Monetary and fiscal policies provide support – inflation is where the risk could lie
Key central banks are signalling that rates will remain on hold at historically low levels. The shift in central banks’ approach to targeting inflation is potentially supportive for equities. But low rates for long will not in itself mechanically generate inflation – current loose monetary policies could potentially avert sizeable deflationary pressures.
We continue to see many underlying deflationary pressures at play in the economy, notably from technological advances and from rapid disruptive trends. We also see limited wage inflation following deterioration in the labour market from the pandemic, something we will continue to monitor.
Earnings growth outlook supportive, but forecast risk is high in a year of sharp rebound
Given the macro-economic picture, 2021 should be a year of strong growth in corporate earnings. Consensus estimates point to a growth of +23 per cent in YoY earnings growth in 2021 for the MSCI World Index with +36 per cent from the MSCI Europe (ex UK) Index. Earnings expectations carry sizeable forecast risk and most years start with earnings estimates being too optimistic. 2021 might be different and the current consensus could have to be revised up strongly should fiscal stimuli be front-loaded and channelled in a timely manner.
Valuations – European equities more attractive than us
Valuation levels on a standalone PE ratio look demanding versus historic levels, but we believe that given such an unusual period in terms of earnings collapse and rebound in 2020/21 respectively, cyclically adjusted valuation multiples are more relevant to use.
Equity valuations generally remain attractive to us in terms of the earnings yield they offer compared to the bond yields. This is likely to remain the main supportive argument for an ongoing rerating of equity markets, given the strong signalling by the main central banks that rates will remain low for extended periods of time.
Market focus on sustainability will continue to increase and accelerate
The nature of the 2020 recession triggered by the pandemic crisis has put more emphasis on sustainability and responsible corporate citizenship. Investors have increased their focus on assessing ESG criteria in corporates – and we expect this to gain momentum in 2021. Regulation is further driving this, and asset allocators are increasingly continuing to channel more of their exposures to ESG-focused strategies. The EU recovery fund has been clearly oriented towards favouring green initiatives, both in terms of more energy-efficient buildings, electric transportation subsidies, and renewable energy infrastructure. This further reinforces the sustainability momentum as part of the recovery efforts.
Carbon intensity assessment and a drive to decarbonise economies by policymakers are further adding to the momentum. We expect the US to get closer again to Europe and have a more coordinated approach to both dealing with China, other areas of geopolitical tensions, and in tackling climate change. It is widely expected that President Joe Biden will take the US back into the Paris Agreement in 2021. This will be material in terms of aligning all major economies globally towards reducing carbon emissions significantly over the next 30 years and beyond.
It is pleasing to forecast that 2021 should be a year of ongoing positive momentum in terms of ESG and sustainability, both from investors, corporates, governments, and asset allocators.
Post-pandemic opportunities in green initiatives and infrastructure
We continue to identify attractively priced long-term themes that should benefit our investors through our thematic megatrends framework. This focuses on the three megatrends we have identified, which are (i) demographic change, (ii) future of technology, and (iii) resource scarcity.
There are many interesting themes within each of these megatrends, which provide us with long-term structural growth opportunities, and the post-COVID world opens some interesting opportunities:
(i) increased infrastructure spend to boost the economy, notably railway and 5G infrastructure;
(ii) increased spend in healthcare infrastructure to both make the public healthcare sector more prepared for future pandemics, and to increase investments in home care and telemedicine;
(iii) increased incentives in sustainability, whether it is social sustainability or greener solutions in transport, energy generation, infrastructure and construction in particular;
(iv) increased investment in cloud computing and cyber security given the acceleration in pace of migration to digital economies;
(v) increased investment in robotics and automation as corporates tackle the need to make their supply chains more robust; and
(vi) improvements in food hygiene and general hygiene (both household and professional premises).
Overall, we believe it will be a year based on lower tail risks and increased optimism. This will be a positive and much-needed contrast to what has been an exceptional and highly unpredictable year on many fronts. We will be watching out for pace of deployment of fiscal stimuli into the real economies, and for any signs of inflationary trends picking up meaningfully.
Zehrid Osmani, head of global long-term unconstrained, portfolio manager, European long-term unconstrained, Martin Currie