How to invest in a multi-speed world
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Charles Lahr, Masha Gordon and Brad Kinkelaar are portfolio managers with PIMCO. In the following interview, they discuss the long-term outlook for equity markets and how to navigate the risks and opportunities ahead.
PIMCO sees global growth moderating in the years ahead. Are companies properly positioned for slower growth in both developed and emerging markets?
Gordon: Looking first at emerging markets (EM), which have been strong contributors to global growth, we expect economic expansion to moderate over the next three to five years, although still outpace the trajectory in the developed world. This is likely to happen with a backdrop of labor gaining versus capital, resulting in upward pressure on labor costs.
The key question coming out of that view is whether companies in a number of cyclically sensitive industries will recognise and treat this shift as a secular one in nature. If we are right about this, a number of companies in parts of EM will temporarily face lower capacity utilisation. During this transition, the firms will have to adjust to this new environment in EM of negative operating leverage and higher labor costs.
Lahr: Still, company balance sheets in developed markets are generally in good health and many are well-positioned to generate growth, even in difficult times. One area that is persistently showing growth both in good times and bad is the technology sector. That is a consequence of a number of factors, including the super-secular trend of just how embedded technology has become in the lives of people everywhere.
We believe the persistence of technology earnings growth is not properly reflected in current valuations, and that is an area where it is fair to say there are still a lot of ideas to be mined and unearthed to the benefit of investors.
Europe is the biggest macro and perhaps bottom-up issue facing investors. What does the situation in the eurozone mean for equity markets over the secular horizon?
Lahr: This is a topic that we discuss frequently in the firm's investment committee - not just the potential outcomes on fixed income or equities, but also on economies, the global banking system and all markets. Our base case is that the eurozone faces an extended period of subdued growth with periods where it tips into recession. In many ways, the outlook is similar to the lost decade of Japan in the '90s.
There is a bull case here. And that would be the introduction of a broader eurozone bond issuance and tighter integration of fiscal policy along with structural reforms to heal the economy. Of course there is a bear case, and that is the disorderly breakdown of the eurozone. Both scenarios assure investors one thing: volatility.
Navigating volatility is critical, particularly in an asset class like equities where it can soar and do considerable damage to short or long-term returns. Investors need to be focused on both mitigating downside exposure and on idiosyncratic opportunities that may expose an investor to upside above and beyond what the base case and the broad markets within Europe might be offering.