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Earmarking Equities in an Uncertain Era

February 22, 2021 4 min 45 sec
Peter Hardy
American Century Investments
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Peter Hardy, senior client portfolio manager, global value equities, American Century Investments.

We don’t maintain a broad view towards equities. We invest in quality companies while they’re trading at attractive valuations and provide stable incomes. We believe the outlook for our approach is good based on these ingredients. And we can discuss each.

First, we’ve already discussed the disparity between growth and value being historically wide, and that’s a potential tailwind for value stocks. The example I use sometimes is Tesla. Basically, because Tesla has performed so well and has had so much momentum embedded in it, the stock has increased to a level where you could either own the company Tesla or you could basically own every other car manufacturer in the world. Tesla has done well, but the EV market will be more competitive. The value dynamic at play would be the other names besides Tesla, and Tesla would be your textbook growth stock.

Second, dividends are an ingredient in our approach that favour our strategy from an outlook perspective. The environment for asset returns is more muted. Low levels of interest rates create a low starting point for asset returns. With central banks holding interest rates low, the starting point for expected returns is basically zero. And so in periods of time where we’ve had low returns, dividends have constituted a greater portion of returns. Over time, dividends have been about 40% of the total return of the markets, but in trending up markets like the ’90s or 2010s, you’ve seen dividends constitute only 16 or 17% of total returns. In decades of lower return, like the ’70s where the S&P was up only 6%, dividends constituted 73% of total returns. And in the 2000s, the S&P had a negative return and dividends gave you a positive 1.8% return.

And then the last aspect of what we do relative to the market is we craft a high-quality, lower volatility profile. Market volatility is expected to continue. You’ve seen an increase in volatility in 2020 versus previous years. And global debt levels have risen to historic highs. Our approach is operated with about two-thirds of the market risk over time. Keep in mind we outperform with two-thirds of the market risk. And we would anticipate this volatility mitigation to be important on a forward-looking basis.

Two of the largest names in the portfolio, as examples, would be Medtronic and J&J. They’re two of the highest quality names in our universe, generating very high financial returns and doing so in a stable fashion. Part of the issue with Covid is that certain medical procedures were discontinued, putting pressure on health-care companies’ earnings. Despite these companies having some of the highest forward-looking earnings and very stable earnings, they have underperformed in the year due to concerns. They’ve also been able to increase their dividends in spite of all the economic weakness and market volatility. And given their attractive valuation and high degree of quality, they constitute two of the largest names in our portfolio.

While we don’t maintain a specific outlook on U.S. equities versus non-U.S. equities, what I can say is that in many situations, the fundamentals for U.S. stocks are superior than their non-U.S. counterparts, but the valuations for non-U.S. companies are greater. We have had exposure in certain sectors like pharmaceuticals, where we own non-U.S. names, but it is very situational-specific as opposed to a thesis on U.S. versus non-U.S.