Dividends to outpace earnings, private markets to offer best yield in year ahead: Escala

The $6bn boutique wealth management firm expects small cap companies, cyclical sectors and emerging markets – especially in Asia – to outperform in 2021.

Tracey McNaughton of Escala, pictured with Pep Perry: Escala tips dividend comeback in 2021. Picture: Aaron Francis/The Australian

Dividends from Australian listed companies will recover more strongly than earnings in the year ahead, while the private debt, private equity and unlisted infrastructure markets will prove fruitful for risk-adjusted returns, according to a leading adviser to the nation’s wealthiest people.

The $6bn boutique wealth management firm Escala Partners, chaired by former UBS and Citi equity capital markets doyen Brett Paton, says in its annual investment publication for clients, titled “Agenda 2021”, that small-cap companies, cyclical sectors and emerging markets — especially in Asia — would outperform in 2021.

The report, authored by Escala’s chief investment officer Tracey McNaughton, focuses on three key themes: the ongoing income challenge due to the low interest rate environment; COVID-19-driven structural changes in economies and the opportunities arising from these for investors; and the rise of ESG in investing.

“Perversely, we expect 2021 to be exceptionally strong. Economies and financial markets were taken to their extremes by an event that for the most part will be addressed by vaccine development. The global recession will be remembered as the deepest, but shortest recession on record,’’ Ms McNaughton writes in the report.

“With the health crisis now dealt with, economies can start to reopen again. This reopening will be supercharged by the sheer size of government stimulus and the fact that household and corporate balance sheets were for the most part insulated.”

But she added that while the volume of money in the global economy had surged in recent years, the speed of its circulation had collapsed.

“This has put downward pressure on inflation and hence interest rates. Growing income inequality is playing a role here. The upper strata of wealthy households spend a far smaller percentage of their income than the less wealthy,’’ she writes.

“An increase in inequality, therefore, correlates with a slower velocity of money. The very policies used to address the effects of the pandemic have led to a rise in inequality, contributing to a decline in velocity and stymieing inflation. As was the case following the GFC, policymakers protected Wall Street much better than they protected Main Street.”

Throughout 2020, investors in the Australian sharemarket were hit by lower dividend payments, largely due to a more cautious approach by companies in the face of higher levels of uncertainty during COVID-19, regulator-enforced capital retention for the major banks and prevailing high payout ratios leading into the COVID-19 crisis.

Escala investment analyst David Bruty writes in the report that “while not returning to FY19 levels, we expect dividends to show a stronger recovery than earnings this year”.

He says while the forward price-to-earnings ratio of the sharemarket is at an elevated level, valuations do not look stretched “considering both the earnings environment and the expectation that interest rates will remain contained through the year”.

He says Escala entered 2021 with a tactical overweight to the local market.

Ms McNaughton writes in the report that the lower-for-much-longer interest rate environment, made more challenging by the central bank crowding out the private sector in the bond market, is increasing the appeal of private markets for those seeking yield.

Another of the firm’s analysts, Darragh Kennelly, says it is most positive on the outlook for digital and renewables infrastructure.

“The pre-crisis structural growth trends in digital infrastructure will accelerate significantly in coming years. The global cloud computing market size is expected to grow from $US371.4bn ($480bn) in 2020 to $US832.1bn by 2025. Demand to build hyperscale data centres required to facilitate this shift is growing at more than 20 per cent annually,’’ he writes in the report.

“Growth in renewable energy sources will continue in the coming years ... it is estimated that $US3.4 trillion will be invested globally in renewable energy by 2030. We see significant investment opportunities in this area for our clients.”