Daniel Crowe, manager of the William Blair Small-Mid Cap Growth fund, has outlined three scenarios he sees resulting from the tariffs announced by US president Donald Trump, and the effects on companies held in the portfolio.
The first outcome is what Crowe terms “noise” but with little response from trading partners of the US. This would be because of the limited actual effects of the tariffs announced thus far.
Crowe said that only 0.1% of US employees are affected by the steel tariff move, while the number of employees affected in companies that rely on steel as an input is just around 1%. Other countries may therefore look at the US administration’s move and decide that it is not so significant after all.
The second scenario involves tit-for-tat tariffs from the EU, China and other countries. This would impact the sectors or companies targeted. However, Crowe noted that his portfolio of small and mid cap stocks is skewed towards higher value areas, which he believes would be less exposed to the impact of retaliatory tariffs. His portfolio does not have exposure to jeans or distilleries, for example, areas that have been mooted by the European Commission for its response. China may decide to hit the aerospace sector, Crowe continues, but while the portfolio does have exposure to this sector it tends to be firms that make products for customers both in the US and elsewhere, for example, both Boeing and Airbus.
In agriculture, similarly, the portfolio is not exposed in any way that would give rise for concern about the impact of the tariff policy announced, Crowe suggested.
The third scenario envisaged would be an all out trade war. However, this would leave nobody unscathed, Crowe warned.
One development could involve a scenario “2.5” by which initial tariffs could be joined by others, thus escalating the effect.
More tariffs would create uncertainty. However, the strategy that Crowe and his colleagues run may do relatively well in such as situation because, he said, if investors start to look at risks attached to individual businesses, that is when the strategy can benefit from the quality of the companies it holds.
Elsewise, there is a need for investors to consider the valuations existing on US companies, he added. The fund he runs has sold companies that are still good and have provided strong total returns, but have reached valuations that mean they are seen as candidates for being sold. Investors sometimes forget the risk/reward calculation, and that creates opportunities for the fund, Crowe said.
Looking ahead on a 12 month basis, he said the portfolio is slightly less expensive then the market.
Besides the tariff challenge, a key development is fast rising input costs for US companies. Surveys of small business owners there have recently shown that they expect significant wage growth. This is a leading indicator of the effects of inflation.
But within this development there is polarisation between those companies that can pass on rising costs of wages, materials and other inputs, versus those that cannot. Additionally, given that rising wages are an indicator of a faster growing economy, those companies that can pass on cost increases to their customers also stand to benefit from stronger demand for their products – something described by Crowe as a double benefit.
Many US companies meanwhile have already built up significant cash reserves. The fund is committed to being fully invested at all times, which means a commitment to keeping cash below 5%, although it tends to be less than that.
Cash is of less interest, Crowe said, because the analysis suggests that investors in the fund get better downside protection from the performance of the portfolio, which outperforms the market when it goes down, than they would by having increased cash holdings.
Also, given the focus on a universe of small and mid cap companies, the significant cashpiles of large cap US companies, including the cash they are committed to repatriating following recent fiscal rule changes, means that expectations of M&A could bring other benefits. Crowe cites some $200bn of cash that the biggest pharmaceutical companies could repatriate. This could go to dividends, but M&A is more likely, he said. This M&A could then target the faster growing Smid cap pharmaceutical companies.
Another general trend to note about the US investing environment ongoing is that there has been a significant move towards deregulation. As measured by the US Federal Register, the number of pages contained therein is down about 30% since the administration came in. The last time this measure of regulation decreased as significantly was during the Reagan administration, Crowe noted.