The reflation trade will accelerate further under a Biden presidency, according to what Philippe Gijsels (photo), chief strategist at BNP Paribas Fortis. Commodities, EM equities, small caps and cyclicals all offer exposure to it. But that does not mean one should dump growth stocks.
‘The reflation trade had already started under Trump, when the Modern Monetary Theory took hold. Central banks will continue to buy considerable amounts of assets. Biden has rolled out a $2,000 billion recovery plan and will therefore pump even more money into the system. So the reflationary trade is bound to continue, in our view,’ says Gijsels.
Gijsels expects interest rates to rise somewhat, but not by much. ‘Central banks will do what is necessary to keep nominal interest rates under control. Meanwhile, real interest rates will remain deeply negative. In such an environment, you need commodities, cyclicals, small caps and emerging market asset equities.’ By the way, the latter category has been doing much better than the S&P 500 for a month, as the chart below shows.
Commodity bull market
The so-called Blue Wave reinforces this dynamic, Gijsels believes. ‘Therefore I think a position in [industrial] commodities is also warranted. For the first time in a very long time, all stars are now aligned for good performance. Most commodities are quoted in contango, which means that the long-term price is higher than the short-term price. The price curve is therefore upward sloping. Because of the contango, traders have to roll over to the next future every month or every three months. This is particularly harmful for investors in derivatives and ETFs that own these commodities via futures. So in my opinion, the best way to invest in commodities is to buy a basket of large commodity companies. You can also supplement this with smaller players for diversification.’
‘For a long time, there have been far too few investments in raw materials,’ Gijsels continues. ‘It is also increasingly difficult to obtain environmental permits and the like. In my opinion, there will be severe shortages of nickel and copper and all the metals that go into an electric car. Just look at Elon Musk’s plea, who would do anything to get his hands on nickel.’
With demand from China, an improving economy and the large demand for batteries, mostly for electric cars, there’s a strong effect on the demand side. ‘But for the first time since 1972-1973, there are now also bottlenecks on the supply side,’ notes Gijsels. ‘I think that is the recipe for a powerful bull market in commodities. In addition, you are in a bipolar world revolving around China and the US, making security of supply increasingly important. Commodities that are easily accessible are becoming a must. That puts pressure on the supply chains, which also has a price-enhancing effect.’
‘In addition, I believe that the gold mining companies are extremely cheap compared to the price of gold. Often these companies have been unprofitable due to failed and expensive acquisitions and megalomaniac management, but I think the market will be positively surprised by their profit potential.’
Barbell strategy
By focusing on cyclical sectors, one might think that Gijsels avoids long-duration stocks such as technology. But that’s far from being the case. ‘As I said, I don’t think interest rates will rise too much. Look at Netflix, for example, which rose sharply recently due to a strong increase in subscribers. We are applying a barbell strategy in which there’s still a place for technology companies. A portfolio without technology is like a car with three wheels, in my opinion. Even with slightly higher interest rates, the discount rate at which these future cash flows are calculated back to the present continues to play particularly strongly in favour of these growth stocks.’
Nevertheless, Gijsels’ team is cautious in the short term. ‘Things have moved very fast recently, and it is time to lower risk. The BoFa survey among fund managers shows that they are very willing to take risk, and that’s always a warning sign.’
