ETF Edge - Merger Monday, ESG Inflows & The China Trade

Episode Date: September 14, 2020

Guest host Frank Holland speaks with Luke Oliver, head of index investing for the Americas at DWS Group, Todd Rosenbluth, senior director of ETF and mutual fund research at CFRA Research, and Steve Grasso, director of institutional sales at Stuart Frankel. They discussed the big tech deals giving markets a boost today, why ESG investing may not just be a mid-pandemic fad and what's behind China's out-performance and how to dig for opportunities overseas. Hosted by Simplecast, an AdsWizz company. See pcm.adswizz.com for information about our collection and use of personal data for advertising.

Welcome to ETF Edge, the podcast. If you're looking to learn the latest insights on all things, exchange traded funds, you are in the right place. Every week, we're bringing you compelling interviews, thoughtful market analysis, and breaking down what it all means for investors. I'm Frank Holland filling in for Bob Bassani. Today on the show, we'll hit on the big tech deals giving markets a boost today. It's the age-old, value versus growth to be. Also, why ESG investing may not just be a mid-pandemic fad and what's behind China's outperformance and how to do. dig for opportunities overseas. Here's my conversation with Todd Rosenblum, Senior Director of ETF and Mutual

Fund Investing at CFRA, Steve Grasso, director of institutional sales at Stuart Frankel, and Luke Oliver, head of index investing Americas at DWS Group. So we begin with the markets. You can call it merger Monday, plenty of big deal buzz driving the tech space hired today between Oracle's bid for TikTok and Nvidia's acquisition of soft banks arm. That's all powering the growth trade, at least for the moment. Last week, Bank of America came out with a note saying that value stocks are actually broken after their worst underperformance against growth stocks in a decade. But over the past month, we've seen stronger inflows into value ETFs with more than $1 billion worth of outflows from growth ETFs like the VUG. That's the Vanguard growth ETF. So is the value trade actually broken?

Steve, we're going to kick things off with you. What do you think? So if you look at history, and I think that's what people have started to look at, that when they're trying to decide on whether the value trap, as it's been called, as of late, will continue. And if tech will continue as the growth engine for the overall markets, if you look at it, value obviously has struggled for a long time. You had a perfect storm of extreme uncertainty, deflation, and 30 years of interest rates that continue to fall.

People are starting to feel as if the deflation cycle is constantly. coming to an end and we'll start to see inflation picking up, or at least with rates, they don't have to move aggressively higher. They just can't move lower. So I think the two of the three drivers that we've seen for the underperformance of value are starting to have cracks in the armor. And if you start to look at where you're – we'll just look at the latest selloff, Frank. We saw growth really take a hit extremely hard.

and we've seen value actually move sideways to fractionally lower when you look at the chemical space, the material space, and the industrials. And I think that's a sign of things to come. I'm going to toss things over to you. Where does CFRA stand on the value versus growth ETF argument? And do rates play a factor in your decision as well? Yeah, so rates are going to play a role here. We at CFRA, when we look at ETFs, we take a holdings basis.

What do we think of the underlying stocks inside the portfolio? from a risk and reward perspective. And then we also take into account performance and costs. We like the growth ETFs, like you mentioned, VUG, that's Vanguard's, one of Vanguard's growth ETFs. We like IVW, which is I-Shares, S&P-500 growth. We just think there's still more upside to be had, especially if we're heading into a cyclically strong fourth quarter for the year.

But there is certainly a value trade. We've seen money, some of the money that went out of growth ETFs, went into value in the past month according to our first bridge ETF data flows, but not all of it. Some of that moved to the sidelines or investors went to be in more diversified. We still think growth has the next leg to go higher. So gentlemen, if you allow me to play a devil's advocate on both sides of this argument, I'm looking at the S&P sectors right now. And you also look at the NASDAQ, that's up about 17% over the last three months. But materials, those are up 20%. And then you look at industrials, those are up just about 15%. So are there actually any value stocks that are undervalued? And, you're

And are there any, is there actually more room for growth just to keep moving higher when you look at the numbers, even after the sell-off? Well, financials is an area that's a heavyweight within the value slice of the, of the ETF. So you get an overweighing within both financials and also utilities from there. And those two sectors have lagged behind. You mentioned industrials. If the economy continues to show potential signs of improvement, then industrials and materials are likely to do better. And you get some exposure to that with value ETI. but it's really a play on banks and particularly the financials in particular.

