Giacomo Mergoni’s Outlook 2015: at the end of 2014, the scenario for the world’s major economies is essentially the same as at the start of the year. If, for the sake of simplicity, we divide the world into 3 main blocks (USA, Europe and China), we can observe that they are at 3 different stages of the economic cycle.
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Put your money on long/short equity funds managed by true stock pickers
by Giacomo Mergoni*
At the end of 2014, the scenario for the world’s major economies is essentially the same as at the start of the year. If, for the sake of simplicity, we divide the world into 3 main blocks (USA, Europe and China), we can observe that they are at 3 different stages of the economic cycle.
The United States continue in their slow recovery, the dollar has strengthened and returned to a long-term fair value, the industrial system is strong and any over-capacity is being re-absorbed.
In Europe, we have finally realised that we are in full deflation mode and, in view of governments’ heavy debt burden, we are discussing unconventional monetary policies.
And in China, after 3 years in which investors have been weighing up the possibility of a hard landing, it now seems more accurate to speak of a long landing. The government continues to focus on quality of life and domestic growth, seeking to cut off the oxygen supply to speculation and at the same time support demand for consumer credit.
In spite of these differences, the instruments used by the governments concerned are essentially the same: low rates and a rush to devalue to boost exports are common features and have produced varying results. Those who can afford to, like China, are using fiscal levers.
After the 2008 crisis hit economies more or less contemporaneously, we now find the 3 major blocks out of alignment. In 2014 the markets reacted with great nervousness (= volatility) and a concentrated effort to find relative security. The major American investors brought much of their foreign investment back home, driving the dollar upwards and bringing levels of exposure to Europe and the emerging markets close to their historic minimum levels. In Europe, the mad rush to government bonds continued.
For 2015 we can expect more of the same and we feel that long/short equity strategies are the most likely to generate positive returns in the medium-long term, with a medium-low risk profile. In the United States, 3 years of bull markets have produced a rise even in companies with unsustainable economics, which now find themselves with stellar evaluations on margins at the peak of the cycle (e.g. retailers, restaurant chains, software as a service).
Sectors considered less growth oriented, on the other hand, are listed at or below net worth (banks, insurance companies, some real estate investment trusts (REITs)). In Europe, we find countries like Italy offering great potential, with macro- and micro-data and evaluations well below historic averages. Here in Italy, sectors viewed as less domestic (the international players) are quoted at a premium with respect to domestic sectors (media, real estate, telecoms, banks). The country in general is quoted at an all-time historic low with respect to Germany, which is, however, also showing signs of a slow-down.
The actions of governments and the ECB at present count for more than they should and this will keep volatility high. In China, infrastructure stocks and many exporters will continue to suffer, while stocks linked to domestic consumption will go on benefiting from the actions of the government and the central bank, which have plenty of ammunition at their disposal. Given this scenario, we feel that only long/short equity funds managed by true stock pickers, and not by traders, have the right instruments at their disposal to exploit the contradictions that the risk on/risk off merry-go-round will inevitably generate once again in 2015.
*CEO Banor Capital Ltd
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