- High inflation that is at its loftiest in decades: this is admittedly largely a result of the mismatch between strong demand and constricted supply following inventory shortages, but it still makes for a hindrance for households and puts the thumbscrews on the central banks.
- The fight against climate change, which on the face of things jars with efforts to drive robust growth: stronger economic growth fuels higher CO2 emissions, which is surely an impossible contradiction.
These questions combine with other concerns – the pandemic crisis first and foremost – as well as doubts on stock-market valuations. Additionally, the decisive issue of sustainable development must be incorporated into both the main scenario and risk scenarios if we are to develop the most appropriate wealth management strategies, raising a conundrum for economists, portfolio managers and savers alike. Dorval Asset Management’s views on the situation and the consequences for our investment management are as follows.
Economic boom set to persist, despite a moderate rise in inflation and interest rates
Economic growth on developed markets is still poised to outstrip its long-term trend in 2022 with a pace of around 4% vs. a jump of 5.3% in 2021, driven by a fusion of households’ robust financial health, the vigorous recovery in jobs, and the effects of investment programs. However, a gentle landing for inflation on levels slightly ahead of the pace in the 2010s looks likely, as projected by the OECD. The process of rebalancing supply and demand will be the key question in 2022, and will require both stronger output and lower inflation, for example in the automotive sector. Real rates are still poised to stay low, albeit on an uptrend. Meanwhile, the Chinese economy and its controlled slowdown should play a useful moderating role in this cycle-peak phase, thereby curbing the risks of overheating.
As a result of this scenario, even the most defensive wealth management strategies have no choice but to stick close to the equities/cash tandem, with bonds maintaining their extremely negative asymmetrical profile. Dorval AM has already successfully addressed this challenge over the past several years with our lowest-risk fund, Dorval Global Convictions Patrimoine.
The ongoing economic boom and the continued moderate gain in structural inflation also point to a widespread propagation of earnings growth to a broad range of sectors, offering a sharp contrast with the 2010s. This momentum prompts moves to ensure extensive sector diversification, as reflected both in Dorval AM’s international funds (equally weighted baskets) and our European stock-picking strategies.
Risk exposure consistent with market maturity
Portfolio managers can indeed maintain high investment levels as a result of equities’ continued comfortable risk premium as compared to other asset classes – particularly bonds – and the sharp surge in earnings. Meanwhile, investors’ current more cautious positions also offer a certain degree of protection. However, cyclical stocks have already enjoyed a relative boom from 2Q 2020 through to 2Q 2021, so the market has priced in a large proportion of the recovery. In light of this current market maturity, risk exposure here at Dorval Asset Management will probably be moderate throughout 2022, on average.
The main risk on this positioning seems to lie first and foremost in a potential shift in monetary policy priority, with a focus on combating inflation that consequently hampers growth: this type of orthodox reaction would promote highly defensive strategies. Conversely, an upside risk scenario would mean benefits for emerging markets, if pandemic-related pressure and worldwide inflation were to ease promptly, putting paid to monetary and fiscal strain in these more fragile areas of the world.
Does a much-needed bubble on ESG assets lie ahead?
The energy transition raises questions on the long-term growth outlook, but does not necessarily seem at odds with stronger growth in the shorter term – even quite the opposite initially. The IMF model is for a bell-shaped curve for example, where the surge in investment required to develop the green economy would more than offset the dent from rising carbon prices out to 2025-26. Our portfolio management team here at Dorval Asset Management draws on our green deal basket of 40 stocks in our international funds to play this scenario.
Nevertheless, intervention from the public authorities will have the strongest effect on the energy transition and inclusive growth by far, although sustainable finance also has a key role to play, in conjunction with legislative bodies. Unlocking synergies between the two can further bolster the effectiveness of government measures and help reduce the risks of greenwashing.
If this impetus is successfully garnered, it should lead to a relative decrease in the cost of capital for the most sustainable businesses, which is tantamount to a relative rerating for ESG assets, fueling something of a much-needed bubble. As things stand, this valuation premium still remains very moderate on average, bar some highly popular green tech stocks.
Strategy-driven ESG is the keystone of portfolios
Here at Dorval AM, we believe that corporate responsibility coincides with profitability in most cases. Moves to incorporate ESG dimensions are often a matter of strategy for corporations, leading to savings on energy and packaging for example, driving the development of new markets – such as organic, innovations and sustainable processes – and promoting better staff management via inclusion and training, as well as a decrease in the risk of controversies. An ESG focus also prompts investments that are admittedly costly, but ultimately make the company more sustainable by pre-empting forthcoming regulation.
This strategy-driven ESG approach is visible across all our open-ended portfolios, and chimes particularly with our international funds, where our SRI basket houses 200 companies – across all continents and every major business sector – that boast a particularly appropriate governance set-up to tackle today’s challenges. This basket of stocks now comprises the majority of our international equity exposure and will continue to do so for such times as it is warranted by our assessment of both the economic cycle and valuations.
By way of reminder: the Global Convictions range has two levels of risk, depending on each investor’s profile.
- Dorval Global Convictions Patrimoine (SRRI 3) with an investment timeframe of 3 years,
- Dorval Global Convictions (SRRI 4) with an investment timeframe of 5 years.
Both funds have proven to be robust, particularly in 2020 and 2021. This range offers a suitable response to the environment, as economies open up again on the back of vaccination programs and low interest rates. These funds kicked off 2021 with a cyclical positioning, while ensuring that we safeguard our extensive geographical and sector diversification.
- Dorval Global Convictions Patrimoine is rated category 3 on the risk-return scale.
- Dorval Global Convictions is rated category 4 on the risk-return scale.