11 October 2023, Gulf News
There are those who say the markets are able to anticipate the impact of war better than individuals, given the ‘wisdom of crowds’. And the fact that markets are complex, adaptive second-order engines.
If so, then the immediate response of the markets has been to largely shrug off the events transpiring in the Middle East. Its obviously too early to say, but this is the stuff of headlines. And the increase in volatility churns out a number of narratives, as short-term traders opine on immediate market moves and what that means for investors at large.
We also read about extreme events and what that means for investors. Given the background of high inflation, the ‘dash for cash’ story amplifies in volume, as risk-off sentiment starts to take over. At the other end of the spectrum, we have those who distinguish between ‘group think’ and ‘crowd think’; the former comprised of varying opinions and the latter dominated by the herd.
Predictably, lost between these two extremes are what the companies and assets are themselves being valued at. It is this critical variable that investors should always be looking at. In the last 23 years, investing in the S&P500 alone would have led to annualized return of 4.94 per cent. With dividends being reinvested, that would have increased to 6.89 per cent – or nearly a 40 per cent increase in the value of the portfolio.
Investing in the dividend aristocrat index would have further increased the annualized return by 1.14 per cent, underlying the importance of dividends. This was done in an environment that was largely against the backdrop of zero interest rates. In prior periods, the contribution of dividends has been as high as 55 per cent. Of course, dividends are not the only factor in choosing stocks; the primary variable has been that of valuations, and it is here the impact of zero interest rates has been felt the most in Western equity markets.
With a fixed income market that has shifted dramatically to valuing ‘term premium’, and mortgage rates soaring to new highs, it is but natural that valuations will compress. With market experts such as Jeremy Grantham stating that no one in their right mind should be investing in the US markets at all given their current levels.
UAE’s investor dynamics
In the UAE and the Middle East, valuations have been significantly more attractive. As we kick off a new period of earnings, the case for generating superior returns going forward is only going to strengthen. The returns over the past few years, and in the case of the IPOs, have amply demonstrated this case.
This is not to say that every stock is undervalued or that the markets will not become overvalued.
The case rests on the privatization, the restructuring of the pension schemes, and the ability of the companies to recognize the importance of cash flows (both as generative to earnings as well as in the form of distribution to investors), not just in times of market distress or high inflation but over long periods of time.
It has become widely accepted that in Dubai and the UAE, real estate is the asset class of choice for most investors. The increase in liquidity as well as market coverage has largely crowded out corporate news events. There can be no denying the increased activity that has transpired in the capital markets, and as momentum builds, liquidity follows. And so does the ecosystem around it with analyst reports and media coverage that goes beyond the latest quarterly numbers.
In the immediate term, sentiments will sway with what is going on in the Middle East tensions. There might well be market setbacks, as anxiety manifests itself. But there has been no one who has been successful betting against Dubai and the UAE.
The skeptics existed in the real estate market not too long ago, only to be replaced by those in the capital markets. These are opportunities to buy, and defensive plays such as DEWA as well as opportunistic plays – Aramex and Union Properties – abound in the marketplace. In the final analysis, valuations (whether in equities or real estate) will always be the anchor that investors should focus on.