FidelityConnects: Global equities – Trends, opportunities and outlook

[00:02:59] Pamela Ritchie: Hello, and welcome to Fidelity Connects. I'm Pamela Richie. Is the AI U.S. market rally overdone or is it just getting started? Is this concentrated performance driven by a handful of stocks truly sustainable? For investors seeking broader economic representation and diversification the rest of the world may offer compelling opportunities. Joining us here today to share his perspective on the less crowded, lower expectation markets of Europe, China, elsewhere as well, is portfolio manager, Patrice Quirion. Patrice manages several Fidelity funds including the Fidelity International Concentrated Fund and the Fidelity Global Fund. Welcome. So glad to see you. How are you doing?

[00:03:41] Patrice Quirion: Pleasure to be here. I'm doing well.

[00:03:41] Pamela Ritchie: Delighted to have you here. We'll dig into all of those pieces including a peace dividend but we'll get to that in a second. First of all, if everyone wants to send questions in for Patrice over the next half hour or so please go ahead and do that. You've been doing nothing but being ahead of a lot of international trades over the course of the last little while. It's been nothing but international for the first six months of this year. Is that it?

[00:04:08] Patrice Quirion: I don't think so, I don't think so. I like to bring everything into a framework where most patterns will follow some sort of cycle. There are short cycles and there are long cycles. The short ones everyone's paying attention to. The long ones are easy to get overlooked or to get confused with a secular trend as opposed to a cycle. What I've been talking about for over a year now, well over a year, is that I think we are getting to this point where the U.S. economy, it's consumer, it's fiscal spending, it's corporate spending, is starting to look somewhere close to the peak of its cycle. Those long cycles last a long time, as a result, it's hard to have the perfect timing on exactly when that changes. I think this is the picture.

[00:05:02] What's interesting is you look elsewhere, you look in Europe, and especially you look in China, and you can start looking at same main economic players, the consumer, the fiscal side, the government, and the enterprise or the corporate sector, are all closer to a bottom or maybe a little bit more like mid-cycle in Europe, and those eventually revert. You need a catalyst for it to revert. It's really hard to tell when the catalyst happens or had happened. I think if you try to invest with a longer term horizon, which I do, I try to bring it back to that framework. Those cycles, they don't last the first six months of this year, they last for like a decade. We've had a lot of those over time. It was oil in the '80s, Japan in the '90s, the internet bubble in the 2000s, and you had China in commodities, and now we just had the U.S. Is it turning, or has it turned, November 2024? I can't guarantee you that. It's really hard to guarantee anything. But you look at how the markets are behaving and it feels like we have basically turned a corner back then.

[00:06:21] I think you're seeing it from different viewpoints. The performance of China and Europe was really good Q4 last year, Q1 this year, and then we had Liberation Day in early April and after that the market took off and it was led by the NASDAQ. If you skim through the markets in the U.S., the S&P 500 has done well but it is so narrow, once again, especially in the U.S. market, where if you take a broader representation of the U.S. economy, take the S&P 500 equal-weighted, or take the Russell 2000, those broader indicators, in my opinion, than the NASDAQ or the S&P 500 is still lagging. Even on that U.S. recovery post-tariff is still lacking the rest of the world, and pretty much everything. It's lagging China, it's lagging Europe, it's lagging Japan. I feel a lot of people are not really paying much attention to that, they're not talking a lot about that. The fact that you just had this massive relief rally that I think is potentially more than just that, I think there's a lot of momentum, fear of missing out.

[00:07:34] Pamela Ritchie: You're talking about in the U.S. specifically.

[00:07:36] Patrice Quirion: On that rebound in general but it's much more acute in the large-cap tech trade, which is mostly in the U.S. Despite that, the trend underneath the surface, I think, is still intact or continuing, if we can put it this way. To answer your question, I think there is more to go on this. Will it be of the magnitude of what we've seen in Q4 and Q1? Very unlikely. When you hit those inflection points, assuming this is one, those inflection points convergence are very abrupt. They happen quickly, large magnitude but usually they last. What gives me the confidence that it can last is back to that sort of cycle framework, we are still there. Okay, maybe the market's a little bit more optimistic about Europe rebounding from German fiscal spending picking up but this is not the big story.

