Best ideas come from global trends

3 May 2018

Ongoing political constraints, shifting economic trends and long-term social changes are creating significant investment opportunities globally, according to Bennelong Funds Management's boutique partners 4D Infrastructure, Quay Global Investors and Wheelhouse Partners.

Sarah Shaw, CIO at 4D Infrastructure, says economic growth, public policy and infrastructure development are leading to a rapidly expanding middle class in the BRIC countries (Brazil, Russia, India and China) which is driving domestic consumption, infrastructure demand and growth.

"By 2025, there will be 220 million people with incomes greater than $US15,000 in the BRICs. This compares with 120 million in Japan, 75 million in Germany and 55 million in the UK.

"The opportunity for infrastructure investment in this environment is huge, and not just as a safe haven or a bond proxy," says Sarah.

"The advantage of infrastructure is that it provides a safe haven in falling markets, with a portfolio shift to safe markets ensuring stable predictable and resilient earnings, attractive income yields, and low correlation to general equities.

"Infrastructure investment can also be geared to growth in rising markets to capture GDP growth, protect investors from the impact of rising interest rates, and provide an inflation hedge.

"For example, we are currently overweight airports as an infrastructure sector, as we predict they will benefit from the emergence of the middle class in developing countries. They also have macro sensitive characteristics – high barriers to entry, visible earnings and high operating leverage – and there is a lot of upside in this."

Justin Blaess, principal and portfolio manager with Quay Global Investors, also says social trends are driving opportunities in specific property sectors, many of which are not available in the Australian market.

"One such theme in US markets is multi-family dwellings.

"Home ownership rates remain near 50-year lows, and renter-occupied dwellings as a percentage of total housing stock continues to rise. What's more, approximately 85% of those renters will seek an apartment or multi-family dwelling to reside in."

He says companies that supply these 'multi-family' apartments, particularly those with a focus on the supply-constrained markets along the west coast of the US, are well-positioned to perform.

"Since the GFC, prices have recovered in many of the multi-family markets which has triggered a resultant supply response in the sector. However, this is not out of line with the historical relationship between jobs created and in the context of the strong demand drivers.

"The result has been strong rental growth, especially on the west coast where jobs and wages growth has been strongest. Additionally, construction cost inflation is making developments harder to stack, which is tempering further supply and is likely to elongate the cycle, increasing the attractiveness for investors."

He added that contrary to popular opinion, a rising interest environment around the world is not necessarily bad for global real estate investments.

"In the short-term, noise around interest rates rising in the US has been creating share price headwinds and creating opportunity.

"However, while 10-year bond yields have been rising, so have inflation expectations. Inflation is good for real estate – rents are often linked to inflation, and replacement cost, or supply, is impacted by higher input costs, requiring higher rents to justify development.

"Picking real estate winners in the long term isn't just about discount to net asset value, especially later in the cycle where valuations for certain asset classes may be elevated and forecast total returns low. We prefer to focus on long-term total returns and identifying investment opportunities at or below replacement cost that have focused strategies and sustainable capital structures," says Justin.

Meanwhile, Wheelhouse Partners' CEO Alastair MacLeod highlights the implications that the changing economic environment will have on retirees' portfolios, and says there are unique investment challenges faced by this group.

"Retirees require growth for their savings to fund ever-lengthening life expectancies, so equities are an important part of their asset allocation decision.

"However, retirees need those equity returns delivered in a more 'retiree-friendly' shape that incorporates a higher component of income along with greater levels of capital preservation."

He says that adding a "defensive growth" allocation to a global equities portfolio to help achieve this is increasingly important for retirees, which is managed by running a systematic derivatives overlay on a concentrated equity portfolio.

"There are two elements to this approach. Most equity returns are two thirds capital and one third income, which overlays results in a return that is two thirds income and one third capital.

"No one wants to buy into a bond proxy at this point of the market, so where do you get the growth? This is the beauty of a derivatives overlay – it means a portfolio can be growth-oriented but still deliver a strong income-based return."

Pointing to some of the tech allocation in the portfolio, he says companies like Adobe Systems,, Veeva Systems and Amazon generate revenue growth of more than 20%, but none of them pay dividends.

"We nevertheless aim to generate a 5-6% income-based return based on the growth portfolio of the underlying portfolio, with lower volatility.

"It is an improved investment outcome for retirees and delivers equity growth in an income-driven and retiree-friendly shape," Alastair says.

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