Patience Rewarded

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The big money is not in the buying and the selling but in the waiting.

Charlie Munger

The latest Financial Times headlines say it all: ‘Kristalina Georgieva, head of the IMF, said the economic landscape was less bad than we feared a couple of months ago’. ‘Sharp about-turn in sentiment as IMF indicates it will upgrade its global economic forecasts’. ‘Eurozone set to avoid recession as economic gloom lifts’.

Last year tried the patience of long-term investors.  What should have been a sustained recovery from the shock of the pandemic turned into a headline-driven sell-off.  Economic growth and inflation should have picked up from where they were in 2020 and interest rates gradually increased to normalised levels over a 12 to 24-month period.  Instead the lack of investment in public and private capital, capacity constraints and pandemic-related issues with labour supply and supply chains significantly increased inflationary pressures compounded by Russian president Vladimir Putin’s decision to invade Ukraine and to cut off European gas. 

But as Charlie Munger of Berkshire Hathaway says, ‘the big money is in the waiting’.  We know that if you tried to trade the S&P 500 over the past 25 years and missed the 20 best days you would have turned a 9% return per year into 2% a year, giving up almost all your profits.  That is because the best days in markets come right after the worst ones, and it is impossible to get them right.

Our World Stars Global Equity strategy invests in globally leading companies that have quality and value for the long term.  Growth is a necessary attribute of quality, as is sustainability.  Last year, short-term forces wreaked their havoc as quality companies with higher valuations of the type we hold sold off, particularly the biggest digital platforms, the main beneficiaries of the shift from offline to online during the pandemic. 

Several of the companies we hold had to reset revenue expectations for their more cyclical businesses like digital advertising or enterprise software.  They had overestimated growth and over-hired during the pandemic and took decisive action to reduce costs and refocus on their core businesses.  However, their scale and resources allow them to invest and innovate, and the underlying demand for their businesses remains strong.   That is why we think that reports of the death of online search, e-commerce, social networking, digital advertising, enterprise software and semiconductors are greatly exaggerated.  It has happened before, whether Alphabet ‘missed mobile’ or users would abandon Meta’s family of apps because of political issues and we believe that it will be well worth the wait.

We also think that the event risk is more favourable than it was last year.  Our senior analyst Zhixin Shu has been visiting family – her first visit since the pandemic was declared – and recently sent us a note from Beijing that we would like to share with you as this month’s investment insight.  With President Xi Jinping’s third term in office approved by the party congress in October and awaiting confirmation by the people’s congress in March, it appears that he has decided, to reopen the economy in the most sudden and decisive way possible.  As Zhixin, writes, in a matter of weeks China has gone from a closed country reminiscent of previous periods in its history with quarantine enforced by the most advanced digital surveillance in the world, to full reopening and herd immunity. The impact on the Chinese economy will be significant, increasing demand and unblocking global bottlenecks. 

Indications are that President Xi’s focus could shift to economic growth and prosperity, and he could seek to improve ties with the US and Europe, including scaling back threats against Taiwan.  Many of our companies are positioned to benefit from China’s reopening. 

There are other events as well.  We must hope for a peaceful resolution to the Russia/Ukraine conflict.  Could President Putin’s approach to Ukraine change in the face of Ukrainian resistance, US and European support and the domestic impact of the human losses and the costs?  Energy prices could fluctuate to higher levels again, in particular as China reopens, but natural gas prices in the US are back to pre-pandemic levels, European gas storage is sufficient, and Germany’s new LNG terminals are opening at a rapid pace.

We base our decision on company fundamentals, and while it is likely that the rapid rise in interest rates will have an impact on corporate and consumer spending, it is also likely that inflation indicators will annualize last year’s significant increases and will slow sharply, perhaps even turning negative, over the next 12 months.  Many of our companies have been reporting good business conditions, robust demand and the ability to increase prices to offset cost increases.  We expect a slowdown but have consistently between more positive than others have been.  Given what we know we are not surprised to see the IMF and others improving their forecasts and we think there could be more to come.

Most important of all for our outlook for 2023 is the conviction that a world in which there is sustained growth, inflation of 2-4% and interest rates of 4-5% is a world to look forward to, not to fear. 

Things are not as bad as feared, there is a sharp about-turn in sentiment, the gloom is lifting, and the best days follow the worst.  That is why we are not surprised that after the sell-off last year, our portfolio is up 7% year to date in USD.  While there will be volatility, we think valuations are compelling, fundamentals are supportive and macro-data is set to improve steadily. We believe that our patience will be rewarded and that there is big money to be made from investing in quality and value for the long term.

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