Steve, what about you? Does that the way you see it as well? Well, so I agree, and I think we both will agree with a lot of things in the overall market. And obviously, growth is no argument that growth has been an outperformer. And just by the sheer magnitude of the percentage of the S&P, it kind of moves the ship back and forth and everything else is the tail. But when you look at names like these chemical names or these paper container board names,

that's what is really interesting to me. We heard FedEx say that they hired 27% more seasonal workers than they did last year, just to satisfy whatever demand that they're going to see coming out of holiday shopping and shipping, where everyone is still buying online versus in-store with the virus. So if that's the case, where are they going to put these products in?

They're going to put them into the paper stock. So I'm long an individual name West Rock, WRK, but when you look at these chemical names, they've been so beaten up and trading a trough valuation, there's really not a lot of positive stuff that needs to happen to have these stocks move up 25 to 75% to rather quickly. Todd, do you have any sectors that you think are especially sensitive to the idea that, number one, we have the holidays coming up with a boost in e-commerce, expected at least, and also the recovery? So we at CFRA take a barbell approach. We have overweight recommendations on information technology and communication services on the growth side of the leisure and more of the defensive side with health care and consumer stable.

So we do think investors need to balance the portfolio. The economy is likely to strengthen, we're likely to see room for growth. But those defensive stocks, when we get a pullback, and ETFs like XLV, which is a healthcare select sector spider, is a good way of being able to play in that, both from a bit of a growth. You get exposure to biotech that's, again, doing well from MNA activities, but also more of a dividend-yielding pharmaceutical companies. All right, Todd and Steve, thank you so much. Great stuff, as always.

We really appreciate you sharing your insight. So perhaps playing off the value growth debate, let's talk about ESG, environmental, social, and governance, which continues to be a red hot engine for ETF investing this year. ESG ETFs, they've seen record inflows throughout the pandemic. And Luke Oliver says this is actually just the beginning. He runs a suite of ESG ETFs, including the X-Trackers S&P 500 ESG ETF, ticker S&PE. So Luke, let me ask you, why is this trend here to stay? Well, thank you for having me on. This trend has really established itself this year in 2020.

And even though the 19 billion has flowed into ESG ETS this year and bringing the total to over 40 billion. And to just put that in some context, there was less than $8 billion in inflow last year. And prior to that, the flows were very scant. And we've also seen a huge amount of new products come to market that offer people access to ESG. So we're really seeing this development.

and investors are really really taking note. And as you said, not only have we had large inflows, we've also seen those large inflows occur persistently through this year. And in a year where we have had a huge sell-off and something like a V-shaped recovery, that's pretty incredible to have a persistent addition to a particular segment of the market. So I think he speaks to the fact that investors are adopting this and they're adopting it less so as a satellite. very specific position, but as something that they'll put at the heart of their portfolio. So that's been really promising. And about 70% of that has gone into large-cap domestic ESG ETS.

So this is certainly becoming very mainstream in the largest benchmarks. And you mentioned the S&P 500. We've also seen ESG come into its own this year and really stand out and show that it can outperform. And we've seen over 200 bits, basis points of performance over the, the regular version of the S&P 500. So it really speaks to the fact that ESG is not just a values-based way of investing, but in fact it speaks to this being very much not a conflict of fiduciary duty. This is a way to analyze companies from a value perspective,

but also from a performance perspective, because these ESG factors are actually quite intuitive when you look under the hood. But as far as what's really creating the catalyst for people, I think it speaks a lot to the news cycle. You can't put on the TV without seeing environmental issues while we're seeing social issues across this country and in others. And we've also had recently some big headlines around firms that have run into trouble with corruption or fraud. And so these are the topics that people are seeing and people are beginning to use. use those values. And with the growth of ESG, they are now able to express those when investing in the market. And as they said, what's changed this year and made this very mainstream

