth - evidence of margins falling from the current peak levels

■ Messy geopolitics – Brexit, US tariffs and China

retaliation - remain key sources of downside risk for the global economy

■ Central banks’ efficacy is being tested. The race

to the bottom by central banks is reviving FX war concerns and may well lead to higher volatility

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CIO OFFICE - GLOBAL EQUITY STRATEGY - SEP 20195

MXWD Index BEst EPS (Curr Ann)

2009

2010

2011

2012

2013

2014

2015

2016

2017

2018

2019250

300

350

400

450

500

550

15

20

25

30

35

Source: CIO Office, pricing source from Bloomberg as of 12 Aug 2019

GLOBAL EQUITIES ARE IN SYNC WITH EARNINGS

OUR GLOBAL SECTOR STRATEGY AND POSITIONING

MXWD Index BEst P/E Ratio (Curr Ann)

2009

2010

2011

2012

2013

2014

2015

2016

2017

2018

2019

250

300

350

400

450

500

550

101112131415161718

GLOBAL VALUATIONS NOT STRETCHED

We move to a more defensive bias, and are underweight all cyclical sectors: materials, financials, energy and industrials. We retain an overweight on technology as it is now more like a utility (no industry can function without its products).

We think it is too early to position for a downturn, though, as real rates are depressed, the consumer is supported by resilient labor markets with steady wages in the US. Central banks are in stimulus mode, easing financial conditions and fiscal policy is loosening. It’s however never too early to be prudent.

TOO EARLY TO POSITION FOR A DOWNTURN BUT NOT TOO EARLY TO BE CAUTIOUS

SECTOR MODEL WEIGHT (%) RELATIVE TO GLOBAL INDEX

Technology 16.7 Overweight

Consumer Staples 9.5 Overweight

Healthcare 11.8 Overweight

Consumer Discretionary 11.5 Overweight

Communication Services 8.9 Neutral

Utilities 3.4 Neutral

Real Estate 3.3 Neutral

Industrials 10.0 Underweight

Financials 16.2 Underweight

Materials 3.7 Underweight

Energy 5.0 Underweight

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CIO OFFICE - GLOBAL EQUITY STRATEGY - SEP 20196

US 10 year Treasury yields have shown a propensity to fall to 1.5%, as in early September, hence investors should look for opportunities in dividend stocks. The dramatic decline in yields on US Treasury bonds means that investors can now get more income from dividends on S&P 500 shares than on even the longest-dated government debt, upending the traditional relationship between stocks and bonds and potentially driving more savers towards the stock market. S&P 500 dividends grew by 9% year/year in both Q1 and Q2. Goldman Sachs forecasts S&P 500 annualized dividend growth of 3.5% during the next decade. The yield on 30-year Treasuries at beginning September was at 1.94%, below the 1.98% dividend yield from US stocks. Shorter-dated Treasury bonds and notes have offered less income than dividends for some time. Negative yielding debt makes up 30% of listed debt globally with the Euro area home to the recent rise in negative yielding assets. In contrast the earnings yield on the European equity index Stoxx 600 is 7% and the dividend yield is 4%. However while companies typically aim to increase their dividend each year, the collapse in long-term bond yields and the inversion of the yield curve — in which short-term yields are higher than long-term yields — has in the past heralded a recession. A slowdown could put dividends at risk. Hence it is important to select companies with sustainable dividend strategies. A company with a sustainable dividend yield equates to a company with high free cash flow. We look for companies with strong balance sheets, healthy cash flows supporting dividends and trading at a deep discount - we believe these offer greater downside protection in the current weak macro environment, and would be key beneficiaries from a recovery in the economic cycle.

1. YIELD + VALUE: COMPANIES WITH SUSTAINABLE DIVIDEND YIELD AND LOW VALUATIONS

Dvd 12mth Yld - Gross (SPX Idx) USGG30YR Idx

1.5

2.0

2.5

3.0

3.5

2014 2015 2016 2017 2018 2019

S&P 500 DIVIDEND YIELD HIGHER THAN THE 30 YEAR TREASURY YIELD

Quantitative: High Dividend Yields supported by High Free Cashflow and Dividend Growth. We also assess the companies on valuation and earnings visibility. Qualitative: Competitive advantage and leadership in their sector. ESG and corporate governance metrics evaluated on a soft basis.

