Thomas McMahon
For 2023, I went for AVI Japan Opportunity (AJOT). The trust had a pretty good year, although the share price didn’t quite manage to keep up with the NAV. A lot of my rationale was correct: I picked Japan to outperform, and it has indeed done even better than the S&P 500. Changing interest expectations and the reopening of China have played a part in this, although probably the most important reason was overseas investors coming to realise how significant the corporate governance reforms are in the country. There has been a flood of money into cheap Japanese companies as a result. Unfortunately for AJOT (versus Topix), this has mostly gone into the more liquid large-cap space so far. Whilst AJOT’s returns of 15% are impressive, they have been behind the returns of the large-cap index. Nonetheless, I think 2023 was very much a coming-of-age story for the corporate governance angle in Japan, and I expect AJOT to continue to do very well out of it for years to come.
The right call in investment is often the uncomfortable one. It was hard to buy BP and Shell in late 2020, and hard to buy big tech in Q4 2022, but both would have been excellent decisions. I think buying US small caps could be a similar play, and for this reason, I am picking Brown Advisory US Smaller Companies (BASC) to outperform in 2024.
A huge alligator mouth has formed between the magnificent seven tech stocks and the rest of the US market. It could close in one of two ways: the tech names crash or the rest of the market rallies, and I think whilst most have been positioned for the first outcome, the second is increasingly looking likely. Everyone loves to bash central banks, but the Fed does look like it may have engineered a decline in inflation without crashing the economy. Now, there may be a problem arising in that high nominal growth could boost inflation, which could lead to cries for the Fed to reverse course and hike rates once more. But I think this is unlikely for three reasons. The first is that I think the Fed will reason (correctly) that any temporary uptick in inflation will not threaten a rerun of CPI at 9%. These extreme levels were the result of the global boost in demand following lockdowns, the energy price surge following the Russian invasion of Ukraine and (although I expect they will be less keen to admit it) the extraordinary largesse of the Biden administration.
Idealists may wish to avert their gaze, as my second reason is that I expect the US establishment to do anything they can to prevent Trump from winning the presidency, including the Fed. The chances of Biden winning, or any Democrat who may run in his stead, will plummet if the US falls into recession, and so I expect the various Federal Reserve governors to keep rates low for fear of causing economic misery to the voters. The third reason is that I think inflation is likely to be muted by a struggling Chinese economy which continues to be the main source of demand for commodities. This should reduce the pressure on the US consumer.
So, I think the picture is good for US growth, and I think a combination of high valuations in large caps and the prospect of rate cuts to come will see a rotation into small and mid-caps. The P/E of the Russell 2000 Index (excluding ex-growth companies) is 14.2x, which compares to 21.5x for the all-cap Russell 3000 Index. BASC looks for quality growth companies so there could be some stylistic support as the market prepares for falling rates.
Thomas McMahon
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