Alphinity’s Global Portfolio Manager, Mary Manning, started as an investment banking analyst working in New York, London and Moscow. She has also worked for Soros Funds Management and Oaktree Capital. The Alphinity Global Fund has about $10 billion in funds under management. She speaks about the offshore investment landscape, why earnings are important, why you should stick to quality, avoid non-profitable tech and why (currently) she’s a China bear.
In this rapidly changing world, what are the current fundamentals for you as an investor?
The Alphinity Investment process is based on three things: firstly, looking for earnings momentum – we define that as stocks in an earnings upgrade cycle. Secondly, we look for stocks that are high quality. We are, thirdly, looking for stocks that are reasonably valued.
What do you define as a high-quality stock?
It’s a very good question because there are a lot of different definitions out there. In our quant process, there are three things. One is return on equity (ROE), so we want companies that have high returns. Secondly, we want companies where the ROE is improving, so change in ROE is something that we look at, cash flow, and then balance sheet strength. When doing fundamental analysis, we look at other things like management quality, strategy, and those sorts of things.
What we do is follow earnings leadership. If you think about that over time, sometimes growth stocks will be the leaders.
Since the bottom of COVID was a very good time for growth stocks overall, but then there will be times when more value-oriented stocks will be showing earnings leadership. We’re not stuck in a growth camp or a value camp. That’s very important [because] a lot of those growth funds did very well in a growth environment, and then they gave [that advantage] back when things switched to value. Similarly, a lot of value funds were stuck in the doldrums from the end of the GFC until very recently, and they had a decade’s worth of bad performance, and then they had six to 12 months where it was very good. For the end investor, that’s not a great outcome.
When we think about value, it’s not low P/E (Price to Earnings), and it’s not like we’re going out there looking for stocks that are trading at six- or eight-times P/E because a lot of times, those are value traps and they are trading at that low multiple for a reason. When we think about value, it’s what are you paying for what you’re getting?
In terms of investment, where wouldn’t you go now? What are you actively avoiding?
I worked at Oaktree for many years, and Howard Marks has a famous saying. It’s: “avoid the losers, and the winners will take care of themselves.” I’ve always remembered that saying. From a sector perspective, unprofitable tech is still an avoid for us because we follow earnings leadership.
Commercial real estate is another sector we are avoiding. During COVID, no one was in the CBD, and people thought this was bad for commercial real estate, but it’s taking quite some time for that pig to go through the python.
Even if it takes another few years, we think the world has changed with COVID, and people want to work from home. We’re also aware of the second-order derivative effects from commercial real estate, whether on banks, the construction industry, or other sub-sectors.
From a regional perspective, Japan is one country where we have no exposure right now. That’s contrarian and has cost us alpha (excess return versus benchmark) in the past six months, but there are several reasons.
First of all, we’re following earnings leadership. In the US, it works very well. Our quant team has back-tested it to death. In Japan, companies give guidance differently. The market tries to preempt things differently, or they don’t react the same way, so it’s generally harder for us to find stocks in Japan.
Japan often becomes a macro trade. The whole market is one macro trade that depends on the yen.
When the yen is weak, all the exporters, which are a huge part of the Japanese market and the Nikkei 225, those stocks go up a lot, and then when those stocks are going up a lot, it helps a lot of the domestic demand stocks because the economy is doing well, so the whole thing just becomes a yen trade.
If you’re a bottom-up fundamental investor not starting with a macro viewpoint, it’s tough to time all that because you are essentially just trying to figure out what is going on [with the] yen.
Anywhere else you’re avoiding?
The UK is not a happy country, so that’s another country where we don’t have any exposure. We don’t have any direct exposure to China either.
Why do you eschew China? I have spoken to other folk who believe it’s a tremendous opportunity.
I love China. I’ve spent a lot of my career focusing on China. [But] I think there’s a couple of things going on right now. The regulatory reset that happened between when the Ant IPO was pulled and recently when the [billion dollar] fine [was issued by the People’s Bank of China] turned a lot of investors off, and I can see why because if you’re a fundamental investor, it feels very uncomfortable to be holding these stocks when the outcome of the stock doesn’t have anything to do with their earnings.
It has something to do with what the regulators will decide, and you have no control over that and very little visibility. [Another] thing is much longer term. I was in Hong Kong a few weeks ago, and it was the first time I felt a little bit of a wobble about the long-term China growth story.
I started working in China in the late 1990s, and it was when China was just joining the WTO. There was so much excitement, and GDP growth was 8% to 10%. If you fast-forward to now, post-COVID, the GDP growth forecast is 5%, and China’s struggling to get there without stimulus. What does that tell us about the underlying trajectory of China’s growth? The flip side of that coin is you’ve seen a lot of investors flock to India because it still has [a] very high GDP growth that translates into high revenue growth, which translates into higher earnings growth. India seems like a better market than China.
What do you see as the greatest opportunity in the coming year?
There are always opportunities in technology. Sometimes, we search our conference call transcripts because we’re looking for earnings upgrades. If you go to certain companies and search under AI 12 months ago, you would get four or five hits, and now you’re getting 250 hits. In the long term, though, I think AI will have very significant earnings implications across sectors because of the costs. McKinsey published an excellent report recently that talks about AI and.. the cost savings [are] way, way, bigger than the revenue generation. Other parts of tech are still exciting. The migration to the cloud is not over.
What are your thoughts on the current economic situation? Is recession in Australia and globally still a looming threat?