SELECTION CRITERIA:

Source: Bloomberg, 3 Sep 2019

OUR DEFENSIVE STRATEGYWe elucidate 4 defensive strategies, with a move away from the more cyclical and secular growth sectors:

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CIO OFFICE - GLOBAL EQUITY STRATEGY - SEP 20197

ILLUSTRATION OF COMPANIES WITH HIGH AND SUSTAINABLE DIVIDEND YIELDS

COMPANY INDUSTRY ROE ROA P/E DVD YIELD

DVD GROW-TH

FREE CASH FLOW YIELD

SHARE HOLD-ER YIELD

P/BLT EPS CAGR 2019-21

NET DEBT/ EQUITY

VALUATION & EARNINGS QUALITY DIVIDEND SUSTAINABILITY

Source: Bloomberg data as on 11 Sep 2019

HIGH DIVIDEND YIELD

BP PLC Energy 10.4% 5.9% 12.2 1.3 7.6% 42.1% 6.4% 3.1% 6.2% 5.6%

Royal Dutch SH-A Energy 10.0% 5.7% 11.8 1.2 14.0% 24.7% 6.6% 1.3% 11.6% 8.1%

Emerson Elec Co Industrials 25.4% 11.0% 17.8 4.5 7.2% 40.8% 3.0% 1.0% 5.3% 4.6%

AT&T Inc Comm Servs 12.5% 4.2% 10.5 1.5 11.8% 88.4% 5.4% 1.9% 10.6% 6.4%

Prudential Plc Financials 22.4% 0.8% 9.5 2.1 10.9% 2.8% 3.5% 9.4% 1.7% 3.4%

DIVIDEND GROWTH

Inditex Cons Disc 25.8% 17.1% 23.4 5.8 6.7% -45.7% 3.8% 12.2% 5.3% 3.1%

Pfizer Inc Health Care 28.3% 8.8% 13.2 4.1 14.1% 35.9% 3.8% 5.3% 5.6% 7.6%

Honeywell Intl Industrials 32.4% 10.3% 20.9 6.6 8.9% 28.9% 2.0% 10.3% 4.4% 6.2%

Cisco Systems Info Tech 42.1% 14.6% 14.7 8.0 8.3% -26.1% 2.9% 8.1% 6.9% 11.2%

Microsoft Corp Info Tech 40.0% 15.9% 25.9 8.5 13.3% -46.3% 1.5% 7.4% 3.7% 3.1%

Apple Inc Info Tech 57.1% 15.8% 18.6 11.0 11.0% -114.4% 1.4% 8.4% 5.7% 8.0%

Abu Dhabi Nation Cons Disc 61.0% 15.2% 14.8 9.6 4.2% 0.3% 7.0% 18.0% 6.3% 5.1%

AVERAGE 30.6% 10.4% 16.1 5.4 9.8% – 3.9% 7.2% 6.1% 6.0%

MSCI WORLD 12.0% 1.3% 16.6 2.3 7.1% – 2.5% – 4.6% –

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CIO OFFICE - GLOBAL EQUITY STRATEGY - SEP 20198

We evaluate healthcare companies with high gross margins and high R&D with strong pipelines of drugs under development. We add a layer of dividend growth for yield and free cash flow yield to ensure they can sustain downturns.

We screen for consumer companies whose products can live through all cycles and similarly look for some yield and dividend growth.

2. SECTORS WHOSE PRODUCTS ARE RESILIENT TO SLOWDOWNS: HEALTHCARE & CONSUMER STAPLES

CONSUMER AND HEALTHCARE COMPANIES WITH HIGH MARGINS AND HIGH FREE CASH FLOWS

COMPANY ROE ROA P/E P/B DVD YIELD

DVD GROWTH

FREE CASH FLOW YIELD

3 YEAR AVG GROSS MARGIN

LT EPS CAGR 2019-21

NET DEBT/ EQUITY

VALUATION & EARNINGS QUALITY DIVIDEND QUALITY

Source: Bloomberg data as on 11 Sep 2019

On many metrics the selected healthcare and consumer companies rate better than the average global stock. Return on Equity is at 38% compared to 12% and Return on Assets at 12% compared to 1.3% for the MSCI World Index. Gross margins are also higher at 58% as is the 3 year earnings growth rate at 11%.

