Navigating Markets with MFS Blended Research®: Performance, Portfolio Construction and Outlook

Josh Barton:

Jeff, it's been well documented that it's been a difficult few years for active fund managers, obviously largely because of that concentration issue in the US with the MAG 7 particularly. How have the Blended Research capabilities performed through that environment?

CARD: How have the MFS Blended Research® strategies performed in a challenging environment dominated by the MAG 7?

Jeff Morrison:

Yeah. We've actually done reasonably well to navigate that environment, and it's really because I think of our risk management process that we build into our portfolio construction approach. And we really do, when we're building portfolios, try to minimize benchmark exposures. We really want our alpha in the portfolios to be coming from a stock selection.

And so when we construct portfolios, we constrain them around sector, region, and position sizing. So a stock like for instance, Apple, let's say for instance that Apple has a weight of 6% in the benchmark. Our restrictions on the way we construct the portfolio only allows us to be either plus or minus 1.5% versus that 6% target. So we will either be 7.5 or 4.5 in that. So really if we liked Apple, we would be 7.5. If we don't like it, maximum underweight would be 4.5. And what that does is that really takes away that risk of being underexposed to a segment of the market that dominates like the MAG 7 does.

Josh Barton:

Putting aside some of those risk factors, what are some of the themes or signals or factors that have driven the positive outcome there from a performance perspective?

CARD: What themes, signals, or factors have driven positive outcomes in recent performance?

 

Jeff Morrison:

Sure. Actually, the past five years have actually been quite interesting in that you think of what we had back in 2020. We had COVID, and out of that we had a very strong recovery in 2021. And in '21, it really was more that early cycle of value leadership.

Since then, it's been pretty broadly based in the type of factors that have been working in the models. And so it really has been earnings momentum, price momentum, quality. And while the fundamental has contributed, as you would expect given it's the front half of the business cycle, they haven't been as good as the quantitative models, but then that really meets our expectations. We would expect that to be the case. And so we really have had this really broad leadership from a number of factors, so it allowed us to basically capitalize on our ability to differentiate between stocks, utilizing our quantitative models.

Josh Barton:

You talked a little bit there about the business cycle or the economic cycle. I know that's something that you and the team track quite closely. Where are we today in that business cycle and what sort of factors would you expect to drive performance for the next year or so?

CARD: Where are we in the business cycle today, and what factors might drive performance in the next year?"

Jeff Morrison:

Sure, sure. Yeah. We look at a number of indicators to determine where we are in the cycle. We did do some analysis a number of years back on how factors have historically performed through the business cycle. And for the analysis we used the OECD composite leading indicator, which is a pretty consistently utilized indicator across the world.

And so with that analysis, we are currently in the basically expansion phase of the cycle, and we have been for a number of years. And this typically aligns with leadership from stocks with strong price momentum, strong earnings momentum, as well as higher quality valuation metrics, like price to forward earnings and price to cash flow.

And so that has been pretty persistent over the past four years. There have been pockets of weakness when you get some volatility in the market, but overall, those have been the primary factors that have been driving performance in this expansion phase, and we expect that'll continue.

Josh Barton:

Notwithstanding a lot of volatility this year obviously, equity markets have still generated very strong returns. What are some of the risks that investors should be aware of at this point in the cycle and as we start to think about what's likely to happen from here?

CARD: What risks should investors be aware of at this point in the cycle?

Jeff Morrison:

Sure. Yeah, no, that's a great question. So if you think about around April when we had the Liberation Day tariff announcement, you did see a lot of concern from investors about a potential recession. Because tariffs, while some people talk about the inflationary impact, which there is a one step up impact on inflation, the longer term impact is slower growth. And so a lot of investors were concerned about the economic outlook and the recovery. And so you did see a pretty strong rotation into defensive factors in early April.

As Trump pulled back from the tariff threats and we've actually started to make some deals on trades, that fear has gone away and you have seen a rotation back into the more price and earnings momentum factors. The thing is, is that that recovery from the bottom of April has gotten ahead of itself, and there seems to be a lot of it exuberance in the market today.

I think that what you're going to need to see is really a strong recovery from the earnings side to support the multiples we're at today. With that kind of volatility around the tariff announcements, the outlook for earnings really became somewhat negative because companies were really caught like a deer in the headlights, "Where are we going from here? What's the ultimate tariff impact going to be?" And so analysts were basically cutting earnings estimates.

We're in a situation now where monetary policy continues to be very supportive. The fiscal policy continues to be pretty supportive. And so I think as we go forward, as the uncertainty around trade and tariffs starts to lift, you'll start to see a recovery in those leading indicators as well as those earnings revisions, which I think will sustain the recovery going forward. I think the big risk is if we were to have a real lack of confidence in the outlook around tariffs and trade and it really does go back to that view that we could have an economic downturn, then if that was the case, I think we really have a risk of a slowdown type situation where leadership would probably shift to more defensive type factors and more defensive type leadership in the market.

 

The views expressed here are those of the speakers. These views do not necessarily reflect the views of MFS or others in the MFS organisation. No forecasts can be guaranteed.

 

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