This is the billion-dollar question, maybe even the trillion-dollar question, because so much is at stake. There are three camps here. One is that there’s going to be [a] hard landing, the second is there’s going to be a soft landing and a camp which says there’s going to be no landing at all, and that it’ll be very easy just to navigate this macro environment. I would not want to be a central banker right now – the probability of a policy mistake is pretty high. Trying to find that Goldilocks outcome where you tame inflation but you don’t move too hard or too fast such that the economy hard lands, I think, is very tricky. Even though we’ve had hundreds of basis points of rate rises, unemployment is going down.
“I would not want to be a central banker right now – the probability of a policy mistake is pretty high.”
Mary Manning, Alphinity’s Global Portfolio Manager
Regarding those three camps, I’m not in the no-landing camp. I think that’s hard. That’s like the perfect glide path for the economy. Right now, I’m in the soft-landing camp. I think the economy remains strong; it remains very resilient. [But] if there’s some other exogenous shock that makes employment fall off a cliff… we’re not seeing that yet, but that would be another thing to look out for.
What are your thoughts on the global economic climate now post COVID?
My point about COVID is that it’s hard to find a normal year. While lockdowns are definitely in the past, it’s still impacting how it’s coming through into stock earnings. That’s one of the reasons why we run a high-quality and diversified portfolio because there’s going to be a shock out there. It’s not going to be another COVID. The Russia-Ukraine war is another example. People didn’t necessarily see that coming the way it ended up happening. If you have high-quality stocks and a diversified portfolio, you are almost, by definition, better prepared for any kind of shock that may come than if you’re running a portfolio that’s totally on one macro bet.
China and Taiwan, what are your feelings here? What if that blows up? What are we facing?
That would be disastrous. From a geopolitical perspective and an investing perspective, from the semiconductor supply chain perspective, that would be horrendous because TSMC (Taiwan Semiconductor Manufacturing Company) is the crown jewel. It’s right in the middle of the semiconductor supply chain. COVID gave us a tiny, tiny, tiny little taste of what it would be like to have a disruption in the semiconductor supply chain. Can you imagine if China took over TSMC? That would cause massive problems. I don’t even like speculating about it because my view is that it’s probably unlikely.
I think that China has a lot going on internally, it has a lot of things going on concerning its economy, and that is probably more important than starting a war. My bigger concern with China-Taiwan is that you get sort of buildup of militarisation around the situation, and then the probability of [a] mistake gets a lot higher.
What sectors do you think are interesting now?
There still are aspects of consumer that are interesting. Luxury is a sector I like because the luxury consumer does not roll over easily. If you look back, one of the only times when the luxury consumers rolled over was the GFC. Other than that, they just sort of power through economic cycles because, by definition, they’re ultra-wealthy, and blips [in] unemployment or interest rates, they’re not really touching this group of consumers.
Some of the techs that I talked about before are amazing companies. Still, you’re paying 50, 60 up to 100 times P/E, and that P/E is an adjusted P/E, which has a lot of stock-based comp in there, and if you back out stock-based comp so that it’s comparable to other industries that don’t use stock-based [comp] quite as aggressively, some of these companies don’t even make money. My point about luxury is these are relatively clean companies.
We’ve spoken a lot about tech, but do you think a bit of snake oil is being sold?
Yes, investors need to be careful. That whole push towards [the] metaverse was actually at exactly the wrong time because people had been locked down for a few years [and] everybody wanted to be out in the real world and out meeting people and out doing stuff, and to try to force people back into this virtual reality world was a really terrible timing.
Crypto is not necessarily tech [per se], but I would put it in the same category of a pet thematic that people wanted to jump on and be excited about, and then obviously, it’s given up a lot of that hype. AI has aspects of that, but I think AI will drive a lot of productivity improvements. It’s important to point out what’s different about AI, and that there are huge aspects of AI that will impact earnings.
What trends are you watching?
One is de-globalisation. During the Trump administration, they realised that it’s very risky to have so much semi capacity in Taiwan. Remember there was the CHIPS Act, and companies got subsidised if they built capacity in the US? There’s capacity being built in Europe, and that’s not an economic decision. There’s a reason why semi capacity is currently in Taiwan and Korea because it’s cheaper, there are network effects, there’s a whole bunch of reasons.
Building non-economic capacity in semiconductors or anything else just for geopolitical reasons is an example of the deglobalisation of supply chains. That was one of the first things that happened.
The second thing, which is more recent, is the IRA or the Inflation Reduction Act in the US. Even though it’s called the Inflation Reduction Act, it has very little to do with inflation, but you saw the same thing happen there with the EV supply chain.
The Biden administration woke up, and they said, “Oh, yikes.” Huge amounts of the EV supply chain, particularly batteries, is all in Asia, and large parts of that are actually based in China.
Another trend is in the consumer sector. Consumers during COVID bought a lot of stuff because people were at home, but most white-collar workers still had their jobs, so they had a lot of disposable income and bought stuff. One thing you’re seeing post-COVID is that there’s been a psychological shift to consumers wanting to purchase experiences.
This is one of the reasons why travel is exciting because there is a move, even two years post-COVID, that people want experiences.
What is the most important message you can give to investors now?
[Number one] It’s a very complex environment… and volatile, so stay focused on
the fundamentals. Making big macro calls and orienting your entire investment portfolio around that can be quite risky, particularly if you get it wrong.
Number two, is that company a high-quality company that you’re happy to continue to own? Number three, is the valuation reasonable?
Focusing on those things and blocking out a lot of the macro and geopolitical noise that’s going on and running a diversified portfolio… is better than just following the trends.