is that access to ESG has shown that you do not have to give up risk and return in order to invest in ESG. And so that mainstream trend is set to continue. And I expect that the growth of ESG not only continues, but accelerates. All right, Luke, some interesting numbers there. Inflows ballooning to 19 billion this year, doubling year over year, and actually outperforming the S&P by 200 basis points. We're going to bring back in, Todd. Todd, what is your take on this as far as ESG investing? Is this a longer-term trend that you see people continuing to put money into? We do. We are at CFRA hearing from our wealth management clients that they're building strategies that have an ESG option for their clients and a non-ESG options. And as firms like DWS and I, I-shares and Vanguard build out a whole suite of products to give exposure to the U.S. large-cap to develop international and emerging markets, and as well as fixed income, it's likely to grow.

And I just want to touch on what Luke mentioned about the outperformance. People think you have to give something up. But S&PE is outperforming ESGU, which is an I-shares develop, I'm sorry, U.S. large-cap product, ESGV from Vanguard, is also outperforming. also in part because of the heavy weightings they have in Apple and other growth-oriented companies, but it just shows that holdings do drive performance, not just the label. So, Steve, turning over to you, we're just looking at some ESG-ETFs, all of them up about a percent and a half today. Do you see that growth continuing long-term, even with a recovery?

Absolutely. And just to echo what the other gentleman had been saying, you're starting to see the momentum in the market definitively in this space. it's just something where if you look back on to Black Rock's Lowry Think, this has been one of his initiatives, and he has said that the top issue for investors has been sustainability. They have $7 trillion in assets. So if someone like a Black Rock starts to dictate direction of the overall market, the rest of the market will follow where he is leaning. and Frank, when you look at the performance of the XLE in the energy space,

I think it's one of the very few ETS that's actually down on a five-year basis. Everything is fossil fuels there. So when you start to look at what investors are looking for, they're looking to avoid fossil fuels. They're looking to get more into solar for the environment. And when you see California now mandating on all the new, builds that they're required to have solar panels, and then there's a push for another nine or ten states to follow suit.

You definitely see where the puck is going, and this is a major priority for investors. My only pushback would be how arbitrary is it going to be for these companies to say that they're ESG? So when you look at these funds and you look at Facebook as a top holding or Apple or Microsoft or Amazon, when you look at Facebook in particular, people can argue that from both sides on the governance issue, as well as other aspects of ESG. So I do believe that this is going to be something going forward that investors are looking for, and I do also believe that there's going to be a debate over what companies are

truly ESG compliant. You know, Steve, that's a fantastic point. I'm actually looking at the SNPE right now. Top holdings are Apple, Microsoft, Amazon, Facebook, and Google. So I'm going to toss this back over to you, Luke. Is there just a stark difference between an ESG investor and someone who's investing in tech or growth or anything else when you look at the top holdings of something like the S&PE being all these big bang names in Microsoft? Well, there shouldn't be a difference. What we want to offer people is the ability to get an exposure to a venture like the S&P 500, but to do it aligned with their values.

And in line with those values, there's potential for our performance. And I think the point made just now about energy companies, you will still find energy companies in these ESG ETFs. It doesn't mean we avoid a whole sector. But what it means is we'll filter that sector and look for companies that are better prepared and better positioned and better performing in ESS terms for the market. So really, this is where I come back to this. There's a capitalist endeavor behind ES and G because they give you companies that are better prepared. We certainly aren't offering someone a, by being EAD, you're not moving to something aggressively active or aggressively away from the benchmark.

