Assessing the outlook for the post-pandemic world
What is your outlook for the economy?
It's pretty complex obviously, because we're having a very, very obviously sharp economic downturn. There's no doubt on employment, I mean, they're talking about in the US, it's over 30 million people now. Unemployment's gone from record lows of three or 4%, to well, over 10% in a month. In Australia, the unemployment rate is also likely to go over 10% but that's obviously with activity at virtually zero in many sectors. As we start seeing restaurants reopen, casinos reopen, et cetera many of those people will return to work but the economy won't return to the same level as it was pre this, we think for some time. Obviously, sectors such as immigration, tourism, student travel, accommodation, et cetera. Those sectors look like they will take a long time to recover, and some of those sectors employ a lot of people.
So you would have to think that removing to an environment with demand, maybe sustainably lower. We will get a recovery obviously when the lockdown is finished and people rush out with it the JobKeeper or JobSeeker or whatever money they've been handed and we will see a jump in spending, but then sustainably looking forward: what is going to be the ongoing demand and ongoing revenue from many of those sectors? So, which is difficult to assess but I think given that, especially Australia, we do have the largest, unfortunately we do have the largest amount of debt per capita, per head of GDP in the world. Mortgages, particularly places like Sydney and Melbourne are half a million, a million dollars it's not unusual for unfortunately many people to have. While interest rates have come down and that's good, it'll help people in jobs be able to pay off their mortgages. Unfortunately, if unemployment goes up, perhaps in areas such as airline pilots, hotel managers, advertising agencies, the level of demand there, it looks like it'll take a while to recover. And some of those people are well paid and some of them unfortunately, probably have quite large mortgages.
We think the demand, sustainable demand going forward, will take a while to get to the levels of where it was pre this all happening. So I think from that point of view, one's got to be cautious.
How are you assessing companies in the current environment?
Firstly, we're looking at the demand outlook for each industry. And obviously many industries are going to see aggregate demand fall due to the recessionary environment we're likely to have in a post-COVID world. The second thing we're looking at, which is really important is the outlook for prices, for goods and services within those industries. Lower prices can have a real big impact on the bottom line of companies, so that's something very important to get right. Then on the flip side, we're looking for factors where companies might be able to improve their bottom line outcomes, such as increasing market share, if they have weak competitors or the ability to cut costs to drive productivity. We then blend all those factors together to determine whether the company's balance sheet is strong enough, given that outlook. And then finally, we look at the share price of the companies based on the earnings we forecast for the future and try to determine whether the share price is adequately pricing in that future outlook, which we are pretty cautious about.
How are you positioning the IML portfolios based on the current outlook?
Well, there's lots of things to think about, lots of people have different theories and different views of what the economy will look like and that's one of the uncertainties we have to deal with now when managing money. As I said, people told you about a V-shape recovery, U-shape recovery, L-shape recovery, W-shape recovery, all sorts of things so. IN our view recovery, we will get a recovery. It will be quite sharp as people spend, but then the sustainable recovery is another matter and we think that will be fairly subdued for a while. So, as I said, many companies have changed their business model and are being quite nimble throughout all this. This is a period of time where almost every business, every business in the world has been impacted to some extent by this economic shock, if you like, caused by the health environment.
So look, it will take some time to adjust and some companies are adjusting very quickly. Most companies, we talk to are cutting costs, cutting staff - unfortunately for the people involved - but in a lower demand environment, companies have to trim their organizations in light of what will probably be lower demand. So look, it is a very complex issue.
I think from our point of view, it's important to position the portfolio to companies where the balance sheets are strong because nobody knows where it's going to be a V, a W, a U or whatever. So I think a strong balance sheet helps a lot in that sort of environment. And then, also we prefer companies where the level of demand seems a bit more transparent, in terms of where we're sitting today, then for example, buying into a building materials company or a company that supplies toilets for renovations. I mean, what are the level of bathroom renovation is going to be like? I would think there's a bit of a question mark, they could be substantially lower than what we've been used to, so I get no one is sure, well, I think we feel fairly comfortable at IML positioning the portfolio for what we believe will be a recovery, but probably a recovery with a lower level of sustainable demand to what we saw before this event.
What attributes are you currently seeking in companies?
Look, it's really the same as always. We're looking for companies that are number one or two in their industry because they've got something special about them: lots of scale, they're the lowest cost producer, things like that. We're looking for companies with recurring, predictable earnings that are going to be relatively stable, even in a recessionary environment. So think of the Telstras, the Amcors, the Coles... stocks like that.
We obviously want good management teams and having an experienced management team right now is really important. So we're looking for high quality management teams that have been around a while that have seen a few cycles. We want companies, obviously to have a strong balance sheet. That's always important, but really important in times like these. If you've got a strong balance sheet and your competitors are weak, there is in my ability to take advantage of some opportunities in the marketplace and you want to buy these companies at a reasonable price. Companies that are pricing in some impact to earnings given the current environment, we are relatively cautious on the outlook, so we want to buy companies where that more cautious outlook is priced in appropriately.