Now is the time to be buying up undervalued stocks, according to Quilter Cheviot’s investment manager David Henry, who has warned that investors risk losing out if they don’t.
So far this year the market has been reading the signs of a recession, as prices have been relentlessly on the rise. Central banks are trying to tame inflation, but everyday spending has been greatly impacted and many are convinced that it will not be long before the cost-of-living crisis will evolve into a full-fledged recession.
Although the global financial crisis (the previous big recession) is now 15 years behind us, Henry said there are still lessons that investors can take from it and that apply to today. The first thing he noticed is that bonds perform better than stocks.
“It is not necessarily a surprise, [that] when you are in the trenches, return of capital takes precedent over return on capital,” he said.
Indeed this is the direction the market seems to have taken. So far this year, investors have removed £1.9bn from UK equities in an attempt to hedge their portfolios from the greater level of volatility in the market, as this risk is now perceived as unnecessary.
But it’s not all as simple as just buying bonds instead of stocks. In fact, bonds are losing ground too, with investors pulling £458m from fixed income portfolios and £93m from mixed-asset funds, as Trustnet recently reported.
Part of that capital has been allocated to property and other cyclical asset classes, while investors are waiting for better conditions in which to switch back into the equity market.
But getting the timing right is far from easy, and this is exactly where investors often risk losing a lot of money, according to Henry.
“Consider that a) we only find out that we are in a recession months after the fact; and b) GDP figures eventually end up revised anyway, more often than not. For all we know we might already be in a recession, but trying to time an economic turnaround in the market is nigh on impossible,” he said.
Historical data from Quilter Cheviot shows clearly how the market only represents an amalgamation of global investors’ views about the future, and not what is currently happening. So if one were to wait for black and white data to prove the end of a recession, they would be falling behind.
Take the great recession that took place in 2008 as an example. It officially ended on 31 May 2009, whereas the equity market bottomed two months before, in March. Missing out on those two months would have meant giving up on a 27.6% recovery. The same is evident for the recessions of the early 70s and 80s, as Henry noted.
Disparity between end date and market bottom in US recessions, with MSCI World performance data
Source: Quilter Cheviot
“If you wait for the end of a recession before switching back to stocks, you have tended to miss out on a substantial chunk of the market’s recovery,” he said, adding: “As ever, the key is timing”.
However, it can be difficult to identify those companies that will survive the slowdown, especially as it has been so long since a prolonged economic slowdown tested what consumers prioritise.
Henry is betting against subscription type services and recommended to prioritise companies which sell the goods and services that people desperately want, or ideally need.
“We are about to find out how sticky these subscriptions are, both at the consumer and corporate level.
“During the next 12 months or so it will become obvious which companies actually have a competitive advantage and which were being swept along by an era of cheap money,” he said.
To end on a positive note, Henry highlighted one area that looks much improved: banks.
Regulations that came into place after 2009 now force banks to hold more capital, making it “far less likely” that a recession will be as severe, he said.
“A lot of scars remain from the recession from the financial crisis nearly 15 years ago, but the financial system looks to be in a better place to weather the next slowdown.”