We want people to have the risk and return that they're used to, but do it in an ESG fashion. All right, Luke, sit tight. We're going to our third topic. We're really going around the world today on ETF Edge. So finally, despite growing global coronavirus fears and simmering U.S.-China trade tensions, Chinese stocks, they've actually held up remarkably well in the third quarter with a handful of Chinese ETFs revisiting two-year highs this summer. In fact, the Fortune Global 100 list is now more Chinese than American. So Todd, we're going to start off with you. Where do you actually see the

opportunities here? Well, let's just start off with the perspective that if you own an emerging market ETF like I shares IEMG or Vanguard's VWO, you have a heavy weighting. 37% in IEMG, more than 40% based on the latest data that Vanguard is made available for, VWO. So you're already exposed to it, and it's helped to drive the broader market. But A-Share companies have outperformed even better. We're seeing technology companies outperform better. K-Web, which is a crane-shares ETF, which is heavy weightings within the Alibaba and other of those growth and technology-oriented companies are doing well. We think that's a good way to be able to play again. If this growth theme is going to continue, then you want exposure to the

emerging market companies that you can get through some of these ETFs. Luke, going over to you, are there, do you agree that there's opportunities in China and where do you see those opportunities going long term? There's a huge opportunity with China. And I think it's, I think it's universally acknowledged that China will become the biggest economy in the world, not if it will become the biggest economy in the world. And the thing that gets me every time is that investors are structurally underweight China because of historical access issues and liquidity issues. most benchmarks don't even as much China as they should. So those A shares that Todd mentioned are generally under. So there is a big upside which is that.

I mean, we've just, you know, China had its V shape recovery complete by Q2 this year. And it's the only country we think will be back on track to its 2019 levels by year end. Globally, we see 2022. And we've just increased our forecast this year from 1% GDP growth to 2. Now, next year, 2021, we're expecting to be back at 8.5% GDP growth for China. So we think the China's story is incredible. Look, I don't want to interrupt you, but I've got to jump in here. Very interesting numbers and forecast for China, but do those numbers actually factor in the risk of the election and possible trade tensions that may continue?

They do. They do. So there is some tension here. There is some risk with China. Some of that may be cyber-rattling. Some of it may be very real. But what has happened? happened in China that is pretty fascinating is China has shifted to being a self-reliant economy. Over 50% of their GDP comes from consumption within China. So it becomes less reliant on the rest of the world. And that actually, I think, makes it more interesting long term because correlations could remain very low for China and you've still got these higher growth rates to be expected. So from a diversification benefit and the performance, it's very interesting, even when weighing the risk return that we may have.

And it may be outcome dependent, depending on which the election goes. I think there could be slightly different atoms with China. But certainly they're well prepared. And we've seen that China has a somewhat of a – has the liquidity to continue to stimulate its economy. So I think we like China overall for the reasons I said. We also quite like the policy-driven stocks in China because that policy is very accommodated. So yes, it definitely factors that in. It is a risk, but we think there's still a strong upside for China and certainly long-term.

All right, Steve, we're going to give you the last word and let you back clean up here. He was just talking about stimulating the economy in China, but we've seen the American consumer really stimulate this economy. Are you someone that's putting big bets on emerging markets? Are you more focused on equities here in the U.S.? I do think you have to have a balanced approach with every aspect of investing, but it is pretty interesting that we just got off the back of speaking about ESG investing, and then we speak about how positive we are about China.

I think there's two major headwinds. There's the human rights violations in China that are both a Democrat, a concern, and a Republican concern. And when you really look at where we're at there, you also have to think about accounting standards. So that's been a major focus for investors to avoid Chinese stocks and to make them sort of adhere to the same accounting standards that we have here. Having said that, getting back to the original premise of China is recovering,

well, it hit China first. So I would expect them to be first in and first out. having said that, you've got to go to where the large-cap tech names are, because if those are the ones that are sucking up all the oxygen in the room, then you stick with an Alibaba. But the truth is, if you're talking about a recovery in China, then you can't avoid starting to talk about the casinos and their Macau arms. So if you look at Wynn in Las Vegas Sands, Wynn is down 40% year-to-date. they derive 4.6 billion in revenue from Macau. And Las Vegas stands down 23% year to date. And they're at 8.8 billion in revenue from Macau.

So the casinos could see a pretty big whip back, if you will, since they've been underperforming and since they were the hardest hit from the virus. All right. Really appreciate it, Steve. Luke Todd, we really appreciate your insight. That's it for today. I'm Frank Holland and for Bob Bassani. Thank you for listening.

Make sure you tune in next week. and in the meantime, you can tweet us your questions or topic ideas at ETF Edge, CNBC.