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From Recovery to Rotation
Events from the final quarter capped off a remarkable year for global equity markets. Vaccine news marked a watershed in the fight against the pandemic which was celebrated with a “reopening trade” by investors that lifted beaten-down cyclical stocks.
Markets broaden but leadership remains the same. Strengthening investor confidence in the global economic recovery broadened markets in the fourth quarter, with value-oriented areas like energy, financials, materials, and industrials topping the sectors charts. But for the year, leadership remained distinctly with technology, consumer discretionary and communication services sectors. While a continued rotation could drive stronger relative performance from value stocks in the near term, growth stocks should also reap the benefits from cyclical catalysts to drive solid absolute returns.
Fundamentals drive returns, not speculation. While market spectators have been signaling euphoria in the markets, it’s really robust fundamentals like quality and growth that drove returns in 2020. Returns for companies with the highest quality (return on investment capital) and strongest growth (earnings and revenue) far outpaced those exhibiting the opposite characteristics. While there may be short-term deviations from fundamentals, over time fundamentals win in driving returns.
The Future of Business and Consumerism
The acceleration in digitalization is here to stay and is expanding across industries, growing more powerful in shaping the future of business and consumerism. What was nice to have pre-pandemic, and helpful during the pandemic, will become mandatory post-pandemic. This means innovative, tech-savvy business models should continue to gain bigger shares of bigger pies over the long term. Specific examples include:
Cloud-based applications. While the megatrend of companies migrating to the cloud is underway with ample room for growth, an even more exciting derivative of that trend is emerging from the application side. Companies are allocating more of their IT budgets to cloud-based applications which allow them to more quickly, cheaply, and efficiently meet consumer demand. Unified communications that integrate voice, text, email and video capabilities in one place are a prime example.
Expansion of digital consumerism. The acceleration in e-commerce was one of the biggest global trends of 2020 that should continue to see growing adoption rates for years to come. But for 2021 and beyond, it’ll be important to distinguish where that demand was pulled forward versus where demand will manifest next. Emerging markets, like Latin America and Southeast Asia, may see the biggest explosion in growth rates as they are severely underpenetrated markets with huge populations. E-commerce facilitators, like digital payment platforms with offline payment capabilities, are likely beneficiaries as these regions tend to be much less reliant on credit cards.
Portfolio Positioning Ideas
2020 was a historic year and while the strength of some leaders was surprising, it solidified the importance of secular themes underway for some time. But as the global economy recovers and political heat cranks up in some key areas, investors should be focused on capitalizing on future growth opportunities while minimizing unwarranted risks. Examples include:
- Reduce political/regulatory risks: With Chinese and U.S. governments increasing scrutiny of big tech stocks and so many emerging areas of innovation now, investors may want to shift their focus towards finding the next group of breakout growth stocks to drive future returns.
- Lean into cyclicals with secular exposure: Digital advertising is a growing field as more consumption shifts online through streaming, connected devices, and social media. While the industry took a hit in 2020 as many businesses reined in expenses and cut ad budgets to make it through the pandemic, demand is expected to grow significantly as economic activity expands.
Risks—Foreign investments may be volatile and involve additional expenses and special risks, including currency fluctuations, foreign taxes, and political and economic uncertainties. Emerging and developing market investments may be especially volatile. Investments in securities of growth companies may be especially volatile. Due to the recent global economic crisis that caused financial difficulties for many European Union countries, eurozone investments may be subject to volatility and liquidity issues. Emerging markets are countries that are beginning to emerge with increased consumer potential driven by rapid industrial expansion and economic growth. Investing in emerging markets is very risky due to the additional political, economic, and currency risks associated with these underdeveloped geographic areas. Investing involves risks. Some investments are riskier than others. Value investing involves the risk that undervalued securities may not appreciate as anticipated. It may take a substantial period of time to realize a gain on an investment in a small or midsized company, if any gain is realized at all. Diversification does not guarantee profit or protect against loss. The investment return and principal value will fluctuate, and shares, when sold, may be worth more or less than the original cost.
The views expressed herein are those of Jennison Associates LLC (“Jennison”) investment professionals at the time the comments were made and may not be reflective of their current opinions and are subject to change without notice. This commentary is not intended as an offer or solicitation with respect to the purchase or sale of any security or other financial instrument or any investment management services. This commentary does not constitute investment advice and should not be used as the basis for any investment decision. This commentary does not purport to provide any legal, tax, or accounting advice.
Certain information in this commentary has been obtained from sources believed to be reliable as of the date presented; however, we cannot guarantee the accuracy of such information, assure its completeness, or warrant such information will not be changed. The information contained herein is current as of the date of issuance (or such earlier date as referenced herein) and is subject to change without notice. The manager has no obligation to update any or all such information, nor do we make any express or implied warranties or representations as to the completeness or accuracy. Any projections or forecasts presented herein are subject to change without notice. Actual data will vary and may not be reflected here. Projections and forecasts are subject to high levels of uncertainty. Accordingly, any projections or forecasts should be viewed as merely representative of a broad range of possible outcomes. Projections or forecasts are estimated, based on assumptions, subject to significant revision, and may change materially as economic and market conditions change.
1045172-00001-00 Ed: 02/2021