Misconceptions about global equities and how to take advantage of them

They think global regulation will hammer some of the world’s most dominant companies, they are wary of big pharma’s profitability and are doubtful that many, or any, pockets of environmental, social and governance (ESG) value can be found in emerging or Japanese markets.

It is easy to fall prey to fear when dramatic headlines abound but, while these issues are undoubtedly real risks, they can sometimes also be opportunities for the long-term oriented investor. Indeed, opportunities exist when the perceived industry or regional risks do not have the bottom-up impact on actual companies that you might expect.

The first big misconception doing the rounds is that regulation is always a negative factor. From the rapid imposition of China’s 2021 ‘common prosperity’ agenda to the progress of the latest global deal on corporation tax and antitrust rumblings from the US, the knives appear to be out for some of the biggest, most dominant global companies.

Large tech players such as Google are currently bearing the brunt of this regulatory scrutiny. The key point, however, is that companies like Google can often absorb the monitoring or compliance costs imposed upon them because they spread these over a large user base. On the other hand, new entrants, lacking sufficient scale, could find these regulatory costs prohibitive. The result? A near-term compression of earnings but a longer-term elongation of the competitive advantage period, as new entrants find it unprofitable to enter.

The second big misconception is that ‘Big Pharma’ is unpredictable and provides low growth. It is commonly thought that pharmaceutical companies are struggling with rising costs of R&D, that new drugs often have a smaller, specific customer base and that existing drugs will eventually face patent expiration. The trouble is that this generalisation, applied too broadly, runs the risk of missing opportunities: some Big Pharma names still have formidable advantages and attractive risk profiles.

Among these is Eli Lilly, an American large-cap pharma company with a leading diabetes franchise where it has an established position in the duopolistic GLP1 market – their main competitor is Danish Novo Nordisk. Eli Lilly has delivered positive earnings growth each year since 2015 and is on track to report a five-year earnings-per-share (EPS) compound annual growth rate (CAGR) in the high teens. The company’s drug Trulicity® has achieved strong share gains and, similar to Novo Nordisk, Eli Lilly’s diabetes products could provide a foundation to create drugs that address the obesity market, which may be worth around US$40bn. Both players can succeed and benefit from an increasing awareness of obesity’s status as a disease associated with significant comorbidities and healthcare costs.

The third big misconception is that emerging markets (EM) and Japanese companies have poor ESG credentials. Although it is true that many European companies are world leaders when it comes to ESG, investors should not completely dismiss ESG credentials in EM or Japan. Indeed, there are some unusual ESG champions in these markets. For example, HDFC Limited is India’s leading mortgage provider and plays an important role in providing true social utility by facilitating homeownership. We consider HDFC to be one of the best-run non-bank financial companies in India, with a strong corporate culture as pioneers in housing finance, a conservative approach to risk management and uncompromising adherence to high standards of business ethics.

In Japan, Daikin is a global leader in air conditioning with air conditioning units that emit just one-third of the greenhouse gases that competitor products do. The company has also implemented a robust environmental management system to reduce its overall environmental impact, is a signatory to the UN Global Compact and provides a high level of ESG disclosure, including a detailed sustainability report based on Global Reporting Initiative guidelines and Carbon Disclosure Program questionnaires.

Volatility will always exist, but when volatility is driven by misperceptions and mistaken generalisations such as the above, it has the potential to provide us with long-term growth opportunities. Although omnipresent regulations, structurally challenged sectors and inadequate ESG transparency are all very real risks and challenges, it is important to filter out the noise in order to perceive the fundamental impact at the company level. Applying a broad brush to sectors, regions and global trends means lost opportunities for investors.

Richard Mercado is portfolio manager of the Comgest Global Equity Strategy 

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