[00:08:36] The big story is if we were to follow a cycle, we will, the question is when, is it now? But if you get a broad re-acceleration of those economies in most of the rest of the world, which are kind of scraping the bottom, it's going to be much more than one sector. It's going to be broad. You'll get consumer confidence coming back, you'll get supportive fiscal spending, you'll corporate spending following that, and it will last a long time. The same thing, if we were to ever, and I think we will, deflate this AI boom like data centres, semiconductors, GPU, electric power need, all of that is so correlated in the U.S., ever starting to be questioned on, not questioned will it happen, questioned on is the pace on which we are sustainable.

[00:09:30] Pamela Ritchie: And is it overpriced at some point.

[00:09:33] Patrice Quirion: Exactly. I think the benefit of that international diversification which from a diversification risk management perspective, I don't think anyone doubts that there is always a benefit to that.  By the way, it's not only geography, it's within sectors and within investment style. There's always merits to be more broadly positioned. I think what people forget, or what people in a lot of cases have been accustomed to, is that cost of reducing my portfolio risk by being into sectors that have not done as well or in countries that have not done as well, it drags my returns down. I think we might be at this point where maybe that diversification not only reduces your overall risk and reduces, I think, what is becoming an overexposure to one big AI thematic, it's not representative of the world economy, in a way. I think we might be at this point where there will be benefits also for the returns of your investments to be diversified away from it.

[00:10:39] Pamela Ritchie: You're mentioning 2024, last year, this is in Q4, actually, China went mad. A couple of the huge companies just caught a wind and it was a massive leg up. That was something that you've been interested in, I think, all through that. You caught that, basically. Then through the beginning part of this year it was Europe, it was all Europe, you also caught that. I guess the question is, in terms of positioning do you come back to the U.S. a little bit? How do you look at that?

[00:11:11] Patrice Quirion: Just to put that in perspective, I caught that but it was more pre-positioning. On my framework--

[00:11:17] Pamela Ritchie: It's a bit crude the way I put that.

[00:11:20] Patrice Quirion: --those are the areas that look mispriced. The market has given up on some of these companies, and it provided good opportunities. It was hard to tell exactly when it turns but when it turns, I want to be there before it turns. I try to pre-position the portfolios, trying to take advantage of those exaggerations that the market creates. There was a lot of that last year. I still think there's a fair bit of that today, less extreme.

[00:11:49] Pamela Ritchie: With China, with Europe?

[00:11:49] Patrice Quirion: Yeah, I think Europe is looking less mispriced than it was, to be fair. I still it's more compelling in a lot of cases. Lining up a U.S. multinational versus a European multinational, the European stocks tend to still trade at a discount. Again, we're still lower in that cycle but it's not as extreme of a divergence as we had last year. How do we adjust, how do we adapt when we get big movements like what we've seen in April, for instance? The bottom line, the portfolio is still, in majority still positioned the way it was. Back to my point it moved, maybe it feels like a lot, in six months but I don't think it's the end of it. The portfolio was still there. I think we need to be nimble and try to take advantage of some of the big moves and readjust our weights.

[00:12:43] In April what we've seen with Liberation Day, the big tariff shock, it may come to a surprise to a lot of people, but not truly a surprise when you understand how the market works, the stocks that came down the most during that week, more or less, are not the companies that were exposed to tariff the most. The stocks that came down the most were the most crowded, long positions.

[00:13:08] Pamela Ritchie: That people could sell and make money and get out.

[00:13:10] Patrice Quirion: Exactly, where the faster money is, where when it's risk-on you buy this, when it's risk-off you sell it as fast as you can. That was in tech. As a result, one of the biggest drawdowns in terms of sector was the technology sector. I remained careful. We could go as far as talking about analogues between what we're seeing on AI now and what we saw with the internet in 2000. I'm still very careful on the hardware piece of that massive build-out phase that we are now.

[00:13:44] Pamela Ritchie: The picks and shovels piece?

[00:13:45] Patrice Quirion: Yes. But there are some great software companies that I would love to own that were just too expensive, too high expectations, but that April gave us that opportunity to buy. If you look in the top 10 of the Global Fund you'll see Microsoft and Alphabet now showing up in the top 10. It's not from last week, it's from back in April, where I think these are more like software. They are AI exposed to some degree but I think they're more on the application side or the cloud side, not to say there's no risk but I think the price got right at that point. Stocks have rallied massively so something that I am considering again. Does it still make sense? Clearly, it makes less sense than it did three months ago  but they're still in top 10 as of latest disclosure.

