The year 2020 marks the start of a new decade. It is also shaping up to be an interesting year for markets, with several new investment themes and trends emerging. In this post we outline some of the important themes and narratives that global investors are watching in 2020.
- Why investment themes matter
- 10 Investment themes for 2020
- Portfolio positioning for the next decade
Why investment themes matter
People often use themes, narratives and stories to organize ideas and make sense of the world. This applies particularly to marketing, politics and financial markets. The media often reinforces these themes and narratives. Investors tend to look for confirmation from the financial media and from the behavior of the crowd. Market narratives are further reinforced when they are the basis for investing decisions.
It is these narratives and themes that create market trends. For this reason, it’s important to understand the investment themes that other investors are watching. This does not mean you should chase every new theme. But it can aid tactical asset allocation for the short to medium term. They can also be used to guide the timing for longer term investment strategies.
You will still need to differentiate between your investing vs. speculating. A good investment should have a long-time horizon – so a stock does not qualify as an investment just because it fits into a topical theme. Speculative opportunities may occur when price trends line up with these themes. Many of the topical themes are covered by exchange traded funds. However, there are situations where ETF investing will not suffice, and you will need to consider individual investments.
10 Investment themes for 2020
- Increasing volatility in the second half
- Emerging markets
- Coronavirus contagion
- ESG investing
- AI implementation
- Roll out of 5G networks
- Digital advertising
Many of the investment themes that have dominated over the last decade appear to have run their course. However, the way those themes end, and exactly what will replace them remains uncertain. Specifically, the growth vs. value investing debate is in play after a decade of outperformance from growth stocks.
There are lots of other reasons for uncertainty too:
- The US-China trade war has already created uncertainty for markets over the last few years. If or when it will be resolved remains to be seen.
- Trade tensions between the US and Europe began to escalate last year. Whether this issue will be resolved or further escalated is still unclear.
- There are very mixed views on how robust global growth is, and there are question marks over China’s domestic economy.
- The US Presidential election will result in one of two very different outcomes.
- Finally, the 2019-nCoV (COVID-19) coronavirus outbreak in Asia already has financial markets rattled.
All these factors will make it very difficult to invest with certainty. For this reason, safe haven assets like gold and US treasuries are already outperforming.
Increasing volatility in the second half
Equity market volatility is likely to increase during the second half of the year in the run up to the US election. The outcome of the election is unlikely to be clear any time before November. But the possible outcomes could have very different consequences for the US stock market.
Several economists are already predicting a stock market crash or bear market if Donald Trump is defeated, and especially if a progressive Democrat candidate is elected. Besides US domestic issues, the outcome of the election could also have major consequences for geopolitical risks.
One of the most popular investing myths is the “sell in May” refrain – however 2020 may be the year it holds true. However, getting the market timing right to re-enter the market will not be easy.
European equities have trailed US stocks since 2014 but may now offer better value. Investors will be looking for opportunities in Europe now that the UK’s exit from Europe is nearly over.
The details of the Brexit deal are still being finalized. Once those details become clear, investors will have more certainty. Markets do not like uncertainty and Brexit has plagued European markets for the last few years. Adding to this uncertainty is the potential for a US Europe trade war.
This will apply to UK focused companies as well as those in Europe. Low bond yields may also force capital into growth stocks which would boost the European economy as well as equity markets.
The search for yield has been one of the major investment themes since the global economic crisis in 2008. Quantitative easing led to the lowest bond yields ever, causing investors to shift capital to equities. The low cost of capital has also supported the global economy.
This trend began to slow over the last few years, but yields fell again in 2019. Global bond yields are once again at historically low levels. The interest rate on US 10-year bonds has fallen from 3.2 to 1.5% over the last year, offering very little potential for further gains for bond holders. Investors will be forced to look beyond fixed income markets for meaningful yields, which may provide an underpinning for equities. However, the average stock valuation is quite high, and investors will need to be more selective going forward.
Emerging markets were hit hard during 2018, and only recovered some ground during 2019. This means they have lagged the S&P 500 index which recorded new highs throughout 2019.
Investors will be looking for signs that emerging markets may catch up with developed markets. This is unlikely to happen until the coronavirus is contained and the US-China trade war is resolved. If a Democrat wins the US presidential election a more friendly trading regime may help emerging markets. Some analysts are expecting a turnaround in Japan, which would also boost emerging market stocks and commodity prices.
The coronavirus outbreak in Asia and elsewhere has already had a considerable effect on the global economy. The IMF has downgraded its forecast for global growth in 2020 and several large companies have warned it is impacting their operations. Events around the world are being cancelled and supply chains are constrained.
