We are targeting non-US listed multinationals with significant exposure to the US economy as an attractively priced way to exploit any soft landing in America.
As the S&P 500 continues to set new records, the market is taking the view that inflation has been tamed and interest rates can fall while economic growth and employment remain intact. True, expectations around the pace of loosening have tempered recently, reflecting recent stronger than expected inflation data. Yet the market is of the view that even if the world’s largest economy fails to achieve the perfect landing, the Federal Reserve (the Fed) has scope to prevent a hard landing.
This is one possible outcome. However, we see alternative potential outcomes ahead with risks around an inflation wall and lagged ramifications of tight policy.
So, while we agree that inflation is trending downwards, factors such as upward pressure on rental costs, which account for around 40% of core inflation, as well as the potential impact of geopolitical developments, indicate that inflation could get stuck around the 3% level by mid-year.
While the peak of the tightening cycle has likely been reached, the Fed still faces a dilemma. If it cuts rates too early, inflation could reignite, given the persistent strength of the US economy. As a result, we believe that investors should be open minded to the prospect of interest rates remaining higher for longer.
Investors should also remain open to the possibility that the US economy may soften. The labour market continues to loosen, and households’ excess savings from COVID stimulus are nearly exhausted. These trends, if maintained, could affect consumption.
Taking the barbell approach
Against that backdrop, our global portfolios retain their relatively defensive tilt, including exposure to core holdings such as Merck, Sanofi, Oracle, Microsoft and American Electric.
But we can’t ignore that the global industrial production cycle has been weak, driven by a slowdown in manufacturing. Not all global cyclicals are interesting, however we have found some promising opportunities where long-term supply-and-demand dynamics are attractive, companies are showing bottom-of-the-cycle traits, and they are priced on low multiples as investors assume the current weakness in the cycle will be more permanent.
We have invested in Daimler Trucks, the world’s largest truck company, which principally operates in oligopoly markets in North America and Europe. These markets are difficult to enter given the hefty investment required to deliver at scale a broad service network essential for the business-critical nature of the product they support – delivery trucks that sit idle are cost centres.
Daimler’s current valuation of 9x forward earnings compensates for near-term cyclical risks and provides an adequate margin of safety given the strength of its truck franchises. The company also has a strong balance sheet, which it is using to buy back stock.
Ex-US listed multinationals like Daimler Trucks, Siemens and Saint Gobain generate significant earnings in the US and offer an attractively priced option for the soft-landing scenario.
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