Dear client,
As vaccination efforts expand in many countries, including Spain, the expectation is that—barring any unexpected developments—herd immunity will be reached relatively soon.
This will catapult global economic growth in the second half of 2021, led by China, the US and the EU. The latter, after a weak Q1 2021, will rebound with renewed vigour, propelled by activity in the tourism-heavy southern countries and the progressive return to the workplace.
Of interest in Table 1 are the 2022 data, since the 2021 growth percentage reflects the rebound in the wake of the 2020 collapse, meaning, we can expect 18 months of intense economic growth.
And Markets?
A simplistic approach to this issue would assert that equities should continue their upward trend, but reality is not always so linear and markets are often a source of surprise because:
(1) Investors look to the future, not the past. The past can no longer be bought, though it has been spectacularly favourable since the lows of March 2020 and even since January 2021 (see Table 2).
(2) Three important factors intervene in economic performance and the results of equity investments:
- a) Stock picking: Not all companies perform the same and, consequently, economic growth and profitability issues may coexist for some businesses.
- b) Valuation: Price premiums have adverse effects; an excellent company bought at an inflated price is a bad investment.
- c) Technological disruption: At a time of historic acceleration in innovation, some business models may become obsolete.
CONFIDENCE IN OUR SELECTION
Despite certain doubts about the previous points, after some favourable results, the anxiety of many investors to find the right asset distribution is understandable as they attempt to leave behind the linear phase of the recovery in favour of a more complex one.
EDM’s stance is one of trust. The word sums up our position as we remember that, despite all questions and misgivings, the economy will be strong for reasonably foreseeable period of time. As such, we reiterate the following points:
(1) Executive sentiment
At our meetings with the executives of the companies in which we invest, they express an optimism we have not seen in some time. This data is worth more than any economic forecast.
(2) Investment quality
EDM does not invest in equities or indices. Rather, it invests its clients’ money in what we believe are excellent companies. The “what” is more important than the “when”.
(3) Prudence in valuations
For each company in which we invest, we build a very cautious valuation model, placing high demand on discount rates that should protect us from a potential rise in interest rates.
(4) Living with uncertainty
After 32 years of professional experience, we have witnessed every eventuality. There has always been uncertainty and we must accept it as a permanent feature of our pursuit.
Consequently, we continue to build long-term results driven by these principles that we share with our clients in an effort to preserve their wealth and beat inflation.
And bonds?
Since 1983, when the then-Fed chairman, Paul Volcker, took strides to curb runaway inflation, we have witnessed a 30-year period in which yields have not stopped falling (and prices rising).
This supercycle—the end of which has been predicted several times—may well end. While far from a certainty, we suspect that the long period of low inflation will change, though we do not know when or with what degree of intensity. The influx of liquidity and the boost in public spending to return to normality come at a cost: world public debt represented 120% of global GDP in late 2020. This figure’s only precedent is post-WWII 1945.
The fact that this indebtedness implies inflation risk from a certain point is likely the greatest risk to bond investors until yields adjust (through falling prices) upon recovery.
We are prepared and the portfolios are defensively positioned for this eventuality. The expectation may not come to fruition or it may do so with volatility: in fact, public debt prices fluctuated wildly in the last fortnight of June.
In any case, as illustrated in Table 2, the portfolios of our bond funds have posted positive results given their preference for private fixed income with attractive coupons in the current monetary climate. By contrast, public debt securities have shown losses over the course of the semester.
Summer 2021
This letter coincides with the start of the summer holiday season. We all need some rest and distance from the increasing volatility and unpredictability of the economy, markets, and politics. Our investment style, which hinges on fundamental analysis and the pursuit of strength and profitability, is intended and executed for those who—like our clients—are conservative investors.
To conclude, we thank you for your confidence and we hope you have an enjoyable summer. We look forward to seeing you at our usual Investment Seminar in the fall, which, barring any last minute changes, will be held in person.
Yours sincerely,
Eusebio Díaz-Morera
