Although the latest investment cycle has been one of the longest in terms of growth outperforming value, global asset manager T. Rowe Price isn't ready to throw in the towel on the growth story just yet, especially given the continuing wave of technological disruption that continues to impact people's lives all around the world.
Speaking to Livewire in Sydney this week, T. Rowe Price's Head of Multi-Asset Solutions – APAC, Thomas Poullaouec, a member of a multi-asset team that oversees around US$350 billion of assets, says that even though the manager has both growth and value styles at its disposal, it has always been more of a growth pioneer.
And while Poullaouec has been concerned about the premium that currently has to be paid for growth, all the fundamentals that T. Rowe Price looks at support its overweight position, including forward earnings and the disruption that growth companies are causing around the globe.
He also believes that some of the manager's peers have perhaps moved too quickly into a value style purely due to valuation reasons – thereby falling into the well-known "value trap".
One thing Poullaouec has been emphasising to his clients is T. Rowe's estimation that close to 30% of companies within the S&P 500 are at risk of being disrupted.
"Really, disruption is something that perhaps we are not talking about too much, or we are not evaluating as much, as to the impact it could have," he says.
"And although we have regulatory risk and populism risk, which are perhaps more acute for some of these growth and giant tech companies, you see disruption everywhere. And that's where we are paying a lot of attention - trying to go beyond these big, giant, tech companies and find the winners for tomorrow in every sector."
Poullaouec says that trying to stay ahead of the game and looking into which companies could be the winners of the future is part of the reason behind the manager's current overweight position in US small caps, as well as the belief that small and mid caps will be less impacted by the US-China trade war.
"We have a heritage of being early investors into all of these companies and we hope to continue that success," he says.
But as Pollaouec and his team scour the markets for the next disruptor, there is a worrisome trend that is resulting in a "thinning of the herd" and making the hunt more difficult – a reduction in the overall number of public companies.
"You can see that this is a trend globally where companies tend to remain private for a longer time. We've started to get a bit nervous about how much of these opportunities will present to us as public investors, because we can participate on a case-by-case basis in some private deals, but the majority of our money is invested into public companies," he says.
Inverted yield curves & the "R" word
The recent yield curve inversion has left many managers and market pundits having to contemplate the dreaded question of whether "this time is different" and if the world is indeed about to slip into a recession. While the risk of a yield curve inversion is something Poullaouec and his team have been tracking for a year and is something they have been taking seriously, it is not the only indicator they have been looking at.
"Our internal work with our economist based in London … looked at the New York Fed type of model to use the inverted yield curve to predict the probability of a recession, and this model right now will give us a number close to 40% to 50%," he says.
But what the T. Rowe Price economist's work has been showing is that there are now a lot of players in the bond markets who are there for the sake of reducing the yield curve level, in order to ensure that the credit cycle is still alive and kicking globally.
"His argument is that the probability of a recession is smaller than a traditional base case … so, I'm more in that camp, and I think our team globally would agree that – yes, this is worrisome," Poullaouec says.
"But given what has been happening in the bond market and … the central banks who are buying bonds for the sake of reducing the yield level, it's perhaps distorting the probability of a recession and reducing it."
Poullaouec says T. Rowe's current model therefore calls for a 20% to 30% chance of a recession in the next year or so.
The rise and rise of populism
One topic that Poullaouec and his team spend a lot of time discussing is populism and its impact on policy actions, most concerningly in the US where the independence of the Fed is being questioned given some of the actions by President Trump.
Poullaouec says the majority of identifiable flashpoints in the world right now are all related to widening inequality giving rise to populism, and the fact that monetary policy has been able to reflate asset prices – but only to the benefit of the minority and not the greater good.
And it is the subsequent political tensions which are then reverberating throughout asset allocation decisions.
While it is a "slow burner" issue that is here to stay, and which is creating a lot of issues to deal with, the trade tensions are the current area of focus for Poullaouec, particularly the repercussions that tariffs have on uncertainty, business confidence, and investing, as well as on policy and fiscal stimulus in the countries that matter the most.
Given the above dynamics, he says T. Rowe Price remain quite defensive in their positioning with a moderate underweight in equities relative to bonds and cash. This has served the manager well in the last two months after bond yields fell significantly.
However, within equities, Poullaouec says the manager has not been "too defensive," with an overweight to emerging markets relative to the US, while remaining neutral on the other markets.
"This is mostly driven by valuation and by where we see the cycle. We think that a lot of emerging markets have more room to be more accommodative, and the cycle is earlier than it is in the US ... for a cheaper price, you can access better growth in the next 12 months," he says.
"Of course this has been a bit more worrisome, given some of these political tensions being reverberated into the emerging markets. But we still own on this position because we still believe that there's room for emerging markets to appreciate further on relative basis."
Within fixed income, T. Rowe Price is also overweight high yield, as it believes the low-yield environment is pushing people into the so-called "TINA" (there is no alternative) assets. "And that's where we see the flows going, and we still see the risk trade-off as quite good, given that we don't see an imminent recession in the short term."
From a top-down macro viewpoint, it may seem the manager has an approach where its equity underweight makes it seem that it is quite defensive. But the way it constructs its equity and fixed income components, it may still have an overweight to the more aggressive parts of an asset class.
A compelling Japanese story
Within equities, there is one country that Poullaouec believes has many tailwinds and which the world has perhaps forgotten about. For T. Rowe Price, Japanese stocks have "a lot of great stories" attached to them, including corporate governance reform, a large number of start-ups, as well as a high number of buybacks and handsome dividends that are being paid to shareholders.
"Unfortunately the macro story is challenging, because it's just such an export-driven economy in that everything is related to trade activity, the yen, and so on. But if there is really a stabilisation in the macro picture, I think Japan could be one area we put more assets towards," Poullaouec says.
"Today it's neutral, but valuation is as cheap as it could get and it's really easy – it's the three-year story of the changing of corporate governance, which was really the weak standpoint of Japan, that we are very excited about."
Looking at the overall macro picture, Poullaouec argues that the world's two "big engines," in the form of China and the US, have proven to be quite resilient to what has been going on in the world. While they may be in slowdown mode, the question now is what the catalyst could be that would bring this slowdown to an alarming level.
"Today we are still seeing the probability of recession, as I said, being quite low. We are still in this mid to late cycle according to our models in the US. China is slowing but it's more a matter of 'they had to slow' anyway. So, it's not really due that much to the current economic cycle," he says.
"Of course this is forcing them to perhaps put forward more accommodative policies, but they have just announced this week that the yields will be lower, and that could help further the local economy."
Poullaouec finds it reassuring that a leading economic engine of the world is not, according to T. Rowe Price's model, slipping into an alarming situation.
He says this should, at the very least, keep the world afloat.
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