Market Comment 30/11/2017
Investing in an age of disruption
Technological change is impacting all of our lives at what feels like an accelerating pace - and these dynamics are dramatically impacting financial markets. David Appleton, Investment Director at Cornelian examines the challenges and opportunities technology presents to business and investors.
The most powerful change we observe is the ‘digitalisation’ of the global economy. Industries such as media, communications, retailing and financial services are being transformed as eyeballs and wallets shift online. The dominant digital platforms that now connect billions of consumers to products and services (Facebook, Google, Amazon, Alibaba, Tencent) have arguably become the most powerful companies in the world. These platforms form critical components in a digital ecosystem that has ‘democratised’ trade, extending the reach of smaller companies that historically could not compete with the huge marketing budgets and distribution networks of major brands. The competitive moats and growth prospects of many of the world’s best known businesses that are reliant on traditional scale and distribution advantages look far from certain. Benefits to consumers, however, are tangible and significant – greater choice and competition, lower prices and enhanced utility and convenience.
...management teams across most industries are now enthusiastically embracing technological innovation to unlock meaningful improvements in productivity, customer service, distribution and product design.
It is therefore more important than ever to think carefully about how technology is likely to impact the investments that we make. Indeed, the question ‘will this company be adversely impacted by disruptive technology?’ has been the defining theme for financial markets in 2017. The dispersion between perceived winners and losers has been extreme. The technology sector has materially outperformed global equity markets (Chart 1) while companies and sectors potentially at risk of disruption have suffered significant falls in value. Investors are clearly choosing to sell first and ask questions later, with the collapse of US food retailers’ share prices in the wake of Amazon’s acquisition of Whole Foods Market a notable recent example. Looking forward this polarisation creates a dilemma for investors. Being ‘long tech’ is now an extremely crowded trade and there are many unproven and fragile companies in the sector that have been carried along by the excitement, but have none of the powerful network effects that underpin the handful of truly remarkable companies that dominate the sector. Equally, many of the underperforming businesses that look ‘cheap’ are under structural pressure and are likely to remain unloved without a clear path to sustainable growth.
What is more interesting for us, but is perhaps less well understood, is that management teams across most industries are now enthusiastically embracing technological innovation to unlock meaningful improvements in productivity, customer service, distribution and product design. The falling costs and expanding capabilities of robotics and process automation software is driving accelerating adoption across both manufacturing and service industries. IT costs are being slashed as companies migrate from owning and maintaining under-utilised, expensive on-premise hardware to flexible pay-as-you-go cloud-based solutions. The digitalisation of media, payments, communications, travel, retail and financial services is enabling a shift to a fundamentally superior business model that combines lower costs with superior customer utility. Conventional economic models appear to suggest that productivity growth is dead, however the evidence we see on the ground feels completely at odds with this conclusion. It may well be that amid the current fixation with applying crude characterisations of disruption ‘winners’ or ‘losers’, the widespread benefits of this industrial revolution have not yet been fully appreciated, and may provide the key to sustaining this investment cycle.