* We are launching our Global Style Investing product. The purpose of the
publication is to present equity style views across regions using a common
business cycle framework. Historical performance, valuation, positioning and
macro sensitivities are some of the characteristics analyzed and compared.
Style views are also accompanied with list of stocks to favor and avoid.
* The style selection framework relies on growth, inflation, liquidity and
sentiment indicators and uses both long-term trends and their 2nd derivative to
identify the phase of the business cycle. The cycle indicator is referred to as the
Quantitative Macro Index (QMI) and is the key input for style positioning.
* While the US business cycle led the global recovery in the aftermath of the
Financial Crisis due to aggressive Fed stimulus, more recently EM has been
leading the global cycle as China slows down and weighs on commodity prices.
In early 2015 the European cycle got a boost from ECB QE program. However,
lately that trend has also been decelerating, albeit from a higher level.
* The US and GEM are currently in Contraction phase of the cycle, with their
respective QMIs below long-term trends and further decelerating. In this phase,
empirical analysis would suggest to be long Quality and Low Volatility, neutral
Growth and start rotating from Momentum into Value stocks. Meanwhile,
Europe is in the Slowdown phase, with a decelerating QMI but still above
long-term trend. This would imply favoring Momentum, Growth, Quality and
Large Caps over Value, High Volatility and Small Caps.
* High Quality stocks look expensive across the globe reflecting investors’
preference for relative safety in a slowing economic environment. Momentum
stocks are expensive in the US and Asia, reflecting strong macro momentum
trends that have been fueled by diverging central bank policies, persistent USD
strengthening, and weakening EM currencies and commodity prices. Valuation
of Growth stocks looks stretched in Europe and Asia (has normalized some
in US) reflecting bidding up of these exposures in an anemic growth
environment. Given the positive correlation of Momentum with Quality, Growth
and Low Volatility, their valuation richness is likely a symptom of the same
macro momentum trends. Value is the polar opposite, trading at extreme
discount relative to the market and versus history in all regions.
* Given the already extreme valuation spread of Momentum-like styles
versus Value, we see increasing likelihood of Momentum selloff and
reversal to Value, a risk we have been highlighting in our recent strategy
reports. Since such a reversal may be difficult to time, we recommend that
investors, while maintaining exposure to cycle-consistent styles, favor stocks
with more reasonable valuations and reduce exposure to expensive
momentum stocks. In effect, transition from expensive Momentum into
Momentum at Reasonable Price (MARP), expensive Quality into Quality at
Reasonable Price (QARP), expensive Low Volatility into Low Volatility at
Reasonable Price (VARP) and expensive Growth into Growth at Reasonable
Price (GARP) – see pages 14-17 for screens of “Stocks to Avoid”.