Global Thematics strategy - January 2023

Companies that are able to deliver robust earnings growth in 2023 most likely to be rewarded

• Global equities declined as investors’ attention turned towards possible recession in 2023
• All regions posted negative returns except for China which loosened covid restrictions
• Our holdings in ‘Transitioning Societies’ and ‘Ageing and Lifestyle’ themes outperformed

What’s happening?

Global equity markets declined in December in US dollar terms, following strong gains in October and November, as investor attention turned towards the prospect of a global recession in 2023. All regions posted negative returns except for China where easing covid restrictions boosted sentiment. With the exception of utilities, all sectors declined led by information technology and consumer discretionary resulting in outperformance of value relative to growth during the month.

In the US, inflation fell further to 7.1% year-on-year in November from 7.7% in October but there was an upward revision to economic activity for the third quarter and the labour market remains strong, with higher than expected job additions and further wage increases. The US Federal Reserve eased its pace of interest rate hikes to 50bps during the month, taking the target rate to 4.5%, but suggested they would need more compelling data to change their stance on inflation, which weighed on hopes for easier monetary policy in the coming months.

Inflation in the eurozone fell to 10.1% year-in-year in December from 10.6% in the previous month on the back of lower energy prices but core inflation remained elevated. The European Central Bank also eased its pace of interest rate hikes, increasing 50bps to 2.5%, but stressed that significant tightening still remained. In the UK, the Bank of England increased the cost of borrowing to its highest level in 14 years at 3.5% despite conceding inflation had likely peaked and the economy is about to enter a prolonged recession.

Chinese policymakers loosened covid rules in major cities and restrictions for travellers providing further signs the world’s second largest economy is prepared to reopen its economy. However, a surge in covid cases and the imposition of travel restrictions on Chinese visitors from other countries suggests this will not be straightforward.

Portfolio positioning and performance

The strategy underperformed the broader equity index (MSCI All Country World) in December driven by weaker performance from ‘Connected Consumer’ and ‘Automation’ while our holdings in ‘Transitioning Societies’ and ‘Ageing & Lifestyle’ outperformed.

In ‘Connected Consumer’, our position in global technology company Alphabet detracted most as softening consumer trends weighed on the outlook for online advertising and cloud computing while regulatory developments, particularly in Europe, are another potential headwind. We think the valuation of the stock looks attractive at well below its long-term average. We believe the company is unlikely to be impacted as much as its online advertising peers, given its dominant search position, and offers optionality from its other bets in hardware, cloud and autonomous vehicles.

‘Automation’ returns were impacted by our position in Aptiv, which is a leading supplier of electrical architecture and safety products for light vehicles. Supply chain issues and the worsening outlook for consumer spending are weighing on auto companies at present but Aptiv continues to execute better than peers and would benefit from considerable operating leverage if volumes improve. The company offers attractive exposure to the electrification of vehicles and increasing penetration of active safety, autonomous driving and connectivity.

In ‘Transitioning Societies’, our position in AIA Group added most as the easing of covid restrictions in China improved the outlook for the pan-Asian life insurance group. The value of new business has been increasing over recent months, with particular strength in China, Malaysia and Singapore, while the company remains well placed to benefit from increasing penetration of insurance and financial services in the region more broadly.

Returns in ‘Ageing & Lifestyle’ were boosted by our position in Zimmer Biomet, which is a leading manufacturer of reconstructive implants. Management provided upbeat guidance for revenue growth and operating margin improvement in 2023 driven by the normalisation of procedure volumes and rollout of several new products.

We initiated positions in several companies during the month funded by holdings most exposed to a deterioration in demand in 2023. Notable additions included healthcare companies Novo Nordisk (pharmaceutical) and Biogen (biotechnology), which offer stable cashflows and attractive product pipelines, along with robotics company Fanuc, in anticipation of improving demand for automation equipment, and asset manager Amundi, which is well positioned for a recovery in markets after a challenging 12 months. Our largest sales were creative software company Adobe, which would suffer from lower digital media spending, and industrial technology company Trimble, which is exposed to a slowdown in construction activity.

Outlook

The developments in Ukraine have added to already heightened levels of market volatility. Beyond the tragic cost of human lives, Russia’s invasion of Ukraine poses significant economic costs through higher energy prices and further supply chain disruptions. Meanwhile, major central banks have embarked upon an extended period of interest rate rises and quantitative tightening in an attempt to rein in inflation. There are still reasons to be positive, however, as economic activity continues to be resilient. While we expect growth to moderate going forward, the trends underpinning the Evolving Economy remain firmly intact and companies that are able to deliver earnings growth in this environment will likely be rewarded.

Solid industrial activity and strong order books for industrial robotics companies highlight the positive outlook for ‘Automation’ while ongoing supply chain disruptions only strengthen the case for automated solutions. ‘Connected Consumer’ companies have benefitted from an acceleration in the adoption of digital technologies since the pandemic and we expect this to continue as the economy forges ahead with its digital transformation. Further commitments from nations globally to dramatically lower emissions, combined with the recent volatility in energy prices, underlines the need for clean energy, storage and energy efficiency solutions which provides a strong tailwind for ‘Cleantech’ companies.

From a demographic standpoint, the ageing global population continues to create opportunities for ‘Ageing & Lifestyle’ companies which are positioned to benefit from long term changes in consumption patterns. The regulatory clampdown and ongoing covid lockdowns have weighed on sentiment in China but trends which include increasing wealth and financial inclusion, urbanisation and access to healthcare provide a positive backdrop for ‘Transitioning Societies’ more broadly.

We retain the view that high quality management teams, operating businesses with a sustainable competitive advantage in markets that benefit from secular tailwinds are best placed to navigate the evolving economy. The prospect of higher interest rates puts pressure on long duration assets but our preference for companies with healthy cash generation and strong focus on valuation should be supportive. The strategy is therefore well positioned to benefit from the secular shifts we are witnessing globally.

No assurance can be given that the Global Thematics Strategy will be successful. Investors can lose some or all of their capital invested. The Global Thematics strategy is subject to risks including Equity; Emerging markets; Currency; Global investments; Investments in small and/or micro capitalisation universe; ESG.