2021’s tailwinds now becoming headwinds

It is much more important for investors to look beyond inflation and central bank behaviour as there are more longer-term thematics at play, such as slowing GDP growth and earnings, according to T. Rowe Price.

Randal Jenneke, head of Australian equities and portfolio manager, spoke about possible impacts to Australian equities in 2022 at the ‘Back to Business 2022’ T. Rowe Price webinar.

He said a lot of the tailwinds seen in 2021 would begin to become headwinds and the key question for investors was how to position for that.

“If you look at where valuations finished in 2021 in the US global markets and in the Australian market, we were north of the 90 percentile,” he said.

“So the key thing to note here is that yes, we have very strong equity market performance with exception to China, but valuation coming into 2022 are quite elevated.”

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He said fiscal stimulus was turning into a headwind as central banks started to change tact and end bond buying.

While inflation was the issue of the day, driven by supply chain issues and increased demand, according to Jenneke, the real concern was slowing earnings and GDP growth over this year.

“What the real story there is demand has been juiced… and it’s been exaggerated,” Jenneke said.

“It’s highly likely that one of the ways that we are going to bring inflation back under control is that demand has to slow, it’s not just dealing with the supply chain issues by themselves.”

Jenneke said one of the key factors for investors to look into was the multiple of the Australian market.

“The [profit to earnings] for the Australian market now is roughly one standard deviation higher than its longer-term average,” he said.

“Valuations clearly have very little room to disappoint.

“And I think what you are going to find during reporting season which we have now entered is that companies that disappoint on their numbers are probably going to be treated quite harshly.

“Secondly, we think that earnings are going to decelerate to more normal levels and I think normalisation is going to be one of the key topics and things that we'll be talking about over the course of this year.

“So the real question is how much are they going to decelerate and slow?

“I would say this year, you're probably looking at single-digit type earnings growth or big deceleration.

“Thirdly stimulus isn’t going to fill the void. In fact, it's going to be a real headwind to growth as all of the stimulus starts to roll off.”

He said defensives typically do well in the slowdown phase of a downturn phase.

“We’ve been positioning this way for the best part of the last six months within our portfolios. That’s been through increasing our weight to healthcare, increasing our weight to utilities and increasing our weight to staples and taking profit on more cyclical parts of the portfolio which performed very well in 2022,” he said.

Jenneke’s stock pick in rising interest rate conditions was the Australian stock transfer business, Computershare.

“Essentially the reason for that is Computershare owns a lot of businesses by which it collects cash before it pays it out to investors and that means it's able to invest that cash in money markets.

“But the problem becomes when interest rates are cut to zero, the income that they generate on those money market investments are basically zero.

“But when rates start to rise, it means that they can actually start to generate some interest income on that pool of assets and we think that the business is very well positioned to benefit for rise in rates, particularly in the US where most of the company is based.

He said the company was poised to benefit from its acquisition of its Wells Fargo corporate trust business which would see benefits come into 2023.

“And from a valuation perspective, we believe that the share price at these levels looks great,” he said.