One of the characteristics of a black swan event is that they are unpredictable. Of all the possible causes of the next bear market, very few predicted it would be a pandemic. Yet if the outbreak is not contained, it may indeed cause the next crash. If the virus spreads, certain sectors will suffer more, while others may benefit.
The first companies to come under pressure will be retail, luxury goods, and travel companies. If the virus is not contained all sectors will be affected. But there are a few types of industries that may benefit. Companies that enable remote working like Upwork and Zoom Video are one. Ecommerce retailers like Amazon may benefit if their supply chains are not affected too much. Payments companies like Visa and Mastercard should perform better than others if more transactions take place online.
The field of ESG investing was one of the investment themes that gathered significant momentum in 2019. The importance of environmental, social and governance issues on a company’s long-term value is now widely accepted. As such, ESG factors are now being used alongside other elements of factor investing like growth and value. Over the next year or two a noticeable gap may develop between companies with high and low ESG scores.
Massive investments have already been made in artificial intelligence research and development over the last decade. These investments will take some time to generate returns. However, over the next few years several areas of the economy will see AI being implemented in noticeable ways.
The first area of AI implementation gathering momentum is customer support and chatbots. While these software programs have caused frustration in the past, they are now becoming “smarter” and are adding real value for companies. Banks, insurance companies, robo advisors and other large institutions are now investing heavily in AI powered chatbots. This is significant as several smaller listed companies are operating in this space.
The second area of AI implementation is in the fund management industry. Quantitative investing funds that use artificial intelligence in their fund management process are beginning to produce results and the industry is taking notice. Catana Capital’s Data Intelligence Fund is a good example of the way AI can be used to exploit big data and market sentiment in real time to generate trade signals.
Hedge funds that use technology like this can react quickly and generate uncorrelated returns by opening long positions and short selling. This makes them an effective tool for portfolio hedging. These types of funds are already seeing growing interest. If market volatility increases, we can expect even more interest in the space.
Roll out of 5G networks
As with the last decade, stock picking strategies will be focused on the tech sector. In 2019 software stocks were the standout performers but they are now trading on high multiples. One of the next tech themes will be the companies that stand to benefit from 5th generation cellular technology, or 5G.
The obvious companies that stand to benefit are the large wireless networks. The obvious US companies to consider are AT&T, Verizon and T-Mobile. Global wireless networks to consider are China Mobile, KDDI and Globe Telecom. All these stocks may benefit as investors position their portfolios. But, don’t expect 5G investments to translate to earnings anytime soon.
The companies that will see improved bottom lines sooner, are those that supply equipment and components to the 5G industry. These include Ciena Corporation, Cisco Systems, NXP Semiconductors, Xilinx, Corning and Nokia.
In 2019, digital advertising overtook traditional advertising in terms of total spending. This prompted an increased level of interest in stocks related to online advertising. This is one of the of investment themes continuing into 2020.
Alphabet / Google and Facebook earn most of their revenue from advertising, and Amazon also now earns substantial revenue from advertising. These are the companies that are benefitting the most in absolute terms from the shift to digital advertising. But they also have a very high base from which they must grow.
Investors are therefore looking for smaller companies with more potential upside. Some of the smaller companies now in the spotlight are The Trade Desk, Roku, and The Rubicon Project. These companies provide software and platforms that allow companies to optimize the ROI of their ad spend.
Portfolio positioning for the next decade
Over the course of the year, long term investors will also be positioning their portfolios for the next decade. Besides the investment themes already mentioned, there are several other new industries investors will be looking at. Some of these include renewable energy, cannabis and space exploration.
Beyond renewable energy, there will be companies fighting climate change in other ways. Possibly more important, will be avoiding the industries that will struggle if, or when, climate change legislation is intensified. In time, fossil fuel stocks may become a source of portfolio risk rather than returns.
The rise of populism and nationalism is beginning to lead to “reverse globalization”. Investors may see opportunities in companies that benefit from protectionism. The biggest winners are manufacturers that are protected by tariffs.
The reaction against globalization is unlikely to affect technology companies, so that sector should be treated differently. Some analysts believe that certain Chinese technology companies may begin to overtake US tech companies like Alphabet too. If this theme gathers momentum, the implications are vast. The US tech giants dominate the S&P500 index, so any rotation out of these counters will weigh on the entire market.
Finally, the effects of automation on jobs and unemployment will be of growing concern to markets. If the transition happens too quickly, consumer spending will be under pressure. It may also lead to rising political instability.
Conclusion: Investment themes for 2020
This list of investment themes is not exhaustive, and other themes are likely to emerge in the coming months. The overriding theme is likely to be that of uncertainty – which will apply to everything else. In fact, investors will probably be adopting a wait and see approach. This may extend the life of these narratives well into the next decade.