Where to find the best value in equity markets, June 2022

Every Monday morning, asset manager T. Rowe Price circulates a document called the “Weekly Market Recap”. On the first page is a table of returns for all equity and bond markets. And boy was it depressing reading this week. Every single market has made a loss year to date – including the UK’s FTSE 100, which had valiantly been holding on to a positive return until just a few days ago.

With war in Ukraine, the UK economy contracting in the first three months of the year, US inflation not having peaked yet as hoped and the European Central Bank calling an emergency meeting as its own rising prices look to be spiralling out of control, there is very little for markets to be positive about.

In fact, the only thing I can think of today for long term investors is that markets are at least cheaper than they have been for a while. So, for anyone brave enough to add money to stock markets today, there is the possibility that they could be rewarded in the future.

Here, we take a whistle stop tour around some of the equity markets fund managers believe to be the best value today.

1. US small caps vs large caps

Threadneedle American Smaller Companies manager, Nick Janvier, says his asset class has massively underperformed the S&P 500 in the past five years due to the composition of the benchmark – fewer tech and communications companies. “The small cap benchmark is more of the ‘guts’ of the economy,” he said. “The further you get down the cap scale, the more domestic the revenues are. According to Nick, US small caps are now the cheapest they have been relative to large caps in a decade. 

Bob Kaynor, manager of Schroder US Mid Cap fund, agrees. “Whereas the S&P 500 has delivered the best returns in recent years, driven by a small number of companies, there is a strong case for diversifying US equity exposure more into small and mid-caps looking ahead,” he said. “They offer better earnings growth than large caps at some of the largest valuation discounts in history.”

Other fund options in this area: T. Rowe Price US Smaller Companies Equity and Artemis US Smaller Companies

2. Asia vs rest of world

“We have always preferred India long term, but short-term it has got relatively expensive, and we have been trimming our positions,” said James Yardley, investment advisor to the VT Chelsea Managed Funds. “China is looking very tempting on valuation grounds, but you have to accept a high degree of political risk. We like some of the ASEAN countries on a long-term view. So, you have to pick and choose within Asia.”

Abbas Barkhordar, assistant manager of Schroder Asian Alpha Plus, says Asian stocks aren’t cheap relative to their own history, but they are very cheap relative to their global peers. “Aggregate market values are back to below average, with post-pandemic froth having come out,” he said. What’s more, forward PEs for Asian stocks are as wide as they have been since 2011, and at a 30% discount to the rest of the world. “That’s understandable considering the concerns, but still quite extreme,” he said.

Other fund options in this area: JPM Asia Growth and Ninety One Asia Pacific Franchise

3. The UK

FP Octopus UK Micro Cap Growth manager, Dominic Weller, says the UK market is very cheap, and has been getting steadily cheaper for the past 22 years. “It’s now cheap historically and relative to peers,” he said. “The reason for this is earnings expectations. In the hyper-inflation of the 1970s, the FTSE was the best performing index globally. Smaller companies outperformed this further. Inflation is of course a concern (there was a 70% drawdown in the period) but there is history on the side of UK equities to say they can still perform. 

Other fund options in this area: Jupiter UK Smaller Companies and IFSL Marlborough Special Situations

4. Biotech

Biotech has been sold off aggressively in recent times. “It tends to swing between extreme sentiments of euphoria and despair,” said James Yardley. “It's currently closer to the latter but the long-term future is bright.”

AXA Framlington Biotech manager, Dr Peter Hughes, says there is more to the sector than just the mega caps that everyone has heard of. “It is a high growth sector, but with defensive commercial aspects and has long term fundamental support led by shifts in demographics and lifestyles,” he said. “The sector is the cheapest it has been in two decades.”

China is already the second largest market for the biotech sector and growing significantly. “Every time we have had a bear market, there has been a strong bullish recovery,” Peter said. “More companies are trading at less than the value of their cash pile than ever before. In some cases there are reasons for this, but there are also some quality companies trading too cheaply. Sentiment often over-shoots, and this feels like one of those times. 

Other fund options in this area: Polar Capital Healthcare Opportunities and Polar Capital Biotechnology. 

Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. The views expressed are those of the fund managers and do not constitute financial advice.

Published on 21/06/2022