History doesn't repeat, but it rhymes

-- | 01/10/2019

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Glenn Freeman: In this edition of "How we Invest your Money?" I'm speaking with Paul Taylor who heads up Fidelity's Australian Equities Fund.

Paul, thanks for your time today.

Paul Taylor: Welcome.

Freeman: So, you've been with Fidelity now for 22 years and heading up the Australian Equities Fund for 16 years.

Taylor: That's correct. Yeah.

Freeman: Are there any correlations between now and what you might have seen in the past? And then, how are markets responding?

Taylor: It's a really interesting point. I always think – Mark Twain has got a great quote, which is, "history never repeats itself, but it rhymes." And I think that's a good way to look at it. It is an interesting time because we are at very low interest rates. Interest rates have been on go on – they are on very long cycles. So, 1946 to 1981 interest rates went up; 1981 to 2016, they went down. Central banks tried to then try to normalise interest rates couldn't have brought them down again. Now, this is a bit of an unusual time, in that people are looking at it and thinking, well, normally there's such a low rate that would be temporary, they'd be looking for a cyclical rebound. But I think now people are starting to think, well, actually, we are caught in this environment and growth and rates are going to stay low for a little while. You know, what, maybe a prolonged period.

And I think the interesting thing in the market at the moment is, we've got this tug of war between a couple of different factors. We've got this tug of war in that no earnings growth, very low economic growth, very low earnings growth, which obviously dampens valuations and stock prices, but we've got very low interest rates, low inflation, low cost of capital, which really boosts valuations and it's the low cost of capital that's winning at the moment. So, that's actually winning the tug of war while we're seeing the market actually go up quite strongly in what feels like a really negative environment. So, yes, you need to keep it in historical context, but it is actually a bit of an unusual time.

Freeman: And looking at sort of in the shorter term, just recently we've seen the earnings season for fiscal 2019. What's your overall assessment of that?

Taylor: So, look, the earning season – it's probably a few more disappointments than positives. And that goes with this sort of my guess more subdued environment. As I said, sort of the economic growth is very subdued, down around that 2 per cent or even lower. Earnings growth are following at much lower rate. So, we're getting very low sort of zero to low-single-digit earnings growth. Resources have been doing a little bit better. So, resources have been the brightest spot, although going forwards a different question. But pretty much most of the other sectors are very low single digit growth. We've got a few bright spots in terms of technology and healthcare, which have been, I guess, a couple of sort of standout sectors. But net-net, subdued, growth and maybe a little bit dour is probably the best way to think about the reporting season.

Freeman: So, following on from that, I mean, everyone watches these earnings periods for cues on the market. But what are some of the other things that you factor in at Fidelity in how you construct your portfolio? And can you talk us through sort of the size of the team and just how you actually go about as a global business and putting together your Australian Equities portfolio?

Taylor: Yeah, definitely. So, Fidelity is a bottom-up stock selection firm which means we go out and talk to the companies, talk to the management team, we go and see their businesses, we kick the tires, we talk to not only the company but their competitors, suppliers, distributors, customers to really get a 360-degree view of that company, which to me is a really strong process that tries to eliminate the noise from the market, and really capture turning points in the market and also really look at sort of the long term prospects for that company from a bottom-up perspective. Now, we're doing that for all the companies in Australia but we're also doing it, as I said, those companies, competitive, suppliers, and distributors, and often those companies might be overseas. So, actually, having the global Fidelity network is a big part of – joining that with a really strong and large Australian team makes it is a very powerful combination. Even very domestic companies like Woolworths and Coles their key competitors are companies Aldi, which is German and Costco, which is American. So, understanding their strategies in Australia is an important part of, once again, trying to value Woolworths and Coles and trying to model those companies as well.

Freeman: At the moment, we've seen record levels of investor money going into passive funds. Do you think in the current market downturn will we see the importance of active managers coming to the fore once again?

Taylor: Look, I certainly hope so. And you're right, the trend has been towards the passive funds. But I guess the bottom line is the passive strategy is a free rider strategy. And it's really reliant on active money managers making active equity decisions. And I guess the other way I look at it is investing in a passive fund, you're fundamentally accepting – you have to by definition underperform because you're going to get the market minus whatever the fees are of the passive manager. So, you're sort of guaranteeing underperformance. And I guess my view is that through time active managers, good active managers will deliver returns above the market including fees. So, it doesn't always out over three months, six months or 12 months, but over the long term, I think, it does out. And as you said, when you do get turning points, you get difference in markets, when you actually need someone making an active decision and looking at the situation, studying that situation, that's really when the good active managers will earn their money, and I think it will be.

This report appeared on www.morningstar.com.au 2022 Morningstar Australasia Pty Limited

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