2020 Annual Outlook

How Infrastructure Is Evolving

A renewed focus on projects related to sustainability and climate change
bodes well for infrastructure stocks, despite market pessimism about growth.

2019 has seen a continuation of the 2018 trend of decelerating global growth, but we believe this has likely troughed for key economies – think of it as a late-cycle pause rather than a slide into recession. 

Inflation was missing in action in 2019, and we see no signs of a breakout anytime soon -- which should result in bond yields being lower for longer. During 2019 RARE reduced its long-term bond yield forecasts; we feel there is still a dispersion of market views on this topic, but participants are trending toward a lower yield environment. 

Central banks continue to move to the accommodative end of the spectrum, and we see that trend continuing into 2020, anchoring yields at the lower end of recent trading ranges. We have seen a steady decline in the markets’ expectations for where bond yields will track over time. 

 

Market Forecast of 10-year U.S. Treasury Yield in 2 Years
Source: Bloomberg. Past performance is no guarantee of future results. Indexes are unmanaged and not available for direct investment. Index returns do not include fees or sales changes. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.  

This could lead to a further expansion of earnings multiples for equities as the market factors in a lower cost of capital in the long term.

There is now general acceptance that monetary policy has become less effective, and that central banks don’t have the levers to offset a large downturn. Negative interest rates and QE are not the silver bullet to offset slower growth and virtually absent productivity improvements (jobs growth isn’t resulting in quality-of-life improvements anymore). However, fiscal stimulus has been slow and small in contrast to the slowdown that we’ve seen in global growth (Chinese stimulus, in particular, has been lackluster). We believe this has underpinned the global social upheaval that has been more prevalent in 2019 and will provide the backdrop for potential changes in the political landscape in 2020.

Political uncertainty and the shift toward nationalistic policies and approaches have created uncertainty for corporates and delayed investment decisions. Infrastructure has been spared this theme as regulators continue to approve projects driving near-record asset base growth and giving certainty to future earnings growth across the sector.

 

Market Perspective and Infrastructure Positioning

We are at the latter stages of the economic and market cycle. However, the market has been too pessimistic for growth for 2020 (particularly in the U.S. where in late 2019 we estimate that consensus had a 40% chance of a 2020 recession priced in) leading to a cycling toward growth and value from defensive stocks. We expect this to continue into at least mid-2020. However, we recognise the latter stages of a market cycle are characterised by periods of market volatility, and we have certainly seen that in 2018 and 2019.

The challenges to this upbeat thesis may come from:

  • Underlying macroeconomic data not recovering as quickly as the market expects and hence pressure on earnings growth expectations (for example, in late 2019 earnings growth of 10% for 2020 in Europe seemed optimistic)
  • Continued sensitivity around FX, with the eurozone and China both needing a lower currency, but weaker countries and EMs threatened by a higher USD... currency wars will likely continue ad infinitum

2020 will likely see increasing pressure on public policy from a range different, but connected directions – central banks will want fiscal stimulus for economies, climate change activists will continue to pressure for change, and populist groups will press for governments to ease cost of living pressures and begin to address wealth gaps.  The direction and evolution of public policy will have critical implications for markets in 2020.

The importance of earnings growth and confidence that companies will not disappoint continues to support higher multiples in the infrastructure sector, which are now at the high end of the relatively tight trading range since the global financial crisis. Current multiples appear reasonable given confidence in the underlying growth in asset bases driving growth in earnings, cash flows and dividends across the sector.

 

Key Drivers for Infrastructure in 2020

We have seen a broader global acceptance of ESG principals in investing, with investors actively adjusting positions to take account of this. We believe the market has been too focused on the “E”, with not enough focus on the “S”: 

  • This is creating opportunities where companies operating “dirty” infrastructure are out of favor. For most of these companies, regulators approved the original expenditure and building of, for example, coal-fired generation, and will continue to provide appropriate returns on that investment.
  • An upcoming challenge is the pressure placed on household bills from the speed of changing from fossil fuels to renewables

Infrastructure will likely continue to be in the headlines for all the right (and wrong) reasons. Global initiatives to reduce carbon emissions are resulting in local actions to support the continued development of renewable energy and drive toward greater electrification in the future. Governments are setting targets for renewable-energy-sourced electricity (EU 32% by 2030, California 60% by 2030, Virginia 0% carbon by 2050) and the Bloomberg New Energy Finance researchers expect 80% of new capacity growth through 2050 will come from renewables.

Meanwhile, significant capital is being spent to mitigate the effects of climate change and adapt networks and infrastructure to cope with more volatile climatic events (such as ice storms, wildfires), increase the efficiency of infrastructure (development of electricity storage) and reduce wastage (leaking pipes in water networks). This is driving near-record rate base growth across the sector.

We expect infrastructure to be the centerpiece of several governments' desires to stimulate their economies with the building of infrastructure utilising local labour, local materials and improving the efficiency of local economies.  The U.S. election campaign will likely see “green” infrastructure programs gain momentum.

 



Additional Outlooks
Brandywine Global
Growth in the Slow Lane


Clarion Partners
Cautious Optimism Amid Change


ClearBridge Investments
Consumers Hold the Key


EnTrust Global
Looking Beyond the U.S.


Martin Currie
Shifting the Global Balance


QS Investors
Uncertainty on the Horizon


Royce Investment Partners
Positive Signs for Small-Caps

Western Asset
Resilient Growth, Despite Risks

U.S. Treasuries are direct debt obligations issued and backed by the "full faith and credit" of the U.S. government. The U.S. government guarantees the principal and interest payments on U.S. Treasuries when the securities are held to maturity. Unlike U.S. Treasury securities, debt securities issued by the federal agencies and instrumentalities and related investments may or may not be backed by the full faith and credit of the U.S. government. Even when the U.S. government guarantees principal and interest payments on securities, this guarantee does not apply to losses resulting from declines in the market value of these securities. 

The price-to-earnings (P/E) ratio, also referred to as the earnings multiple, is a stock's (or index’s) price divided by its earnings per share (or index earnings). The forward P/E ratio is a stock’s (or index’s) current price divided by its estimated earnings per share (or estimated index earnings), usually one-year ahead.  

Quantitative easing (QE) refers to a monetary policy implemented by a central bank in which it increases the excess reserves of the banking system through the direct purchase of debt securities. 

FX, or foreign exchange, is a reference to exchange rates among currencies.  

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