133. Investing in global brands and regional champions

20 May 2021 (pre-recorded 18 May 2021)

Below is a transcript of the episode, modified for your reading pleasure. Please check the corresponding audio before quoting in print, as it may contain small errors. Please remember we’ve been discussing individual companies to bring investing to life for you. It’s not a recommendation to buy or sell. The fund may or may not still hold these companies at your time of listening. For more information on the people and ideas in the episode, see the links at the bottom of the post.

[INTRODUCTION] 

Ryan Lightfoot-Brown (RLB): Hello and welcome to the Investing on the go podcast brought to you by FundCalibre. I’m Ryan Lightfoot-Brown and today we’re joined by Laura Bottega, managing director and lead portfolio specialist on the Elite Rated Morgan Stanley Global Brands fund. Laura, thank you for your time today.

Laura Bottega (LB): Thank you.

[INTERVIEW]

[0.20]

RLB: Now this year, we’ve already seen a bit of a reversal in markets with value stocks and sectors outperforming the traditional growth stocks and sectors. Do you think this is a start of a longer-term trend?

LB: Well, that is a topical question and one that many fund managers are grappling with. Certainly, we saw an extraordinary 2020 in terms of the performance of growth stocks and, in particular the market rally driven by IT and a handful of tech and quasi-tech FAANG names. Other signs of what some have been calling a growth bubble include surging crypto assets and enthusiasm around SPACs. And more recently though, the growth stocks seem to have plateaued, with strong earnings results generating muted share price reactions. On the other hand, the traditional value stocks and notably energy and financials have benefited from the market refocusing on cyclical recovery themes. And that’s already since the beginning of the fourth quarter and into 2021. 

I also think the vaccine discovery and reasonably successful vaccine roll-outs have brought news of hopefully the worst of COVID-19 behind us, at least in the UK and Europe. So, to answer your question, as bottom up stock pickers, we don’t even try to be experts at calling the timing of these trends or rotations. Whether it’s the deflecting growth bubble or a cyclical rally that could have further to run, we’re neither. We’re all about quality. We focus on owning high quality, resilient companies that can survive and thrive through the cycle. And that’s because of their recurring sales, their fat gross margins, their strong, free cash flows, their pricing power and their robust balance sheets. And just to give you a sense of how robust, since the beginning of 2019, the earnings of the global brands portfolio, are up 19%, a full 20 points ahead of the MSCI World earnings, which were down at 1% over the same period. So focusing on resilience has been core to our approach for over 20 years, and that’s what we will continue to do.

[2:38]

RLB: And as you’ve sort of alluded to the fund has quite a long-term outlook for its holdings. If inflation – which is quite a big story at the moment – were to become quite sticky, do you think that would change the outlook for any of your companies?

LB: In our view, it’s more likely to affect investors’ outlook on the market overall. We’ve had a prolonged period of unprecedented monetary stimulus and some argue pent-up consumer demand through the pandemic about to be unleashed as we return to more normal living and working patterns. And you will have seen just last week, the US CPI registered an over 4% annual increase. And that finally has the attention of inflation watchers, including the Fed. So, what happens next? Will they curb stimulus? Will they put the brakes on through rate hikes? Or bring an end to the bull run? Or attempt a more cautious tempering of inflation? If higher inflation holds, it’s also worth mentioning that’s not an environment that a lot of younger market participants have really had to contend with. 

Of course, there’s a risk rising interest rates compress multiples more broadly. And for our companies, it’s about brand strength and pricing power. Often. and particularly with consumer products companies, inflation has a bigger impact on the end customer as the increase in costs in the supply chain are reflected in the final price of the product. There’s often some lag and any short-term margin compression for the company is usually quite temporary. And when inflation drops the price, the customer sees doesn’t necessarily drop drop with it. Longer term our companies often manage comfortably with a little inflation and it’s those unexpected price hikes that create more volatility. It’s also where brand power comes in. Customers and businesses are often more inclined to pay more for brands they need, brands they want, and that have proven themselves to be reliable.

[4:45]

RLB: Well, that actually really neatly leads me onto my next question, because the pandemic’s obviously have been a big disruption over the last a year, year and a half. How have your strong brands that you invest in, have they become stronger or any of them suffered more than you might’ve expected?

LB: That’s a great question. We’ve just written about that in our monthly global equity observer, that you can find on Morgan Stanley’s website and in the main we’d argue that the pandemic has proved the benefits of scale. Many of our larger companies, such as those in beauty or premium sportswear, were able to use the time to invest in their digital offerings, to expand e-commerce and social media and their digital analytics, and to advance this new trend of hyper-personalisation. Payments companies on the other hand, were benefiting from increasing use of contactless. Although with some offset from the fact that people were traveling less. On the other hand, companies that are less distributed online, like beverages had a tougher time with social distancing, but they should recover as things normalise. 

[5:57]

RLB: And so most of your stocks in the portfolio are global brands, names many of our listeners will recognise, but there’s been a bit of a backlash against globalisation and economies have become seemingly a bit more nationalistic. Do you think this will change over time? 

We’ve seen the likes of China building its own domestic brands to compete with some of the foreign competitors. Do you see this as a threat or perhaps as an opportunity for new companies to enter the portfolio?

LB: Well, there’s a few questions in there. So let’s unpick them. With the pandemic and perhaps during the era of the Trump administration, absolutely, we saw wising national sentiment, tariff wars escalating and, separately, perhaps with the growing interest in sustainability, even a celebration of the local over the global. Since the start of ’21, we’ve seen less protectionist language, but at the same time, a growing recognition of China’s superpower status. 

Global brands has, for some time, had to contend with these things companies where their, the challenge is that they have these very global and complex supply chains. And at the same time, they need to market themselves increasingly locally. So, there is no global customer but many local customers. And we believe that those companies that are more agile, more attuned to local trends, are more likely to do well. 

Companies also have to think ‘about just in case’ as well as ‘just in time’ supply chains. That also means investing in robust inventory and warehousing and better data. Consulting companies that help other companies manage their data, are actually well-placed. It’s worth adding that many of the brands we invest in, although global, are often seen as local, given their investment in emerging markets for decades, even hundreds of years. 

You mentioned China – China’s development of domestic brands and Chinese consumers are perhaps being encouraged to choose local also by their government. Perhaps even there is a raising of the bar for local product, but in many cases they have better technology. So, all of these trends do present some threats to global companies still hoping to dominate in China. But it’s also an opportunity for us to over time hold some of these regional champions, if they can demonstrate more predictable earnings. For now, we hold a number of global champions. We tend to focus on where companies generate their revenues rather than the listing. And we continue to prefer companies with diversified revenues around the world. And that’s so that one problem in one nation doesn’t scupper the compounding potential of our long-term investments.

RLB: Well, Laura, that’s been super interesting. Thank you so much for your time today.

LB: Thank you. 

RLB: And if you’d like to know about the Elite Rated Morgan Stanley Global Brands funds, please visit our website fundcalibre.com and for more from the Investing on the go podcast, please subscribe via your usual channels.