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Welcome to Advisor ToGo, brought to you by CIBC Asset Management, a podcast bringing advisors the latest financial insights and developments from our subject matter experts themselves.
Amber Sinha. I’m with CIBC Asset Management, part of the global equity team.
There seems to be momentum building up in the soft-landing camp. So there are a lot of experts, commentators, they have been coming out and seem to be more confident of a soft landing or less worried about a hard landing, whichever way you want to call it.
If that were the case, I have no doubt the impact on the equity markets would be positive. Because despite the fact that we’ve had a strong 2023, there are several questions around what is to come later in the year, et cetera. So if we have more visibility and we just have a soft landing, I think the recession fears will go away, and that’ll definitely be helpful for the markets. What would also happen is inflation would be a lot lower, or at least within the ranges where the central banks want them. That’s a soft landing where inflation goes back to being well-behaved.
If that is the case, then what does that mean? That means the central banks will have an opportunity to loosen some. We could see interest rates go back down.
And that, again, would be a positive for the stock market for a couple of reasons. One is the headwind that the consumers have from higher interest rates will… They’ll see some relief there. And then secondly, lower interest rates are generally positive for equity market valuations as well. This is just an asset allocation thing. So bonds cease to be that attractive. It just puts more of an undervaluation. So interest rates, if they were to be walked down, they would have a positive effect in terms of going away with the headwind that consumers face, and also positive for the stock market valuation. So again, I think we would be surprised if we were to get a soft landing without a fairly positive impact on the market.
Now that being said, I will say that we are not 100% convinced like the other experts that have been talking about it, and there’s some reasons for that. I’ll say, when we’ve had high or troublesome inflation in the past, the solution has always been to create a recession. It’s a recession that was required to bring inflation down when it was getting to very high levels. And right now, what we’ve seen in the last two, three years is 40-year high inflation. So to expect that to come back to the range where the central banks wanted without a recession, it’s certainly not been achieved in the past, so I don’t think we are that convinced.
And I would also add to it that the leverage in the system, consumer leverage, corporate leverage, sovereign leverage, so the leverage at the government level is a lot higher now than in the 80s and 90s when we’ve had bouts of high inflation. So I think it’ll be a difficult one to pull off. But yeah, if they were to pull it off, I think certainly should be a positive impact for the stock market.
How does a soft-landing affect growth versus value?
The growth stock should benefit from lower interest rates. So lower interest rates weigh on valuations, and especially on valuations for growth stocks. The more value names, I would say, initially should do well also, because again, value stocks tend to be more cyclical, tend to be more cyclical in general. And then if you are talking about a soft landing, then, again, there is no recession. There is just a soft landing. So the recession fears that are priced into more cyclical stocks could actually lead to a period of good performance from value also.
We’ve been fairly negative on Europe. Again, in our business, we have to focus on the fundamentals and not get distracted by noise. And the fundamentals make it pretty clear that it’s a tough economic situation in Europe. Despite that the market has been fairly strong, especially since September of 2022, we have had almost a 50% rise in the European stock market, so world leading performance.
You don’t hear it all the time from Europe, but here you go. In the last one year, it’s done very well. So rather than taking that as a positive, that adds to the list of concerns we have on Europe. So despite the fundamentals being shaky, now you have valuations also, which are quite stretched because of the recent strength in the stock market. So what are these issues? I would say economically on any given day, Europe tends to be more vulnerable than North America. That’s just the structure of the economy, level of profitability, GDP growth, et cetera.
So at any point in time, the setup in Europe from an economic point of view tends to be a little bit weaker than the U.S. You also have Germany, which is officially in recession, and the Germany economy is the European economy. Not literally, but it has a very big impact. So if Germany is not able to get out of the recession, it will pull the entire European system down with it. Europe tends to be a lot more vulnerable with respect to energy costs compared to what we have over here. So if you recall last year during the initial breakout of the conflict in Ukraine, the utility prices, gas prices, electricity prices in Europe went up twofold, threefold, fivefold. It was all over the news.
Europe certainly is a lot more vulnerable that way, and the weather was nice last year in terms of a milder winter. But if we do have uncertainties with regards to what this winter is going to be like, I think energy prices just put Europe in a very precarious position. So the rate shock for European consumers is going to be even higher than what it’s for us here. So starting off from a economically precarious position and having to deal with one of the highest rate shocks in the world, again, can lead to any positive outcomes.
And then last but not least, wisdom from the last thousands of years is peace and prosperity go together, and there is no peace there. The conflict continues to drag on. And again, with these conflicts, there’s always the potential for further uncertainties, further headwinds to the economy. And again, Europe, given its geography, is a lot closer to these issues.
Asia stands out as the one we would be willing to back more than in the past. We look at Asia as three kind of separate buckets. One, and the biggest one, is Japan, which is the biggest part. It’s almost a third of the Asian stock market by capitalization. Japan has a big impact on Asia-Pacific performance. And while we’re not overly bullish on Japan, it is probably the only country in the world that has actually wanted higher inflation. And the central bank in Japan has tried a lot to engineer higher inflation over the last 30 years, and they have almost failed. And here we are, we now have inflation because of reasons that are external to Japan’s control. So the Japanese economy with higher inflation can actually come out of this 30 year deflationary funk that they’ve been in.
The other bucket is China. Again, can’t ignore it because of its size. It gets bigger every year. For our global mandates, we do not invest aggressively in China. It tends to be outside our mandates. But again, China does feature some really solid national champions, and those are the ones that we try and learn about, get comfortable with, pick some positions there.
And then the other bucket I would say is Korea, Aussie, Singapore, Taiwan. These are the economies that have more likeness to the west, which means more mature, slower growth, so nothing to get overly excited about. And then the rest of Asia is just fundamentally strong growing middle class type of economies, India obviously being the big one there. But Indonesia, Philippines, Malaysia, Thailand, there’s lots of potential there in terms of people making more money and doing things that they can do now that they couldn’t do in years past.
So like North America also, it’s been strong performance in North America also, but it’s largely come out of a very few stocks or few sectors, technology being the big, big one this year.
There are stocks outside of technology that have lagged, that have really not done well. And these are strong companies, high quality, dominant companies. But today everybody cares about technology and AI. So companies like Nike, for example, has had a very rough go. I was just looking at it this morning, September 8th, 2023. The stock is back below $100 for a company that is the world leader in sports apparel, highly engaged company, sustainable competitive advantage. It’s just the definition of a quality company. And we struggled with the higher valuations in the past, but these stocks are available for fairly reasonable prices nowadays because everyone cares about technology.
So I think outside of technology, North America does have opportunities with regards to some solid blue chip companies that people are just [inaudible 00:08:44] right now.