Of the three secular trends pursued by the Robeco Global ConsumerTrends strategy, the digitization of consumption was by far the strongest in 2017. Consumption through technology and consumption in emerging markets exceeded the consumption of famous brands. In his speech during the celebration of the ‘2018 Kick-Off Masterclass Seminar’ in Palm Beach, Ed Verstappen, Client Portfolio Manager, explained how end-of-year profits confirmed the strength of the digital consumer: “Technology companies such as PayPal, Amazon and MercadoLibre showed strong profits, while the US retail sector shows a general weakening. The commodity consumption sector was weakened in both the US and the European Union, but benefited from the start of new opportunities for mergers and acquisitions. In addition, there was an attractive recovery at the operating level in most companies in the luxury sector. We believe that much of what we have seen in 2017 will be developed in the same way in 2018.”
Growth stocks dominated the markets. Both the FANG, (Facebook, Amazon, Netflix and Google), and its emerging version, the BAT (Baidu, Alibaba and Tencent), are the drivers for a relevant part of the market. Some of the risks that these stocks entail are valuation levels: “Shareholders tend to like companies that offer high levels of profitability, but they also ask themselves, ‘what will come next? Should I take my profits and leave the position, or do I feel that it will continue to grow later? In that case we take a strategic approach, even if it is our favorite company, with a correct trend, we make sure to sell what is showing a false growth, at least partially its exposure. An example would be Facebook; we have reduced its beta in the portfolio, replacing it with Chinese technology companies, which have provided the portfolio with greater benefits than its US counterparts. Facebook, which for a long time was among the top positions of the fund, may be affected by the increase in regulations. The benefits obtained in advertising were especially good, but we can see the problems that the current use that is being given to the Facebook platform can lead to. In contrast, Instagram, one of its subsidiaries, is in our opinion much more promising than the Facebook platform.”
The fundamentals of the largest internet platforms are very solid; in fact, Facebook has experienced 18 consecutive quarters with a profit growth of over 50% Google has reached 31 quarters with organic revenue growth of 20%, its stocks have risen, but the good news is that they are supported at a fundamental level by strong profits and a boost in revenue. Likewise, Microsoft has achieved a growth of its cloud computing business of more than 90% for ten consecutive quarters. “The ‘winner-takes-all’ effect is increasingly felt in the technological platform segment.The dominant companies in the internet sector take the entire market share. But to be honest, this is something that also happens in the luxury sector, where large companies have a good position and weaker companies do not have such a good position.”
The strategy’s investment process is based on finding secular trends that change the world in a disruptive way, but from the macroeconomic point of view, the current environment serves as support: a low unemployment rate, high consumer confidence, and potentially higher interest rates. The US leads in terms of consumption, something logical, as its economy has a greater consumption base. Although consumer confidence is strong, spending has been somewhat depressed, so there is still room for improvement, especially if wages start to rise.
Secular Trends in Consumption
Within the digital consumer trend, Robeco’s strategy focuses less on advertising on mobile devices and more on the video game industry. Historically, the video game business had not had a continuity in profit flow, it was more a matter of hit-or-miss with games’ acceptance, but developers are now focusing on building franchises in the long term. Digital downloads have made the intermediary disappear, which has increased productivity in the industry. “There are new opportunities for monetization in the videogame industry, in which revenues from sales of virtual products or accessories for games, such as new levels, can be increased through micro-transactions. Mobile games offer developers a good opportunity to attract high margins in advertising. In addition, the so-called e-Sports are gaining followers; the retransmission of some finals has reached 36 million viewers. The platforms that distribute these events have seen their number of followers double. Specifically, Twitch.TV, the platform that Amazon owns, has registered more daily viewers than CNN.”
The second trend within digital consumption is retransmissions of online video and through mobile devices. The competition for video diffusion has increased, with a greater number of competitors: YouTube, Facebook, Amazon Prime, etc., while the tendency is that Internet advertising exceeds television advertising. Search engines such as Google or Bing and social networks like Facebook, Instagram and Snapchat obtain more than 70% of their profits through online advertising.
In addition, the third trend in digital consumption, the means-of-payment trend, shows that there is still a long way to go. Cash is still the dominant form of payment, but more and more forms of online payment are gaining ground. PayPal is currently the most used platform in e-commerce transactions. Meanwhile, small and medium enterprises benefit from their innovative payment offerings such as Square, a company that was founded by the creator of Twitter, or Apple Pay; however, the three main payment platforms continue to use the current payment infrastructure, which is why Visa and MasterCard continue to maintain a strong position.
As for the emerging consumer trend, it is expected that, by the end of 2018, China’s retail distribution business will reach domestic sales of $5.8 trillion, the same figure expected for the US. The change in the behavior of the emerging consumer is determined mainly by the increase in the living standards of the Chinese population, which increases their spending on leisure, travel, and luxury goods. The anticorruption campaign carried out by the Chinese government led to a substantial decrease in the growth of the luxury sector, but little by little the sector is experiencing a rebound. The growth of China’s middle class should continue to drive growth in luxury purchases, along with a recovery in consumer confidence in mature markets.
The adoption of online commerce in China is much more advanced than in Western markets. The lack of a well-established physical infrastructure has accelerated the transition to online commerce. Alibaba broke its sales record on Singles Day with sales figures that exceeded those of 2016 by 42%.
Finally, within well-known brands’ trends, companies that have a strong brand presence tend to outperform their competitors throughout the cycle. They usually enjoy a better perception of product performance, greater consumer loyalty, and a more inelastic consumer response in relation to price changes and higher profit margins.