HEALTHCARE

Novo Nordisk-B 71.9% 34.1% 20.2 14.2 84.4% 13.3% -29.2% 2.5% 3.7% 4.3%

Pfizer Inc 28.3% 8.8% 13.2 4.1 78.1% 14.1% 35.9% 3.8% 5.3% 5.6%

Eli Lilly & Co 70.0% 11.4% 19.4 16.5 73.4% 32.1% 42.9% 2.3% 10.1% 3.5%

Merck & Co 45.3% 14.2% 16.6 7.5 67.0% 14.8% 60.4% 2.7% 2.7% 3.7%

Roche Hldg-Genus 49.4% 17.4% 13.9 6.6 67.8% 4.9% 18.6% 3.3% 2.6% 6.8%

CONSUMER

Pepsico Inc 53.5% 9.7% 24.6 13.5 54.8% 9.1% 159.8% 2.8% 2.8% 3.2%

Coca-Cola Co/THE 50.7% 10.6% 25.8 12.6 61.6% 10.0% 147.4% 3.0% 2.5% 3.4%

Procter & Gamble 25.3% 11.4% 24.7 5.1 49.0% 6.7% 41.6% 2.5% 3.7% 3.9%

Mondelez Inter-A 13.8% 5.5% 21.9 3.0 39.2% 6.8% 67.2% 2.0% 8.3% 3.5%

Walmart Inc 18.9% 6.1% 23.5 4.4 25.4% 3.2% 58.3% 1.8% 1.9% 5.5%

Nestle SA-Reg 23.8% 8.7% 24.6 6.0 50.0% 7.8% 51.5% 2.5% 3.9% 3.8%

Danone 14.6% 5.4% 20.7 2.9 49.5% 12.6% 77.5% 2.6% 5.8% 4.2%

AVERAGE 38.8% 11.9% 20.8 8.0 58.3% 11.3% 61.0% 2.6% 4.5% 4.3%

MSCI WORLD 12.0% 1.3% 16.6 2.3 30.3% 7.1% – 2.5% – 4.6%

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CIO OFFICE - GLOBAL EQUITY STRATEGY - SEP 20199

Although the growth in corporate buybacks has slowed from +50% in 1H 2018 (driven by the windfalls from lower taxes), we expect companies to continue to grow their cash return to shareholders. S&P 500 buybacks rose 4% year/year in 1Q 2019. 2Q saw a

slowdown. We evaluate the financial health of the company and don’t use buybacks as the only metric. We identify companies where cash is used for stock buy-backs, without being funded by debt. Buy backs are good unless it is funded by excessive leverage

3. BUYBACKS: COMPANIES WHERE CASH IS USED FOR STOCK BUYBACKS (YIELD PROXIES)

COMPANY ROE ROA P/E

3 YR AVG GROSS MARGIN

BUY-BACK/ MKT CAP

SHARE HOLDER YIELD

FREE CASH FLOW YIELD

NET DEBT/ EBITDA

LT EPS CAGR 2019-21

DVD YIELD

DVD GROW-TH

VALUATION & EARNINGS QUALITY BUYBACKSDVD QUALITY

Source: Bloomberg data as on 11 Sep 2019

A SELECTION OF COMPANIES WITH HIGH BUYBACKS AND REASONABLE DEBT

BUYBACK

Apple Inc 57.1% 15.8% 18.6 38.6% 11.0% 1.4% 8.4% 7.7% 8.0% 5.7% -1.3%

Microsoft Corp 40.0% 15.9% 25.9 65.2% 13.3% 1.5% 7.4% 3.8% 3.1% 3.7% -0.8%

McDonalds Corp -93.8% 15.3% 26.1 46.4% 8.4% 2.2% 4.9% 9.4% 5.9% 3.3% 3.7%

T-Mobile US Inc 11.5% 4.0% 19.6 56.6% 13.0% 0.0% – 11.2% 2.0% 5.9% 2.8%

Target Corp 27.0% 7.5% 17.6 29.4% 6.0% 2.4% 3.0% 9.0% 9.1% 5.4% 1.7%

Nike Inc -CL B 46.8% 18.9% 29.9 44.4% 16.4% 1.1% 8.4% 11.0% 4.1% 3.5% -0.2%

Pfizer Inc 28.3% 8.8% 13.2 78.1% 14.1% 3.8% 5.3% 4.8% 7.6% 5.6% 1.6%

Amgen Inc 58.8% 12.7% 13.7 82.3% 7.1% 2.9% 10.0% 8.5% 17.4% 7.3% 0.8%

Biogen Inc 40.8% 23.9% 7.3 86.8% 0.2% 0.0% – 11.6% 7.3% 13.9% 0.3%

AVERAGE 24.1% 13.6% 19.1 58.6% 9.9% 1.7% 6.8% 8.6% 7.2% 6.0% 0.9%

MSCI WORLD 12.0% 1.3% 16.6 – – 2.5% – – – 4.6% –

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CIO OFFICE - GLOBAL EQUITY STRATEGY - SEP 201910

