Describing the last four decades in markets as an “anomaly,” Robert Almeida of MFS Investment Management cautioned investors that they might be “missing the bigger picture” when it comes to identifying opportunities in today’s environment.
Focusing on the decade following the Global Financial Crisis, Almeida argued that a number of factors, including globalisation and a low-interest rate environment, helped drive an “epic amount of growth” for owners of capital.
But looking down the barrel of 2024, he urged investors to rely not just on information, but on the wisdom of previous environments.
“Here we are in 2024 and we’re centred around how many rate cuts are going to happen in the back half of 2024, hard landing, soft landing, no landing, recession, stagflation, disinflation, whatever. I’m not completely dismissing the importance of it, but what I’m trying to offer is the paradigm has shifted,” Almeida said at the Morningstar Investment Conference 2024 in Sydney.
“We’re more informed, but we lack wisdom. The wisdom is: what will P&Ls, income streams, profitability look like over the next 3, 5, 10 years because we’re not going back to an era of zero interest rates. We’re not going back to an era of uber cheap labour.”
Moreover, he added that there was little economic growth observed in the 2010s because “we didn’t build anything”.
“Banks stopped lending money, consumers stopped borrowing, households delevered, and given how soft end demand was, companies stopped investing. Globalisation or the China effect allowed for Western-based companies, including here in Australia, to become asset-light businesses,” Almeida said.
In the 2024 environment, which is witnessing high inflation, high interest rates, and heightened geopolitical tensions, along with shifting supply chains and the emergence of artificial intelligence, he believes the winners of this new regime will have to think differently.
“From an overarching level, I’d argue the risks today is that we’re more informed and we’re focused on the most recent downward point, but we’re missing the bigger picture, which is every company has to absorb fixed costs. We’re entering a new regime where costs have normalised, not going back to where they were, and I think what you’re going to see, across sectors and industries, is businesses that can a) manage it, navigate through it successfully, those will be the new scarce opportunistic assets and b) companies that can’t,” he said.
“In this different regime, those enterprises die and stocks and bonds tethered to those companies go to zero, or they go down a lot more than the others.”
This trend highlights the importance of going back to company fundamentals, he said. This means unpacking a company’s core activities, how it manages operations, its cost of debt, its cost of equity, and what it could be worth over the next decade.
“We shift back to a more alpha-driven environment through security selection,” Almeida said.
“The last 40 years was an anomaly. You had above-average returns in equities and bonds, with a negatively correlated backdrop, all due to an artificially suppressed interest rate regime where it was survival of the least fit. The diversifier today will be your capability or ability of avoiding landmines and having a diverse set of income streams that are going to be positively correlated, but positively correlated within degrees.
“That’s where I think diversity will come from – less from growth versus value, more from what does a company do, how do they do it, and what’s the durability or sustainability of cash flow? If they have it, that’ll be a good asset.”
Looking back at the history of markets, Almeida also opined that investors are “not thinking enough about the capital cycle.”
“The pattern that has emerged with time, which we don’t talk about enough as an industry, is the capital cycle. When you think of the capital cycle, you get a new technology where there’s a surge in demand and there’s not enough supply. Returns skyrocket, financial assets tethered to that skyrocket with it,” he explained.
“What always happens, because we’re in a capitalist world is, there’s a new technology, and investors who want to invest in it, an investment banker willing to finance it, so ultimately, supply meets demand, the industry then becomes oversupplied, returns collapse.”
Almeida observed: “We need to get back to: What industries are inviting capital? Are they going to have more competition and lower returns? Those won’t be very good assets.”
