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In the 9th edition of Quality-Growth Quarterly we feature an article from Nick Train, Michael Mauboussin and Dan Callaghan’s latest Consilient Observer research on ROIC, a Howard Marks Memo titled “Taking the Temperature”, Quilter Cheviot’s Nick Wood with a 2023 commentary titled “Halfway Through”, a JP Morgan Investment Outlook, a Guinness Global Investors presentation titled “Quality growth opportunities in the semiconductor sector”, Credit Suisse’s Family 1000 Database, a Peter Tasker article titled “Learning To Love Inflation: The Japanese Experiment”, a Behavioural Investment article titled “What the CIA Can Teach Investors”; a Goldman Sachs report suggesting Generative AI could give a significant boost to global GDP – plus 6 other articles, videos and podcasts.
“Amidst the recent reportage about the winnowing out of the UK stock market, I was particularly struck by William Hague’s article in The Times in March. He somewhat shamefacedly quotes an expert on the pension industry who notes the UK has become ‘the only major economy where local pension funds have in effect abandoned investment in domestic companies.’”
“We start with ROIC results for firms in the Russell 3000, excluding companies in the financial and real estate industries, from 1990 to 2022. The Russell 3000 tracks the performance of the largest 3,000 U.S. public companies. By convention, we exclude certain industries because their accounting is different than the rest. Data are also missing for some companies. These adjustments reduce our sample size to the range of roughly 1,600 to 2,100 for each year.”
“It has been a rewarding year for those seeking quality growth opportunities in the semiconductor sector. Artificial intelligence – one of nine growth themes we use to assemble the Global Innovators universe – caught investors’ imagination even before Nvidia’s blow-out results which sent big tech stocks soaring. From a quality growth perspective, however, the AI theme looks set to accelerate the opportunities in areas such as the semiconductor equipment companies, whose financials and growing return on capital already made them attractive, as we discussed at last year’s conference.”
“As I think about growth, there are the more proven secular leaders, like [Google owner] Alphabet [GOOGL], Facebook [FB], Amazon.com [AMZN], and Alibaba Group Holding [BABA]. Given their valuation, growth, and cash generation—and their competitive advantages—you can hardly find better long-term values. Facebook, for example, trades at about 21 times next year’s earnings, and crushed revenue-growth expectations in the most recent quarter. People expect that to decline, but it should still grow [revenue] around 20%.”
“Nowhere have we seen such a reversal of fortunes as in the tech world, which came back with a bang following a difficult 2022. Ultimately, it has one thing to thank for this U-turn in performance, generative artificial intelligence (AI). Roll back to the end of last year and it is likely very few had heard of ChatGPT, but it has rarely left the headlines since January. This has fuelled some extreme positive share price movements in a subset of technology stocks, not least Nvidia and Microsoft. More broadly, this has resulted in growth indices and funds generally outperforming their value peers, something that seemed unlikely at the start of the year with both interest rates and inflation still rising.”
“From the mid-1980s to 2020, the global economy encountered a long wave of disinflation caused by globalisation, particularly the vast new supply of labour in China, the internet and the tough policies of inflation-fighting central banks. This was excellent news for inflation-prone countries like the UK, but had the effect of driving Japan, which had conquered inflation long before, into outright deflation of a mild but chronic sort. The necessity of maintaining a massively overvalued currency to please the U.S. all through the two ‘lost decades’ compounded its economic woes.”
“2023 is turning out to be a better year for economies than we had envisaged, but we still believe a recession is more likely than not. Given the rally we’ve seen in both stocks and bonds since the start of the year, we’re therefore more inclined to be well diversified with a focus on quality. Against this backdrop, we believe that investors should look to boost the resilience of equity portfolios by focusing on a combination of high-quality names, strong dividend payers and regional diversification.”
“Our CS Family 1000 database is a list of family businesses that have been identified as fulfilling one or both criteria: the founder or his or her family owns at least 20% of the company’s share capital or the founder or his or her family owns at least 20% of the company’s voting rights. Almost 50% of the universe is in the Asia Pacific region, with European family-owned companies making up 24% of the database and North America contributing 15%.”
“We expect growth across Asia to continue apace, with China as the pivot. As in 2022, we expect developing Asia to be a key beneficiary of this trend (Figure 2), especially those countries with large tourism sectors. For instance, Thailand, whose tourism industry accounts for 30% of GDP, could see traveler inflows double or even triple. Indonesia, Vietnam, and Malaysia are also well-positioned to take advantage of the structural diversification of supply chains away from China. In parallel, they are also attracting a significant amount of inward investment from Chinese companies looking to tap into the large and growing consumer markets of Southeast Asia.”
“Investors have anointed cash as king, shifting assets out of stock and bond investments and driving US money market totals to a record US$5.4 trillion as at 31 May 2023…After the painful losses of 2022, more risk-averse investors might consider allocating some cash to dividend-paying stocks.”
“In 1999, Richards J. Heuer, Jr – who worked for the CIA for almost 45 years – produced a volume of writing called: ‘Psychology of Intelligence Analysis‘. It collated internal articles written for the CIA Directorate of Intelligence. Its aim was to provide analysts with the tools to reach judgements in situations which “involve ambiguous information, multiple players and fluid circumstances”. The insights drawn together by Heuer, Jr are designed to assist in the profound challenge of using our limited human mind to tackle deeply complex problems.”
“And so this year’s mixed data raises the risk of a policy error by the Fed, either by neglecting to raise rates enough or alternatively by overtightening. Take May’s jobs report. While some 339,000 workers were hired over the month, the unemployment rate climbed 0.3 percentage points to 3.7%, even as the participation rate remained at 62.6%.”
“We show that value investing has generally been unprofitable for almost 30 years, barring a brief resurrection following the dotcom bust. We identify two major reasons for the failure of value investing: (1) accounting deficiencies causing systematic misidentification of value, particularly of glamour (growth) stocks, and (2) fundamental economic developments that significantly slowed the reshuffling of value and glamour stocks (mean reversion), which drove the erstwhile gains from the value strategy.”
“Despite significant uncertainty around the potential for generative AI, its ability to generate content that is indistinguishable from human-created output and to break down communication barriers between humans and machines reflects a major advancement with potentially large macroeconomic effects.”
“A few weeks back I had the absolute pleasure of interviewing the one and only Harris “Kuppy” Kupperman. What made this interview particularly special was the fact that Kuppy is a fellow history major working in the investment industry, and views his understanding of history as a competitive edge in his role as Chief Investment Officer.”
© Quality Growth 2021