Barron’s recently caught up by phone with the members of our January Roundtable. Here are the latest investment views and stock picks of Rupal Bhansali, chief investment officer, international and global equities, and a portfolio of manager at Ariel Investments in New York. She is also the author of Non-Consensus Investing: Being Right When Everyone Else is Wrong, to be published in October by Columbia University Press.
Barron’s: What lies ahead for investors, Rupal?
Rupal J. Bhansali: The economy and growth stocks are likely to disappoint. It is time to switch from FAANG to MANG.
What is MANG?
MANG includes two stocks I discussed in my 2019 Roundtable presentation—Michelin [ticker: ML.France] and Gilead Sciences [GILD]—plus Ahold Delhaize [ADRNY] and Nokia [NOK], the A and B.
Ah, you’ve developed your own acronym.
That’s correct. The common denominator of these four stocks is that they are generally out of favor, as opposed to the crowded, overvalued stocks of FAANG [ Facebook (FB), Amazon.com (AMZN), Apple (AAPL), Netflix (NFLX), and Google’s parent, Alphabet (GOOGL)]. I’m a contrarian, but more important, I am an intrinsic-value investor and all of the MANGs trade at 10 to 12 times earnings and offer roughly 4%-5% dividend yields.
And they don’t face regulatory threats, either.
Or competitive threats of the sort that Netflix and Apple are likely to face.
Before we delve into the MANG stocks, let’s talk about the big picture. Why do you expect growth to slow?
People underestimate how much China was responsible for world gross domestic product growth over the past decade, and China is running out of options to boost growth. The popular perception is thatthe slowdown in China is due to the tariff war with the U.S.. The actual cause is the huge pullback in credit growth, which the Chinese economy is addicted to. Starting in the middle of 2018, there’s been a 40% pullback, year over year. This comes in the wake of a more-than-fourfold increase in credit growth over the past 10 years, from roughly $9 trillion in the banking system to $41 trillion as of the first quarter. For perspective, the banking sector’s total assets in the U.S. are about $18 trillion, and in Japan, about $10 trillion. And China has a smaller GDP in dollar terms compared to these two biggies.
How did this happen?
The Chinese government cares about stability. To spur employment growth and enough GDP expansion to allow for the wage inflation that the economy needs, Beijing had no choice but to cause a record level of credit growth. It really was a function of the global financial crisis, which hurt Chinese exports. China was a very big export story. Suddenly, the government had to make China a domestic consumption story. Obviously, to get that, there had to be a lot of retail consumer spending. There also had to be property-sector growth, and consumers had to borrowfor big down payments because prices had gone up so much. The pivot from exports to domestic consumption required income growth, turbocharged by credit growth. Now, we’re seeing the limits of that approach.
2019 Mid-Year Roundtable
The conventional wisdom is that China is a high savings-rate country, but actually bank deposits haven’t risen while bank loans have grown. So the system doesn’t have enough savings to intermediate the credit growth. In the past, China had a balance-of-payments surplus and a significantly larger foreign currency reserve to protect its currency; it has neither right now. And its fiscal deficit is about 4% of GDP.
So China is a mess. What are the implications for the U.S. stock market?
When growth disappoints, stocks tend to correct. The biggest correction will be in the FAANG stocks and other growth stocks, because that’s where disappointment or risk isn’t priced in. I see the overall stock market correcting by double-digits this year. On the other hand, in my preferred MANG stocks, the valuation risk is low.
When the dot-com bubble burst in 2001, some new-economy stocks corrected by over 75%. What worked back in 2001-02 were old-economy stocks such as resources, real estate, and railroads. So, you can still make money in stocks, even if there is a problem; you just need to be in different kinds of stocks—ones that are out of favor, attractively valued, and have low balance-sheet risk. Like those on the list I just gave you.
When do you see this great switch happening?
In the second half of this year. I was the only one in your January 2019 Roundtable to mention that the risk of recession is high. I was pretty much pooh-poohed. Well, now people are putting much better odds on the possibility. Purchasing-manager-index data has been disappointing in the U.S., China, and Germany, and some other indicators look bleak. Back in January, people were waiting for interest-rate increases. Now, they’re looking for cuts. And it has all happened in a very short period of time.
Now let’s go back to the MANGs.
Ahold operates supermarkets in the U.S. and the Netherlands. It is focused on selling fresh food and perishables, the most Amazon-proof items. After Amazon bought Whole Foods in 2017, many food-retailer stocks got clobbered. The expectation was that Amazon would lower prices at Whole Foods. The opposite has happened, making Whole Foods a market-share donor.
Ahold trades for roughly 12 times earnings and sports a 3.5% dividend yield. The company also does share buybacks that are equivalent to another 3.5%. So, altogether, shareholders get a 7% free cash flow yield every year. Ahold has a strong balance sheet. The stock is down about 4%. It is a particularly compelling opportunity.
What do you like about Finland’s Nokia, the former mobile phone giant?
Nokia is misunderstood; it sold the handset business several years ago and now makes only telecom equipment, such as base stations, which serve telephone networks all over the world. As a leading telecom-equipment company, it is a potential beneficiary of the trade war.
The Trump administration wants to ban Huawei Technologies, the Chinese company it thinks spies for Beijing, from Western communications networks. How would this impact Nokia?
Huawei’s loss can be Nokia’s gain. We see double-digit earnings ggrowth ahead for Nokia. Its stock trades at 12 times forward earnings with a 4.5% dividend yield. And the company has a net-cash balance sheet. Nokia will benefit from the rollout of 5G, which is just beginning.
However, earnings can be lumpy, because telecom-equipment capital spending can be shifted out a quarter here or there. The good news is that Nokia already experienced such deferrals and revenue growth disappointment in th first half. The second half is expected to be the start of a multi-year recovery.
Total Return in USD: ML.France=30.9%; ROG.Switz.=13.9%; O2D.Germany=-20.4%
What is your target price for the shares?
Sorry, I don’t give those out. But you’d be hard-pressed not to make double-digit returns on the kinds of investment opportunities my stocks offer.
How about an update on Gilead Sciences and Michelin?
To play defense, individuals are turning to consumer staples and utilities. That is the wrong move because those sectors are crowded and overvalued. Michelin on the other hand is viewed as a consumer-discretionary stock, but its tires are a consumer staple. You must replace them every couple of years. So the company is being valued as if it is a deep cyclical, even though it is a staple.
Gilead also is a consumer-staples company, although it is similarly mislabelled at times. Its cash flow predominantly comes from its HIV drug franchise, which treats a chronic, life-threatening condition; patients have to take Gilead’s HIV treatment for the rest of their lives to stay alive. The stock trades at 10 times earnings and offers a 3.7% dividend yield. Gilead is another consumer-staple stock without a consumer-staple multiple. That is the contrarian opportunity.
Thank you, Rupal.
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