[00:14:41] Pamela Ritchie: Coming back to what you said at the beginning, that sometimes these big shifts happen over, possibly, a decade and you were giving some examples of that, if this was the turning point, if you caught it a couple of times, you're still there and you're telling us that this might be the piece where the diversification comes in for a very concentrated U.S. market, what does everything else look like? You've mentioned China, you've mentioned Europe, those are just two areas. We also talk about other parts of the EM, for instance, maybe the Middle East, I don't know. What is an interesting place that you're looking in now for later?

[00:15:19] Patrice Quirion: Those remain the two main areas. We can talk about smaller geographies, in general, they won't have as much of an impact. Japan is still meaningful from an international context. I think we need to be very selective in Japan. I was there a few months ago. I think there's opportunities around improvements in corporate governance. I think maybe the biggest opportunity is around financials now that we have inflation that appears to be sticky, interest rate expectations that appear to be anchored at, potentially, too low of a level, including a Bank of Japan that is still, I think, very hesitant to raise rates sufficiently, still afraid of deflation. I think all of that has the potential to accept the new reality of maybe a permanently inflationary environment in Japan. If that happens rates are going to go much higher than the 50 basis points we're at today. That could be positive for the banking sector. This is one area that I've been spending much more of my time since, call it the beginning of the year.

[00:16:33] If we go in the rest of the world in emerging markets, I mean, there's always opportunities here and there. The reality is none of them are really that big in the global construct to move the needle in a material way. There are some bits of opportunities in Southeast Asia, a little bit of exposure in the portfolio, mostly around the consumer there, a little bits of commodity exposure through Australia where there's a little bit of a exposure in a portfolio. Let's think about the world as, really, it's the U.S., it's Europe and China and then you sprinkle a little bit of other stuff but this is not what's going to make the difference at the end of the day.

[00:17:13] Pamela Ritchie: Within Europe one of the things that's getting discussed, because there's this massive summit on Friday between Putin and Trump, no one really knows exactly what's going to go on there but there seems to be some hope and some prospects for a path to peace in Europe. What would that mean? This is essentially talking about the reconstruction of places that have been war zones and certain companies will benefit from that. Are they big companies? Are they small companies? Is this a regional opportunity? Is this a global multinational? How does it fit?

[00:17:46] Patrice Quirion: Part of the story around what could further improve the sentiment and the fundamentals, ultimately, on Europe, we don't feel it here in North America but the conflict in Ukraine still weighs quite a bit on consumer confidence, corporate confidence. There's still an energy price premium in Europe as a result of that. There is also a market discount that's still in place, I think, not exclusively for that but partly because of that. We saw what happened early this year where there was hopes of coming to some resolution. Trump had promised a quick resolution on that. Obviously, it didn't happen but it depends what your time horizon is. If your time horizon is the next month, I cannot stand here and tell you this will get resolved. If your time horizon is in the next five years, I think the odds of that conflict getting resolved is fairly high. The fundamentals will improve but the first benefit will be sentiment on Europe from an investor standpoint will improve. The euro might improve. There will be short term benefits from that. Is that what I'm looking for? Not really.

[00:19:01] What we're looking for is always company analysis, which companies will benefit from the implications of peace, reconstruction of Ukraine, maybe reduction of the energy price premium, maybe broad consumer confidence improvement. The good news is, like in Europe, the defence thematic, for instance, this is really well appreciated by the market. I think, this is in the share price. You can't buy those companies saying defence spending is going up, everyone knows that. What you can probably do is buy European construction companies or consumer somewhat discretionary companies where because it's still somewhat uncertain of when will the economy get better,  when does the reconstruction pick up, as a result, those stocks are not trading on very high expectations. If things get better the stocks should do better. It's not all in the price. This is mostly what I'm trying to do. It's usually more on the smaller company side.

[00:20:07] Pamela Ritchie: This is super interesting because this is not a multinational story, necessarily.

[00:20:11] Patrice Quirion: The reality is, if you look at the multinational, be it in Japan or in Europe or in the U.S., by definition, they sell everywhere across the globe and most places across the globe. It's really hard to buy them saying, oh, I will get this exposure to construction in Eastern Europe or Germany picking up because the exposure is going to be de minimis. If you can find that local construction company, that local chemical company, that local bank, that local whatever, apparel retailer that might benefit from improved sentiment, then you can have much more of an impact on the portfolio, but you need to go find it. You need to do the work, what's the risk-reward on that, what's priced in, what's not,  what's the exposure, what's the potential benefit? But you can do it as opposed to if you just say, oh, I'll buy Europe, I'll buy the MSCI, EAFE Index or MSCI Europe index, well, then you end up with a bunch of big pharma, bunch of big...

