2020 Financial Frontiers Reflections & 2021 Outlook
(24 December 2020)
2020 Reflection:
1. 2020 has been an exceptionally challenging year for humankind, dominated by the worst pandemic in a century, which hugely impacted lives and economies. The unexpected turn in global events shook and challenged customary rules and norms, reminding us that these customary rules and norms can no longer be relied on to address the ever-changing global economic landscape.
2. Apart from the devastating COVID-19 pandemic, there has been a multitude of devastating weather-related natural disasters such as the wildfires in California and the floods in China. These natural-disasters cost the world $75 billion just in the first half of 2020. We count our blessings if our loved ones have managed to stay safe throughout the year.
3. On behalf of everyone at FF, I wish to offer my deepest sympathy to the victims of COVID-19; I would also like to take this opportunity to express my heartfelt gratitude and appreciation to all healthcare workers and other frontline workers fighting the battle against COVID-19.
4. As 2020 comes to a close, it is time for reflection. A time to reconsolidate and plan for 2021.
5. In our reflection for 2019, we described the changes that had unfolded between 1Q19 and 2Q19 as that which is akin to heaven and hell as the market had moved with immense velocity and volatility.
6. Reflecting on the events that had transpired in 2020, it appears there has been a high power playing a cruel joke on the world, with the rampage and lockdowns arising from the COVID-19 pandemic. The COVID-19 pandemic resulted in unprecedented market volatility– capital markets were in limbo and collapsed briefly in March.
7. Fortunately for FF, we acted swiftly and decisively upon hearing news of COVID-19 in Dec 2019, when the outbreak just began in Wuhan, China. The team at FF hypothesized the possibility of a worldwide pandemic and the thematic impact on markets if a worldwide pandemic occurred.
8. Eventually, FF zoomed in on medical personal protection equipment (PPE) as one of the most essential goods and services in the event of a worldwide pandemic.
9. FF then strategically deployed a top-down approach to sieve out the various types of medical PPE that would be highly attractive to investments–those that have a high economic moat and are able to command high margins in times of a pandemic. This led us to the medical glove industry. Our preliminary studies showed that 65% of the global supply of gloves came from Malaysia. We were fortunate to be able to arrange for company visits in January 2020 to some of the leading glove players in Malaysia just before the borders between the two countries were closed.
10. The company visits in 1Q20 proved to be fruitful as COVID-19 had proliferated across the globe and there was a high demand for medical PPEs. This resulted in a global shortage of medical gloves. The lead time for medical gloves increased from the usual 30 – 40 days to more than 600 days. This means if the healthcare organization were to order the gloves today, they would only receive it 600 days later!
11. Given the supernormal demand in the medical PPE sector, manufacturers are able to raise their Average Selling Price (ASP) to 4x their original prices. This made the sector even more attractive, as the cost per unit of manufacturing remained unchanged (and even declined due to increased economies of scale) thereby substantially boosting margins. The increase in ASP eventually flowed back to the bottom line of the companies, resulting in record shattering profits and performance for the year.
12. We were fortunate enough to secure the medical PPE theme in the early part of the year, when other funds were scrambling to find an alternative sector to rotate their investments.
13. We see this medical PPE play to be in place until at least 1H21 even as government and medical organizations around the globe develop a vaccine for COVID-19.
14. Even when a vaccine is developed, our channel checks have assured us that the demand for medical PPE will remain high as:
- Medical PPE will still be in supernormal demand because Medical PPE will be used in the administration of vaccines and test kits;
- As a result of the supernatural demand for Medical PPE, global distributors and medical organizations will still be faced with low to zero inventory.
Therefore, related distributors and organizations will be looking to replenish their stocks, while preparing for a potential second or even third wave of the disease; this is especially so during the winter flu season.
15. Beside the medical PPE players, we have also looked at other companies that will benefit from the permanent shift in consumer behavior as a result of COVID-19.
16. We were able to identify the upward trend in online shopping. Therefore, we concluded there would be higher demand for ecommerce and logistic players.
17. This brings us to our second focus for 2020, which was ecommerce and logistic players; In particular, we favored players who would be able to sustain and fuel their growth from domestic demand.
18. We found that China-based ecommerce giants such as Alibaba, JD.com and Meituan would benefit most from the upward trend in online shopping; these companies were also able to sustain and fuel their growth from the domestic China market.
19. Online shopping and food delivery services have recorded exponential growth in 2020 as globally, more consumers are spending more time working from home. This trend has fuelled the growth of ecommerce and logistic/delivery players.
20. Adding to the chaos of 2020 was the US Presidential election. It was generally believed that Trump would be more beneficial to markets, but it was clear by August that Biden (with an agenda of substantially raising the corporate tax rate) was clearly headed toward victory.
21. Trump was unpredictable with his executive orders. He placed several bans on China-linked companies – including the ban on Huawei, forced sales of US arm of ByteDance and restrictions on SMIC. These bans induced more volatility in an already-volatile market.
22. Trump himself faced rising troubles on the domestic front. These included excessive public debt/GDP ratios after the rollout of a massive fiscal stimulus, record levels of unemployment in double digit figures and an uncontrollable pandemic in the middle of the year. These domestic problems among others, led to a collapse of oil prices, a rapid depreciation of the US Dollar and rapid appreciation of gold prices.
23. Given the chaotic state of affairs, the markets became very unpredictable. As a result, many investors have chosen to withdraw their investment and are choosing to stay cash-heavy.
24. In the Chinese language, the word crisis is made up of 2 characters, 危机. The first character signifies danger and the latter represents opportunity. It is my personal belief that opportunities are presented in every crisis and thus my conviction is to discover these rare opportunities notwithstanding the current challenging market condition.
25. When faced with a crisis, it is up to an individual investor’s skill to navigate through the crisis and learn something from it. I remain excited at the opportunities presented to the firm and opportunities in the equities market for 2021.
2021 Outlook:
1. A Biden presidency, Republican Senate and Democrat House (with a thin Democratic majority) is close to the best-case scenario for markets. This political composition will result in a smaller degree of tax increase, and allow only modest scope for large fiscal stimulus.
2. Following Biden’s victory, we expect traditional energy sectors (fossil fuels like oil, gas and coal) to take a hit as Biden will quickly rejoin the Paris climate treaty, and will focus instead on sustainable infrastructure and clean/renewable energy. Biden’s victory will also be negative for health insurers as Biden has actively campaigned to provide a “Medicare-like” government option for health care plans (reducing the need for private health insurance). However, if the Republicans retain control of the Senate (by winning at least one of the two Senate seats from Georgia that are subject to run-off votes in early-January), it will become very difficult for Biden to undertake any of his health reform plans.
3. We foresee that in Biden’s first year of presidency, he will continue to adopt a hard ball approach against China. Although Biden and his foreign policy team (Secretary of State nominee Blinken, and national security advisor Jake Sullivan) have been relatively more conciliatory toward China in the past, they are likely to use toughness with China as a way to strengthen ties with Republican China-hawks in the Senate.
4. Pfizer and Moderna have announced the results of their Phase 3 trials of their respective vaccines on 9 Nov and 15 Nov 2020, with both showing efficacy rates of >90%. Since then, share prices for the medical glove sector have fallen an average of 25%. Nevertheless, we remain forward looking for the medical glove sector prices as we believe that the demand for medical gloves will not taper off any time soon.
5. For 2021, we are optimistic about HK listings. We feel that China’s domestic demand and shifting consumer behavior towards ecommerce spending will fuel a strong recovery into the post-COVID19 era. Sectors of focus include: Semiconductors, Electric Vehicle themes, and ecommerce.