Value Column von Hans Peter Schupp

1. DECEMBER 2023

„Stock markets 2023 will not be easy, but will be good”

The year 2023 is casting its shadows ahead. Especially for the stock market, the current year has been one of the worst in a long time. But, what’s next? To be honest, there are two souls living in my chest here. We will certainly see a slowdown, or decline, in gross national product. That will then have an impact on corporate profits. I think we can assume that we are on the verge of a recession. But I see more of a small dip, even though it will be a recession by definition.

The focus is on companies with a low P/E ratio.

The consequence then is that cyclical and especially energy-dependent companies will suffer more than, for example, service companies. But this is already priced in to a large extent for many cyclical stocks. In general, it is negative for equity investments when earnings weaken and interest rates rise. But if you look at earnings, that’s only one aspect. The development of interest rates is much more important. An example: If I buy a company today with a P/E ratio of 1, 2 or 3, then I can hardly go wrong. But if I buy companies with high earnings expectations, then I am not only taking a profit risk, but also an interest rate risk. The present value of the future profit stream will be worth much less.

On the positive side, investors are currently finding companies with a P/E ratio of less than 5. That is absolutely promising. There are currently companies that are in the middle of a downward trend, i.e. whose profits are expected to decline. We find that extremely exciting, because when things start to look up again, these companies have tremendous leverage. Salzgitter with a P/E ratio of 1.1, a K+S with 1.7 or Eni with 2.8. The profits will indeed be reduced. At the same time, much of this is already priced in, otherwise you wouldn’t have a P/E ratio of 3 or less.

Be cautious with highly valued companies

However, some companies are still highly valued. All it takes is a few negative surprises and the share price plummets. Let me give you an example. If you had 40 to 45 billion euros, which company would you buy? BASF, Munich Re or Ferrari? All three are currently worth just over 40 billion euros. In the case of BASF and Munich Re, bad news is already priced in and the companies are relatively fairly valued. Ferrari, however, has a P/E ratio of over 40. The company builds great cars, no question about it. However, there is a high risk that the next quarterly figures will not be so good. The risk that the share price will then collapse is correspondingly high.

Let’s take a look at the development of interest rates and inflation. From the point of view of value investors like us, the low inflation of the past, and thus the low interest rates, were the reason for the poor performance of value stocks. On the other hand, it is important to note that inflation definitely remains an issue. The wage-price spiral has already started across the board. Inflation won’t necessarily stay at 10 percent, but it’s not going to get back to the two percent we used to have over a long period. So the interest rate environment has changed. In addition, globalization was one of the reasons for the low price increases in recent decades. This trend has now stopped.

Positive surprises are being rewarded again

Another issue that will continue to influence the markets is the political component, as we see a kind of bloc thinking emerging again. To give an example here as well: The prohibited Chinese stakes in companies such as the Port of Hamburg or Elmos would not have been a problem a few years ago. Qatar was allowed to buy into Daimler and Deutsche Bank. And the Chinese BAIC Group holds 9.98 percent of the shares in Mercedes. Things are different today, and this trend is more likely to intensify. There will be no Chinese takeover like that of Kuka in the foreseeable future. In addition, companies have learned painfully over the past two years that relocating production can lead to supply bottlenecks.

Nevertheless, why are we optimistic about the stock market year 2023? Well, it certainly won’t be an easy year and we’ll probably continue to see high volatility. But most of the negative factors are already priced into current prices and we find a whole range of stocks that are very excitingly valued. In addition, many companies have adjusted to the new situation with rising interest rates and high inflation rates, as the latest quarterly figures have shown. Therefore, positive surprises are being rewarded by the stock market again. And that drives share prices.

Translation for convenience only!

The author: Hans Peter Schupp is a board member of FIDECUM AG and portfolio manager of the Contrarian Value Euroland fund.