Holly Black: Welcome to Morningstar. I'm Holly Black. With me is Giles Parkinson. He is Manager of the Aviva Global Equity Endurance Fund. Hello.
Giles Parkinson: Hi, good afternoon.
Black: So, you're managing a global fund, which means you can pick and choose where you invest. So, as we sit here near the start of the year, which countries are in and out of favour for you at the moment?
Parkinson: Thank you. I should start out by saying that we manage the fund on the basis of where a company earns its revenues, not where the stock happens to be listed. So, for example, when I'm talking about the US, I mean America, not the S&P 500.
Because we have a long-term investment outlook, we see some economic blocks as providing a better tailwind for our businesses than others. One example of this is the emerging markets. Although today we have only one stock listed there in the fund, we believe that around a quarter of our portfolio revenues come from this group of countries. We like them collectively because typically they offer better demographics and rising per capita incomes.
The other region we favor is the US. Without denying that America has its problems, there is a relatively bright long run outlook. It's one of those capitalist nations in terms of national psyche and regulation, the demographic outlook is superior with a growing working age cohort, and it has a wealth of natural sources. Now, if there's some place that we like, there must be others that we favour less over the long run, this should be Europe and Japan, Holly.
Black: Okay. So, I mean, I'm guessing this all bring us back to Europe and Japan, but what are some of the biggest risks that you see in the market at the moment?
Parkinson: Interest rates I think are like financial gravity. Part of the reason why the stock market is currently at an all-time high is because where bond yields are. Yields therefore have been falling for several decades now. They had further record lows last year and have even gone negative in large parts of the world. A quarter of investment grade debt now trades with a negative yield. Paying companies for the privilege of lending the money is something I and many others would have thought impossible a decade ago. And here we are. It's not surprising that many investors seeking returns conclude there's little alternative to equities. Look at our portfolio. The starting free cash flow yield of 4% to 5%, growing mid to high single digit rates for the foreseeable future. This is wonderful value compared to the 30-year Treasury paying you just 1.8%. In such an environment, equities will continue to remain attractive on a relative basis. But I do think the market is vulnerable to a pickup in bond yields. My best guess and it's only a guess, Holly, is that stocks are cheap if long-term rates are still below 4% four to five years from now.
Black: Okay. So, something we've heard is unprecedented, that word gets bandied around a lot at the moment, and I think in the Covid pandemic, it's got negative connotations. But what have been some of the unexpected opportunities that have risen out of all this uncertainty?
Parkinson: The biggest unexpected opportunity for us last year was being able to buy to companies across the travel and leisure complex. Now, in normal times industries such as hotels, restaurants and airlines don't tend to meet our criteria for what makes a durable company. So, we didn't have any exposure to these areas when the pandemic hit. So, that was just as well because thanks to travel bans and rolling lockdowns, the revenues of these companies have suffered greatly. But then, we began to see a disconnect. On the one hand, the valuations of those stocks began to reflect a very pessimistic outlook for recovery, on the other, there was increasing excitement from the biotech world about the progress being made on vaccines. But the time is set up, it appeared to us for extraordinarily low risk. You actually have some countries like Russia and China, already vaccinating the populations even as a wide equity market doubted would it ever get back to normal. And I think investing isn't so much about superior analysis rather than patience and conviction. So, last year, we assembled a basket of 11 stocks which accounted for almost 20% of the fund. This group went on to do very well last year, Holly.
Black: Giles, thank you so much for your time. For Morningstar, I'm Holly Black.