[00:21:14] Pamela Ritchie: Like I said crudely before, you saw what was happening in China and you caught it and you said, well, I caught it because I had done the pre-work and that's what's happening now in the European discussion.

[00:21:24] Patrice Quirion: It's always our job. A lot of that work in my case, in our case at Fidelity, a lot that work has been done already. For me, I'm waiting for that to happen at this point. We're just doing our work in other areas. Now, maybe that will come a little bit as a surprise to some. It's not in the portfolio so I don't want you to draw conclusions but where I'm spending more of my time is on U.S. consumer stocks, there's a fair bit of them where things have been tough for a while. I know you look at the S&P 500 and you conclude, oh, everything is great but back to my point earlier, you look at the Russell 2000, it's been challenged for a while here and there were pieces in that that have been more challenged than others. I'm not saying this is a time to buy all of that, but this is the pre-work that we're starting to do.

[00:22:26] Pamela Ritchie: Wow, that is absolutely fascinating. There's a couple of questions coming in. I think you sort of answered it earlier. Are you seeing opportunities in South America, Argentina, Brazil? I think you said no but just why not?

[00:22:38] Patrice Quirion: Looking for opportunities, Brazil is going through a very important, interesting period where the fiscal story, the fiscal deficit story, is going to be, potentially, a global problem. Brazil is one of those countries that is suffering from it at the moment, in the past year, and becomes an increasing question mark. We've seen interest rates moving up to, I forget the exact number, I think 14% or something dramatic, despite inflation not being a big problem. This is, potentially, if you invest for the next quarter it doesn't matter. If you invest over the next decade, which I think should be the case for most people, we need to start being very careful about those fiscal looming, growing risks on, sadly, the vast majority of countries. Brazil is in the heart of that right now which makes things more difficult but if we can find companies that are not so exposed, and it's hard, because then the government may need to take extraordinary taxation measures to bring income. I'm not exposed there but on weakness, I'm interested. This is not where I'm spending a lot of my time.

[00:23:59] In South America, places like Argentina, there was a lot of hope that things could change. I think there's still some of that that applies and I think especially on the commodity sector, it's a country that desperately needs to export to get U.S. dollars in. That's the source of the problem of a lot of these emerging market episodes or failures over time. They just import too much things, don't export enough. Argentina is filled with natural resources. There's opportunities to export some of them. In the past there was no framework, legal framework, tax framework to attract foreign interest to develop it. Now we are. There is actually one portfolio company,  I own Lundin Mining which is a copper producer mostly in Chile but they have a big project potentially going ahead in Argentina. So there are ways to play but, again, this will always be at the periphery of what's really happening between U.S. and China and how Europe fits into that.

[00:24:58] Pamela Ritchie: And who, ultimately, gets some of those contracts on one side or the other. Let's talk a little bit about the discussion of big versus small. This is the size of the companies themselves. You talked about it for Europe, something more local and a bit more nimble could really see a catalyst and be able to run with it. On the flip side, when you look at multinationals in this trade environment there's a discussion of all kinds of pay to play within the U.S. economy. If you're a multinational in Europe, to then have access to the U.S. there's some pay implications, and even if you are a multinational located in the U.S. and you wanted to do business outside you also get kind of dinged both ways. I'm just curious how you're looking at, I know individually but the small versus large companies that may just have less tariff issues.

[00:25:48] Patrice Quirion: I would address that question in two ways. I think in general, if I was to pick more of a smaller, mid-cap exposure versus a larger mega-cap exposure as a style factor in a way in the portfolios now, I'm much more inclined to go on the smaller side as opposed to the larger side. I think the valuation differences are, large-cap tends to be more expensive in recent years, it's not always the case, and now I feel it's exaggerated. Part of it is because the construction, it's back to that maybe high expectation, high valuation crowding in the tech sector that's part of it but it's not the only part of it. Even if you go totally outside of what I just described and look at large-cap retailers versus small-cap retailers, there is what appears to be an unusually high premium on the large-cap side versus the smaller companies. My portfolios tend to always be more ... I'm totally market cap agnostic. I can navigate across. I have a little bit of exposure to all but especially in recent years I've been much more tilted towards, call it the mid-cap range, the $5 to $50 billion market cap type of businesses. I think more of them seem cheaper, more mispriced.