CONTACT

ANITA GUPTA Head of Equity Strategy Email: [email protected]

Telephone: +971 4 609 3564

Mobile: +971 50 525 3090

NAWAF ALNAQBI Equity Strategist Email: [email protected]

Telephone: +971 4 609 3838

Mobile: +971 50 516 6111

The US which comprises 54% of the MSCI World Index has been the key contributor to its strong performance. Consumer demand, has held up

Our detailed investment recommendations for the above defensive strategies are available on request. The above company selections are only illustrations for the defensive strategy positioning.

remarkably well this year and provided the primary support for the US economy. The consumer is 70% of the US economy.

4. THE US; HOME TO THE WORLD’S LARGEST CONSUMER AND HEALTHCARE COMPANIES

THE US CONTINUES TO DELIVER ON EARNINGS COMPARED TO THE REST OF THE WORLD

MXUS Index - Trailing 12M EPSMXWOU Index - Trailing 12M EPS

2014 2015 2016 2017 2018 201960

7080

90100110

120130

140150

Source: Bloomberg

■ US outperformance partly reflects better fundamentals. US equities are trading close to their 5 year average Fwd PE of 17.6X

■ EPS growth has outperformed the rest of the

world. ■ DPS growth better than rest of the world (since

2012 DPS in US up 10% and ROW +2%) ■ US Buybacks have ensured equity supply has

remained static ■ Only meaningful equity flows have been into

passive US equity trackers

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CIO OFFICE - GLOBAL EQUITY STRATEGY - SEP 201911

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All present and future rights in and to trade secrets, patents, copyrights, trademarks, service marks, know-how, and other proprietary rights of any type under the laws of any governmental authority, domestic or foreign, shall, as between the investor and Emirates NBD, at all times be and remain the sole and exclusive property of Emirates NBD and/or other lawful parties. Except as specifically permitted in writing, the investor may not copy or make any use of the content of this publication or any portion thereof. Except as specifically permitted in writing, the investor shall not use the intellectual property rights connected with this publication, or the names of any individual participant in, or contributor to, the content of this publication, or any variations or derivatives thereof, for any purpose. This publication is intended solely for non-commercial use and benefit, and not for resale or other transfer or disposition to, or use by or for the benefit of, any other person or entity. By accepting this publication, the investor agrees not to use, transfer, distribute, copy, reproduce, publish, display, modify, create, or dispose of any information contained in this publication in any manner that could compete with the business interests of Emirates NBD. Furthermore, the investor may not use any of the trademarks, trade names, service marks, copyrights, or logos of Emirates NBD or its subsidiaries in any manner which creates the impression that such items belong to or are associated with the investor or, except as otherwise provided with Emirates NBD, prior written consent. The investor has no ownership rights in and to any of such items. Emirates NBD is licensed and regulated by the UAE Central Bank. UNITED KINGDOM This publication was prepared by Emirates NBD Bank PJSC in the United Arab Emirates. It has been issued and approved for distribution to clients by the London branch of Emirates NBD Bank PJSC which is authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority (FCA) and the Prudential Regulation Authority in the UK. Some investments and services are not available to clients of the London Branch. Any services provided by Emirates NBD Bank PJSC outside the UK will not be regulated by the FCA and you will not receive all the protections afforded to retail customers under the FCA regime, such as the Financial Ombudsman Service and the Financial Services Compensation Scheme. Changes in foreign exchange rates may affect any of the returns or income set out within this publication. SINGAPORE This publication was prepared by Emirates NBD Bank PJSC in the United Arab Emirates. It has been issued and approved for distribution to clients by the Singapore branch of Emirates NBD Bank PJSC which is licensed by the Monetary Authority of Singapore (MAS) and subject to applicable laws (including the Financial Advisers Act (FAA) and the Securities and Futures Act (SFA). Any services provided by Emirates NBD Bank PJSC outside Singapore will not be regulated by the MAS or subject to the provisions of the FAA and/or SFA, and you will not receive all the protections afforded to retail customers under the FAA and/or SFA. Changes in foreign exchange rates may affect any of the returns or income set out within this publication. Please contact your Relationship Manager for further details or for clarification of the contents, where appropriate. For contact information, please visit www.emiratesnbd.com

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