The TEXPERS Blog

As global stocks diverge, 

valuation comes into sharp focus

Photo: pixabay.com

By Gregory Kolb & George Maglares, Guest Columnists

Despite the recent sell-off, U.S. equities have clearly separated from the rest of the global pack based on strong underlying economic fundamentals aided by stimulus from tax reform and assorted deregulation. From that place of relative strength, U.S. leadership is actively seeking concessions from trade partners, including both traditional allies (NAFTA, Europe) and strategic competitors (China). These measures, in and of themselves, are increasing tensions and uncertainty around the globe, and it would seem that equity markets are contemplating various adverse impacts. For example, several major markets in Europe – such as the UK and Germany – as well as Hong Kong are down meaningfully on a year-to-date basis, which is a stark contrast to performance in the U.S.

U.S. Outperformance

There are likely multiple explanations for this bifurcation in performance. First, investors may be anticipating that the U.S. is likelier to emerge victorious amid these various trade disputes given that its economy is larger, stronger and relatively less dependent on exports than partners. Second, underlying U.S. economic conditions are accelerating with improving GDP, low unemployment and contained inflation. 

Third, a variety of headwinds are challenging other major economies. The Brexit negotiations between the UK and the European Union appear increasingly disorganized and chaotic with each side entrenched in its own negotiating position before a firm March 2019 deadline. In Italy, the new government has proposed fiscal measures that are increasingly in conflict with EU and European Central Bank rules, threatening a potential debt crisis. 

Fourth, emerging market currencies continue to decline in countries such as Turkey, Argentina, Brazil and India. This currency depreciation increases the risks for those countries to meet debt obligations, attract capital and sustain growth. 

Lastly, China’s ability to sustain its own debt-fueled growth becomes more challenging in the face of massive U.S. tariffs.

Potential Downside Risks

And yet through all this elevated concern, stock market valuations in the U.S. remain near all-time highs, with multiples close to levels only previously eclipsed right before the dot-com bubble collapsed. As tensions escalate, it appears that the U.S. is serving as a “safe haven” for many investors and attracting further capital. 

Still, it is important to consider downside risks in such scenarios. Stimulus measures eventually run their course and have diminishing marginal impact. We also observe that a strengthening dollar invested in markets outside the U.S. generally buys significantly greater earnings than it would in the U.S.

Staying Focused on Valuation

Given the current environment, we encourage investors to explore areas that are out of favor and where negative sentiment weighs on the valuations of businesses with competitive strengths and financial resources to endure near-term challenges. 

Today, this often means focusing on opportunities outside of the U.S. where multiples appear more attractive. It might also include stocks that traditionally fall into the “value” bucket and tend to be cyclical in nature, including automotive, media, building products, materials and chemicals. We believe gradually shifting into these types of equities could mitigate downside risks. In our opinion, when market performance diverges, deploying capital into such areas could deliver stronger relative returns in periods of elevated market stress.

The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of Perkins Investment Management or its parent organization, Janus Capital Group, or TEXPERS. 

George Maglares

About the Authors:

George Maglares is a Portfolio Manager for Perkins Investment Management LLC and is responsible for co-managing the Perkins Global Value and International Value strategies, a position he has held since 2016. Since 2013, he has also been a research analyst covering non-U.S. securities with a focus on the industrials and consumer sectors. Prior to joining Perkins, Maglares was a senior analyst with RoundKeep Capital Advisors, an event-driven hedge fund. His experience also includes serving as an associate with Frontenac Co., a middle market private equity firm, and as an analyst with Lazard Frères & Co. LLC. Maglares received his bachelor's degree in ethics, politics and economics from Yale University. He holds an MBA with concentrations in finance, accounting and entrepreneurship from the University of Chicago, Booth School of Business, where he graduated with high honors. He has 14 years of financial industry experience.

Gregory Kolb

Gregory Kolb is chief investment officer for Perkins Investment Management LLC, a position he has held since 2015. He is also a portfolio manager of the Perkins Global Value and International Value strategies. Kolb transitioned to the Perkins investment team from Janus in 2010. He joined the Janus investment team as a research analyst in 2001, became co-portfolio manager of Perkins Global Value strategy in 2005, and was named sole portfolio manager in 2009. Mr. Kolb has served as co-portfolio manager of the Perkins International Value strategy since its inception in 2013. His previous work experience includes roles as an associate director in UBS Warburg’s Financial Institutions Investment Banking Group and as an analyst for Lehman Brothers’ global mergers and acquisitions group. Kolb received his bachelor's degree in business administration from Miami University, where he graduated magna cum laude. Kolb holds the Chartered Financial Analyst designation and has 19 years of financial industry experience.