However, speculative growth stocks in fast growing companies with P/E multiple that are very high or non-existent due to no earnings have grown so fast, they can be classed as “lottery tickets”.
This is according to Vontobel Asset Management’s Quality Growth Boutique.
Comparing the MSCI AC World Index and the MSCI AC World Growth Index, the firm analysed market returns between the two indices by tracking $100 invested in 2009 to the end of 2020. At the end of 2018, the cumulative difference between the two strategies was just 9%, but that difference widened to 30% over the next two years – a significant divergence.
The popularity of “lottery tickets”
Speaking to PBI, Donny Kranson, portfolio manager at Vontobel Asset Management’s Quality Growth Boutique, says: “There were several different things that went into the starting of the investment trend. One of which is, in a world without growth, people highly value anything that has growth.
“The second thing is low rates and high amounts of liquidity. With low rates, getting cash flows in the future versus today really isn’t that important when rates are tiny. That goes into growth. It’s not profitable today, but it is profitable in 10 years, but if the cost of money is nothing then I’ll get a lot more in 10 years and be happy doing that.
“Liquidity in terms of central banks flooding the system with quantitative easing since the financial crisis 10 years ago also added a boost. It really took off with the stay-at-home lock down where there is even more stimulus going on. Rates are continuing to stay low. This added fuel to the fire.”
Now, there has been a shift and the “lottery tickets” are out of favour.
Kranson continues: “There isn’t always an obvious trigger for why sentiment shifts, there are new things going on now that are contributing to it.
“One is that bond yields are starting to increase in some countries with inflation worries. That’s tied into stimulus over the past year and extra stimulus going on now. Especially in the US, a very large amount of stimulus has just passed and is reopening. All of those things going together mean that that if inflation goes up, then having something in the future is not as good as having something today.
“Some of these lottery ticket companies that have high growth today, but profits are 10 years out, are now worth less.”
The technology lottery
Vontobel gave Canadian technology company Shopify, which helps mostly small and mid-size businesses set up an online presence, as an example.
Based on Vontobel’s calculations, the company needs to grow significantly faster than Amazon did when it was a similar size in order to earn a decent return at the current stock level.
Why does tech garner all this hype?
“Tech is over represented in the group of companies,” Kranson explains.
“Speculation is driven by fast growth and the ability to fail. If you have fast growth, but you’re going to do it only for a few months, that’s not useful. You need to get be able to get big, and many tech companies can grow fast and in large addressable markets. That’s why tech is overrepresented.
“We see companies in other spaces too, in healthcare, specifically biotech companies. And this isn’t just the US, this is global. Other companies that showed up there were some cannabis companies in in North America.”
Kranson concludes: “Don’t view this as a repeat of the tech bubble where many of the companies recently going through an IPO won’t exist in a few years. However, returns from this inflated level will likely give a less than desired return. Investors need to be careful.”