Das Interview

«This isn’t the Zombie Apocalypse»

Matthew Benkendorf, CIO of Vontobel's Quality Growth Boutique, advises investors to keep a cool head. He believes the return of market volatility provides an opportunity and expects the situation to normalize within three to six months.

Sandro Rosa

The new decade could not have begun more dramatically for the stock markets. A fantastic 2019 has been followed by the most difficult period since the Global Financial Crisis. Within a short period of time, the most important stock indices have lost 30% or more in value. Last week, the Swiss Market Index even experienced its second sharpest daily loss since its launch.

What should investors do now? The most important thing is to keep a cool head, says Matthew Benkendorf, CIO of Vontobel AM's Quality Growth Boutique. The return of volatility is a positive development, he says, because the markets had previously become too complacent and careless. Now previous excesses are being corrected.

The nervousness is creating opportunities and allowing long-term investors to buy quality stocks at a more attractive price. The experienced banker sees opportunities especially in the consumer-oriented industries and in the telecom sector.

Mr. Benkendorf, market volatility has increased significantly due to the coronavirus. Are you using the opportunity to buy stocks on the cheap?
We are nibbling at things in general. The market has been way too sanguine for a while now and got lulled into complacency. The return of volatility is a good thing.

Are markets overreacting to the coronavirus?
I am no expert on the coronavirus. It is certainly a new challenge for the market. This isn’t just a typical recession or a basic financial crisis. We can’t draw perfect parallels to past events such as the outbreak of Sars, and can’t say this happened before. This is rather unique.

In what sense?
It is unique because this is the culmination of a massive, multi-decade period of globalization, with open borders, free movement of people, the outsourcing of supply chains to Asia and in general very integrated, tight supply chains around the world. And now we have this issue of a sickness that is spreading fast.

What is your view on the consequences of the virus?
I don’t think anybody knows exactly how this will play out in the short- to medium-term. We all should have some confidence that this will run its course and will be over eventually. Nothing disastrous, such as a major economic downturn, will come out of it. It should be pretty straightforward.

Any guess when it will be over?
Within three to six months everything should be normalized. We have some visibility, we know what China went through. And there you see a stabilization and an improvement. Starbucks has just guided that the company has got more than 90% of their stores back up and running in China. And that’s the epicenter of the epidemic.

You said the return of volatility is a good thing.
The return of volatility is good. Not because it is back due to a health risk – there is a difference between losing one’s job and getting sick and die from a virus. The latter is certainly much more concerning. However, let’s put where we are in context. The markets have had a lot of volatility and a lot of downward movement from here, but the S&P 500 is down only a bit more than 20% year-to-date. The abruptness of the volatility makes it feel worse than it is. The markets basically went parabolic from the middle of December to the end of January. It was a huge complacency and money driven move upwards, which pushed valuations higher. And now markets have shaved that froth off.

So that’s no buying opportunity yet?
Stocks in general have just retraced this exaggerated movement from December. So you don’t need to add aggressively, because most stocks have just moved back to more normal levels. However, stocks that suffered a pullback to their September levels or below look more interesting. There you start to get better valuations.

Which segments are we talking about?
I look at the consumer staples and the consumer discretionary space. In the communication services area I also see opportunities.

Aren’t these businesses especially vulnerable to the coronavirus?
Usually, consumption-oriented businesses are more defensive than other sectors. Now, this virus is causing a lack of consumption in the medium-term. The areas of the stock market that typically are defensive aren’t that defensive right now. However, I think these are the segments where you should have a bit more confidence. Of course, you will lose some sales here and there, but they should normalize after we get through this.

In other words, investors should focus on the long term?
Correct. When you buy a stock, what do you get? We are looking five years out when we value companies. How can a firm grow over these five years and what will be its earnings power in five years’ time? Then we discount that value back to today. So, when you look at a stock today, you have to ask yourself: Despite the volatility, despite the lost sales right now – does the current situation materially change the earnings power of any of these businesses five years from now? If it doesn’t, maybe there is a buying opportunity. And if the companies have good balance sheets, investors still get a dividend, even though sales are lost right now. Maybe a firm like Starbucks isn’t selling as many coffees, maybe certain services aren’t being consumed, but the business will recover.

