Lazard’s bet on the big four banks’ rebound helped propel it to the top of the charts for 2021-22 returns, but portfolio manager Aaron Binsted warns the sector could struggle under the weight of rising interest rates, preferring the outlook for insurers.
He also professed an aversion to battered technology stocks, arguing there is no such thing as a cheap business if it is fundamentally “worth zero”.
Mr Binsted said the banking sector’s leverage to the housing market in a rising rate environment creates a key investment risk, offsetting the immediate benefits to net interest margins from loan repricing.
“Generally, if Australian house prices are falling, the banks’ share prices don’t do well, irrespective of if there are any economic problems or not,” he said.
“And then if we do see poor economic conditions, the banks really suffer. It’s not necessarily a forecast it will happen, but it’s a risk, and why take that risk when we can take a similar upside from insurers on rising interest rates without that potential negative?”
On the flip side, Mr Binsted says insurers have three big things going for them: good valuations, premium increases, and positive leverage to higher interest rates.
Australia’s big four bounced in March and April as investors bet that higher interest rates would support higher profits. Lazard took this as a selling opportunity, shifting to an underweight position after buying heavily into the sector in May 2020. Since then, the second-order effects of weaker house prices sparked a sell-off in June.
Predictions for a downturn in Australia’s red-hot property market sit around 15 per cent to 20 per cent by the end of next year in response to the rising official cash rate.
Other drivers of Lazard’s outperformance were bets on cash-generative businesses like Coles, QBE, Metcash, Woodside and Computershare.
Mr Binsted continues to tip outperformance for the energy sector, driven by constrained supply. Woodside is his top pick across all sectors representing a bet on the commodity price as Europe weans itself off Russian gas.
“When the energy sector runs, it has historically gone for a decade, and we are perhaps one year into that,” he said.
“On a five-year view, energy looks great. Even if you have a big global downturn, we think that energy will feel it, but it will be a short impact. There’s not enough energy in the world and as soon as the world recovers, it’s going to hit back into those supply constraints and prices will come up again really quickly.”
Mr Binsted is also leaning toward more defensive domestic names such as Coles, Metcash, Collins Foods and Bapcor amid the deteriorating economic outlook, and insurers QBE, IAG, and Suncorp. He is avoiding the technology sector, warning the downturn has only just begun.
“The bubble in high multiple stocks is perhaps only one-third of the way through its deflation,” he said.
“Some of those businesses that had huge market caps were just absolutely low quality,” he added. “When something’s worth zero, it doesn’t matter what it’s trading at, it’s still uninteresting.”
Morningstar’s list of top long-only managed funds for financial 2022 is also populated with infrastructure managers. Clearbridge RARE Infrastructure Income fund returned 19.35 per cent, while the ATLAS Infrastructure Australian Feeder returned 16.2 per cent and the Maple-Brown Abbott Global Listed Infrastructure fund 14 per cent.
The sector benefited from built-in inflation protection due to the nature of its concession contracts as well as strong M&A activity.
Clearbridge’s Charles Hamieh is targeting North American and European utilities as inflation balloons, believing these businesses will ultimately pass through higher costs to consumers. The fund has also used weakness in renewable energy assets to increase exposure to the sector and companies like US-based NextEra Energy Partners and Clearway Energy.
Mr Hamieh says the removal of infrastructure names from the ASX has created a headache for Australian-equity-focused investors. He expects this will also drive a shift to offshore infrastructure assets in the search for growing income streams.
“I’d be very surprised if the ruler hasn’t been run over every [ASX infrastructure] name, but the ones left have their own challenges,” he said.
On the opposite side of the ledger, 2020 top performer Hyperion Australian Growth Companies reported a loss of 26.8 per cent as overweight exposures to technology and healthcare weighed on long-term outperformance. It was joined by a pair of BlackRock funds, TAIM ASX 200 Leveraged Momentum, and Bennelong Concentrated Australian Equities, according to Morningstar, whose figures are calculated after ongoing fees and charges.
GQG shuns tech
Lazard’s table-topping performance continued into the global equity category. Rajiv Jain’s GQG Partners Global delivered 6.4 per cent versus the MSCI World Index’s negative 6.5 per cent, thanks to a shift away from US tech megacaps to materials and the then out-of-favour energy sector, demonstrating a style-agnostic approach.
The strategy entered 2022 with a 6.2 per cent weighting in Russia, which could have derailed returns had Mr Jain not sold most of it in the weeks before Russia’s invasion of Ukraine, according to Morningstar associate director of manager research Michael Malseed.
GQG Partners’ Australian head, Laird Abernethy, said the manager formed a view in early 2021 that “inflation was going to be more than transitory”, and as such, that “high multiple names in tech carried a higher risk of multiple compression”.
Its portfolio managers believe stocks in the materials and energy sector could be the “quality compounder for the next decade”. At the end of May, GQG held around 31 per cent in energy versus the index at around 5 per cent.
GQG’s long-term outperformance has attracted inflows as its global equities rival Magellan reports a decline in assets under management. The Florida-based firm benefited from $2.8 billion of client inflows over the June quarter.
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