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Vulnerable markets create uncertainty for investors

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MEDIA RELEASE: Global markets continue to look vulnerable and investors should remain selective in the current environment, says Laura Bottega, managing director and portfolio specialist for Morgan Stanley Investment Management’s International Equity Team.

“2021 was a solid and unusual year for developed markets, with strength in both growth and value sectors. We continue to be cautious in our outlook. However, choosing companies with a long track record of pricing power is a good way to weather the uncertainty of any potential storms ahead,” says Ms Bottega.

“Low interest rates have helped propel markets in recent years, but cannot be relied on to drive returns going forward, given the current levels of government deficits around the world and growing inflationary pressures.

“Even with the recent market volatility, valuations remain at unprecedented levels – on some multiples at 70 per cent above the long-term average.  The MSCI World Index is trading at high teens multiples of next year’s earnings, even after a 54 per cent forward earning surge.

“Likewise, forecast EBIT margins are at 20 year highs, but may be underestimating impacts to economic growth and company profits.

Portfolio manager Alex Gabriele says in addition to these headwinds, companies are likely to face structural cost pressures over the medium term.

“Companies may need to pay more for the negative externalities of their actions, such as carbon creation, plastics or water use, or even the societal impact of their operations.

“Pricing power is likely to be a significant asset in a rising cost environment.  Recurring revenue will also be crucial as economic cycles are likely to be shorter as we move into a more inflationary world.

“In light of these various concerns, the case for quality is strong for investors in the current environment.”

Mr Gabriele says sectors MSIM’s International Equity team is particularly focused on include software and IT services, healthcare, particularly medical technologies and consumer staples.

“These sectors tend to have the most resilient earnings during a downturn and are well-positioned for the uncertainty ahead.

“Few companies can consistently compound shareholder wealth at attractive rates of return over the long term, but within these sectors we can identify companies with strong pricing power, robust profits at low capital intensity, strong free cashflow, and strong governance and sustainability support.

“As we move into unknown territory with increased supply chain dislocation and disruption, exposure to quality companies with large intangible asset bases should help give some stability to portfolios,” he says.

 

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