We believe that after decades of low inflation and a prolonged period of benign interest rate levels, global macroeconomic conditions are changing, says Walter Scott’s George Dent. Recent spikes in inflation are likely to prove more than just a temporary blip, with central banks unlikely to lower interest rates any time soon.
“After years of low inflation and interest rates the Covid-19 pandemic arrived, the world temporarily shut down and from 2021 onwards it has been all change with rising inflation which is ‘stickier’1 than had initially been hoped,” says Dent.
“At first it seemed like this was a transitory effect with things starting to open up. But by 2022 it became clear this wasn’t just a brief transition and central banks realized they had to get to grips with rising inflation. Against this backdrop, any medium-term return to an ultra-low interest rate environment seems highly unlikely in our view.”
While most major economies have so far managed to avoid recession, Dent says the outlook for economic growth remains subdued. Yet he believes the situation presents potential investment opportunities for active stock pickers able to identify robust, well-managed companies able to ride out mercurial markets.
“The economic backdrop remains fairly challenging. Yet we believe global markets are home to some fantastic businesses well-placed to grow through the current environment. This may be a great time for high quality businesses to thrive,” he adds.
It is companies, not markets that drive investment returns, Dent says. In his view, investors able to identify ‘bellwether’ companies capable of benefiting from structural trends and with demonstrable resilience may benefit from the current macroeconomic background.
“Quality really does matter and companies with high profitability, strong balance sheets, pricing power and which are asset light may prosper in the current environment.”
Active managers able to navigate wider swings in global markets also have an advantage, he adds.
“If you are invested though an index you will simply follow that up and down as markets fluctuate. We believe active management gives investors the opportunity to identify and pick the better, stronger stocks that are well placed to thrive despite the pressures of the current environment,” he adds.
From a sectoral perspective, Dent sees positive opportunities among companies with strong balance sheets operating in the IT, consumer discretionary and healthcare sectors. He also believes artificial intelligence (AI) could open up new opportunities but is wary of trying to pick winners in a period of rapid change where the longer-term potential of many AI applications remains unclear.
“Amid all the current publicity surrounding AI and its disruptive powers it would be really exciting to spend the next six months trying to find the next ‘big thing’ in the market. However, while that would be fun, you would have an extremely high chance of failure and of picking the wrong companies.
“AI is going to require a lot of computing power so we believe it is much more sensible to look at companies facilitating its wider development via service supply and the provision of underlying components,” he concludes.
1 Sticky- Resistant to change, slow to change
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