Given the uncertainty, keeping a cool head is difficult.
It becomes easier when you focus on the longer term and you realize that markets will always bottom before the problems are over. While it might feel bad when the value of your stocks goes down for a day, a week or a month – you have to stay invested to build wealth over the long term. Don’t fool yourself into thinking that you can enter the market again when the issue is over. The market will turn before that.

Don’t you expect a recession?
I have no crystal ball. I honestly can’t tell you if we will get a recession. The question is: what does it mean if we get a recession. It might not mean a whole lot. Already at the start of 2020, the US was headed for no or even negative earnings growth. Most of the growth was already expected to be back loaded to the second half of this year. Now we have corona. The impact on earnings in the first half will be more severe, but the bounce could be even harder in the second half of the year as the pent-up demand will come through. Nobody knows where all of this is going to go. What I do know is that this will pass. This isn’t the zombie apocalypse.

Could the coronavirus lead to changes in global supply chains, as their vulnerabilities have been exposed?
That’s the key issue there – and something the market is not digesting yet. As sophisticated as financial markets are, people cannot handle many variables at once. The market worries about the current year, but this issue is more material. With the coronavirus there will be an amplification of the deglobalization trend that started with Brexit and the election of Donald Trump. It will affect the outsourcing of manufacturing jobs, the outsourcing of supply chains, and the opening up of borders.

What will be the consequences?
Every company followed the exact same business playbook, ran with very low inventory, ever lower working capital and had a perfectly executed elongated supply chain, which drove profitability higher. And it made sense: A plane or a ship would always be there to transport or pick up the necessary goods. However, all this is now being questioned and a counter trend to this has been already underway. It will take time for people to price in the implications of borders going up a little bit again and companies wanting more control over their supply chain. This will lead to higher input costs.

Consequently, corporate profitability will suffer?
What will touch all industries is that working capital is picking up again, with slightly lower margins too. US-companies headed into 2020 still had very, very high levels of profitability. I think investors need to lower their expectations in this respect.

Are there other threats to profitability?
Another thing to consider is ESG. While the movement towards ESG is a good thing, there are costs associated with it. It is all good that companies are pushed to lower their carbon footprint, increase worker pay, and more, but everything has a cost. There is no such thing as a free lunch in life. The question is: how big will the hit to corporate profitability be?

Is ESG the reason for the lack of energy stocks in your portfolio?
No, our lack of ownership of energy companies is more due to the fact that these are very capital intensive businesses. Just operating their business requires an enormous amount of retained capital and reinvesting earnings back to sustain and grow the business and that is just not an economic business model we like. Furthermore, these businesses tend to be more cyclical and the profitability is dependent on the price of a commodity that is freely traded and unpredictable.

What’s your take on health care companies?
We like health care because the consumption of medical products is fairly predictable. Also, these businesses tend to have very high barriers to entry as they are highly regulated and products go through highly regulated approval processes. A competitor cannot simply start making hip replacements, coronary stents or pacemakers. We like the predictability and the huge barriers to entry that protect the incumbent players. Now if companies in a sector with barriers to entry invests in research and development they can sustain their franchises and with that comes an element of pricing power as well.

Don’t you expect US elections to be a risk for the sector?
While I think that health care tends to be more resilient, given the election cycle we should expect more volatility. Maybe a bit less in the medtech and maybe a bit more in the health insurance space.

Matthew Benkendorf

CIO of Vontobel's Quality Growth Boutique

CIO of Vontobel's Quality Growth Boutique

Matthew Benkendorf has been with Vontobel Asset Management for more than 20 years. He worked in trading, in the research department and in portfolio management. In March 2016, he was named Chief Investment Officer of the Quality Growth Boutique. Matthew Benkendorf received a Bachelor of Science in Business Administration from the University of Denver.