In this episode of th FundCalibre podcast highlights, Luke Newman, co-manager of the Janus Henderson Absolute Return fund, focuses on how rising interest rates and shifting market conditions create opportunities for investors. From behavioural changes in corporate decision-making to strategic stock picking, the discussion offers valuable insights into navigating the complexities of today’s financial world.
Why you should listen to the interview: Luke provides an insightful perspective on how changing interest rates and market conditions are affecting investment strategies. We discuss why today’s environment is ideal for stock pickers, and hear how both long and short positions can be used to navigate risk and capitalise on opportunities.
This interview was recorded on 1 October 2024. Please note, answers are edited and condensed for clarity. To gain a fuller understanding and clearer context, please listen to the full interview.
Interview highlights:
Difficult decisions for executives
“I think there’s probably two main reasons. One’s technical and one’s more behavioural.
“I think on the technical side, the discount rates or prevailing interest rate, of course, is crucial when it comes to valuing any asset. And I think the closer we got to zero, or obviously in some countries we had a negative interest rate, you end up with huge correlation between those assets. That becomes the primary driver of how any asset, let alone share prices is then valued, and we saw huge waves of the market just correlating with US treasury bills. So you know, that was an unusual period. But the release from that has been very pronounced. So really, that technical element is really the removal of those ultra low interest rates or discount rates or cost of money.
“The behavioural one is probably more interesting though because what we started to observe through that period, particularly for those companies that were benefiting from lower interest rates, were seeing their valuation, their PE multiples, their valuation multiples increase, is it was possibly a temptation to sit on your hands.
“If you were perceived by the market as having good structural growth and were correlating with the NASDAQ or with the treasury bills then why take a risk with strategy? Why disclose too much? Why be too front footed in terms of pursuing growth because you were already being rewarded for having those characteristics. Then what we’ve seen is much more pro-action really in boardrooms.
“I think the UK is a great test case for that, where we’ve seen executive teams having to justify growth plans, having to think about financing. One of the things that’s changed with higher interest rates is that debt now has a cost. So if you’re going to borrow then you need to justify why. So we’re, seeing much more concise growth plans. We’re seeing difficult decisions for executives and boards as well.”
Will interest rates go back to zero?
“Our view is that market and interest rate regimes don’t change rapidly. And if you listen to central bankers, I think there’s a really strong set that all certainly western economies want to avoid going back to that period of ultra low interest rates. And that’s partly for economic reasons, you ended up with huge economic inequalities in valuation and in wealth. But I think you can park a lot of the social equality that accelerates that period, but you know at the same doorstep.
“So I think even if we do see a mild recession, and I wouldn’t say that’s our base scenario, but let’s say we did in Europe or the US, I think there’s real resilience to avoid simply going back to money being free and interest rates at zero again. So within that, I think again, it feels more normal.
“So we don’t see rates going back to zero again. I mean, if they do, we’re gonna have to rethink, but actually, as long as we don’t move back to towards zero, I think there’s better stock picking environment. And because we’ve got a short book as well as the long, I think the benefit to us is doubled. We’ve got better stock picking opportunities on the long book, but obviously there are some businesses and firms and sectors and industries that will struggle for various reasons. And we’ve got a short book that can look to capitalise on those as well.”
Going “short” hamburgers and Pepsi
“One good example over the past few months would be the work we’ve done on the GLP-1 obesity drugs. For a fund like ours that creates almost endless possibilities when we think about how the future will change potentially for all of us going forward, let alone health budgets and consumer trends.
“So, as well as having had long exposure to the manufacturers like Novo Nordisk and Eli Lilly, and they’ve worked very well on a long book. We’ve done a lot of work looking at this early stage of adoption, how consumer habits are already changing and what we can see within US food manufacturers.
“What we can see within US restaurants is their looks to be the start of some trends in terms of lower consumption — and it’s true in most businesses, if you look hard enough you end up with a smaller number of consumers that account for a disproportionately large amount of the demand.
“And what we think we can see already is that even if there’s just one user of these GLP-1 drugs within a household, it’s beginning to impact that super consumption. Could be hamburgers, could be cans of Coke or Pepsi. And we’re beginning to see lower volumes and lower calorie intakes, not just for the user, but for the whole household. Now, if we start to look forward over the next few years, we’re beginning to join the dots — one of the great things about the equity market, and it’s not always right, is that it’s forward looking — so if we can start to see more evidence, then the stock market will move ahead of that data and reduce the value of some of those exposed businesses.”
Conclusion: Luke’s experience in navigating both long and short positions sheds light on why stock fundamentals are once again crucial in today’s environment. His strategic approach to both the US and UK markets provides valuable information for anyone looking to optimise their investment strategy in today’s complex world.
Main image: eric-prouzet-7z5Fwk0U58E-unsplash