[00:27:05] The most important point is easier to find, call it idiosyncratic stories within smaller companies which are less diversified. If you want to get that exposure to German construction or to the Chinese travel trend you can do that through some of these, not necessarily small but more mid-cap, sizable market leaders in their niche but not necessarily trillion dollar market cap companies. So, yeah, I think there is that, and on your point around multinationals versus more local companies, this is something that ... it appears that there is that maybe continued headwind on ... deglobalization is a big word but more barriers to either tariffs but also, as you mentioned, we just saw a few days ago the U.S. administration wanting 15% of Nvidia's and AMD's sales of chips to China. This morning China says no, Chinese companies are allowed to buy those chips because we want to support — well, they didn't say that but I suspect because they want to support Huawei developing a competing product, which they're getting closer to.

[00:28:22] Pamela Ritchie: There's walls going up there, there's wall.

[00:28:23] Patrice Quirion: That's a great way to describe it. The walls are going up, tariffs or other, which makes it potentially more challenging for companies that derive a lot of their profitability from operations overseas. I wouldn't say it's a direct consequence of that, the way the portfolios I manage are positioned, but this is the thought in the background that just raises the bar a little bit for me to get excited about a multinational that will likely have to deal with all these kinds of issues going forward. If it's in the price, that's fine, I'm okay. I'm contrarian, I'm willing to go against the tide but it needs to be in the price. I'm not sure it's in the price yet.

[00:29:11] Pamela Ritchie: That's so, so interesting. How would you close out and sort of wrap up the diversification piece of what your funds offer to, essentially, back to narrow, concentrated markets in the U.S., actually, that's sort of where we're back to. What do your funds and your style of investing offer on the other side, as a closing remark.

[00:29:29] Patrice Quirion:  I'll leave it a little bit to what we discussed. I think we might be, I can't guarantee it, but it appears we might at that inflection point where that decade of U.S. exceptionalism is looking peakish. While the rest of the world may have ... I think you need to be selective but I think there are loads of opportunities. Those markets are not overpriced in aggregate. Fundamentals have the potential to get better. Capital has the potential to continue to flow back. Yes, I am optimistic on the relative basis on international markets more so than North America. Then I think we'll need to, again, depending on your time horizon, I think we need to ask ourself, is there too much concentration in that narrow part of the market that becomes at risk, especially on the AI, hardware, infrastructure build, that has a lot of market cap, that has a lot of correlation with meme stocks, with cryptocurrencies, with everything that the retail investor typically touches, all of that, if it unfolds all of that unfolds. There's no valuation support anywhere in sight.

[00:30:41] I think the international benefit is not only to capture potential opportunities but, I think, also plays a role in potentially protecting you against what I think will be an eventual reversal of that melt-up that we've seen. I think to do it in a more contrarian way, not only in terms of geographies and sectors but also in terms of style, none of that has really worked in a big way for a very long time. We're starting to see signs that this is starting to work a little bit better but if we are truly at this point, and that's what I'm positioned for so you can read it for what it's worth, I think it has a long way to go and people will really change their view of what portfolio allocations they may want to have and just try not to do it when it's too late. It will be my message because the tendency is to react on the late side as opposed to being proactive, and I'm all about being proactive on the other side, even at the cost of being a little bit early sometimes.

[00:31:45] Pamela Ritchie: It's fascinating to hear you discuss what we might be at the beginning of. Thank you so much for your time today.

[00:31:50] Patrice Quirion: Thank you.

[00:31:52] Pamela Ritchie: Patrice Quirion joining us here on Fidelity Connects. Coming up tomorrow, we will bring you best practices when it comes to cybersecurity tools. Imran Ahmad is senior partner at Norton Rose Fulbright Canada. He's also co-head of Information Governance, Privacy and Cybersecurity. He'll be back on the show here and he'll be letting you know what clients can do to implement strategies related to cyber threats.

[00:32:15] On Thursday, Audrey Kim and Francois Jack, investment analyst for ETF Capital Markets. They'll be here to share the latest ETF trends, insights and developments in Canada, plus helpful ETF trading practices. That show will include French audio live interpretations. You can join us in either official language.

[00:32:33] On Friday equity research associate, Connor McGrath. He explores the latest developments shaping Canada's insurance and real estate sectors from evolving consumer needs and digital innovation in insurance. Connor is going to break down where the risks and the opportunities may lie in the months ahead. Thanks for joining us here today. We'll see you soon. I'm Pamela Ritchie.