Coronavirus outbreak and the retail and hospitality sectors

The global impact of COVID-19 remains a moving target. As can be seen in Exhibit 1, depending on the success of social distancing, various scenarios could evolve in the coronavirus outbreak. In the recent Epidemiology of the Markets perspectives, Ivy Investments framed the debate and the ongoing analysis of the volatile investment landscape as a function of three main factors: 1) public health impact, 2) macroeconomic impact and 3) market impact.

Below we expand on our investment team’s insights regarding investment implications in the U.S. consumer sector. Our research emphasis continues to scour the landscape of U.S. consumer product and services businesses, with a view towards framing permanent versus transitory interruptions to earnings and cashflows.

Retail, transportation and hospitality employ more than 25% of the private sector workforce

A negative impact in the U.S. from the social distancing initiatives is beginning to take hold. For the week ending April 11, initial jobless claims jumped 5.3 million. Cumulatively, total job losses related to the coronavirus crisis currently stands at approximately 22 million. We see the impact of the lockdown being more pronounced in certain sectors including retail, transportation and hospitality. For example, as illustrated in Exhibit 2, the weekly retailers’ sales survey for the week ending April 9 dropped to 24.1 (a number above 50 indicates an expansion of activity, while a reading below 50 signals a contraction), the lowest level since 2008 as store closures halted sales in many places.

Chart Showing COVID-19 U.S. Scenario Analysis
Chart Showing COVID-19 TESTS PROCESSED BY CDC AND U.S. PUBLIC LABS
14-Day Predictions – April 6-19, 2020 — April 6-19, 2020
Chart Showing 14-Day Predictions – April 6-19, 2020
Chart Showing 14-Day Predictions – April 6-19, 2020

Source(s): RBC Capital Markets research; CDC reports.

The retail, transportation and hospitality sectors combined employ more than 25% of the U.S.’s total private workforce¹. Currently, the disruption due to the COVID-19 pandemic is fluid and uncertain, but forecasts by some associations help in understanding the potential impact the outbreak could have on the real economy.

Exhibit 2: Evercore ISI retailers' sales surveys
4-week average as of April 9 – 30.8
Chart Showing Evercore ISI retailers' sales surveys

Source: Evercore ISI, as of April 9.

Forecast unemployment to soar to 15% in the second quarter

According to forecasts by the National Restaurant Association, the industry may lose up to seven million jobs if the restaurants are closed for three months². U.S. Travel Association and Tourism Economics estimates by the end of April there will be 5.9 million travel-related job losses in the U.S.³

In the latest employment data, non-farm jobs declined by 701,000 in March. While the loss in jobs was broad-based, the restaurant sector accounted for most of the drop. The unemployment rate increased from 3.5% to 4.4%, the largest one-month increase since 1975. Despite the recently passed $2 trillion fiscal stimulus bill⁴, our base case forecast is for unemployment to jump to 15% with upside risks in the second quarter.

Growth forecasts revised significantly lower

With the above backdrop, we have significantly lowered our global growth forecasts. In the U.S., on an annualized basis, we are penciling in a quarter-over-quarter contraction of 35% in the second quarter. For the year, our base case (around 60% probability) is for U.S. gross domestic product (GDP) to record a negative print of 4%. Meanwhile, globally, we are now forecasting GDP growth to fall by roughly 2%. Given the uncertainty around COVID-19 and recent data, risks to our forecast are tilted to the downside.

What does this mean for investors?

Overall, while tragic, we continue to believe COVID-19 may be a transitory event that will allow us to invest in companies for the longer term at more attractive valuations. Some industry participants are likely to experience permanent damage from the abrupt economic shutdown. Even if the unprecedented fiscal and monetary stimulus can bridge the gap for companies, we think consumer behavior is likely to take time to return to pre-virus norms, and any recovery may unfold in stages. Will the highly levered businesses have enough cash to weather the storm? Or, for those that have thrived, can recent success be sustained under more normal conditions?

As fundamental investors, our common framework across strategies is to evaluate the long-term earnings power of business models. Part of that is developing an understanding of which businesses are strong enough to endure or even emerge with bigger footholds, and which are likely to succumb. In retail and hospitality, below are our main ideas:

In retail, mass merchants such as Walmart and Costco are likely to have a favorable risk-reward profile in the initial phase of the outbreak when most consumption was centered around stockpiling. As we move on to the next phase of the virus, in which the economy is hurt due to the increase in unemployment and job losses⁵, we may see dollar stores such as Dollar General and Dollar Tree perform better. Off-price retailers such as TJX Companies and Ross Stores may have some tailwinds from the pandemic supporting them, as we think the crisis will likely leave a glut of apparel supply on which these off-price retailers can capitalize.

Cyclical companies such as Home Depot and Lowe’s may be interesting once we weather the economic slowdown. We believe housing is one of the sectors that tends to bounce first as the economy recovers due to its interest-rate sensitive characteristics.

Meanwhile, e-commerce companies, such as Amazon are likely to benefit as well, as more people avoid stores where people congregate, instead choosing to go online for their needs. We view this pandemic as a catalyst for further e-commerce adoption, especially for online grocery, where consumers will likely stick with their new-found convenience even when the crisis is over.

In consumer staples, many companies are benefitting from COVID-19-driven pantry loading, proving the sector to be a hiding place in times of market uncertainty. Centerof- store companies such as Campbell Soup and General Mills that have exposure to some of the historically outof- favor categories, such as canned soup and ready-to-eat cereals, are witnessing strong sales momentum with sales up more than 30 % in March. Beyond pantry loading, if a prolonged economic slowdown hits, we think most packaged food companies will continue to benefit as at-home food consumption is likely to pick up during recessions. Overall, we have seen the center-of-store packaged food stocks hold-up up better compared to the rest of the consumer staples pack. As fundamental investors, our job is to understand if these trends can persist and become permanent, or if they represent artificial and short-term earnings growth.

In household and personal care, we have seen companies such as Clorox and Reckitt Benckiser as potential beneficiaries from the coronavirus outbreak cycle as demand for the products (disinfecting and cleaning wipes) has remained strong and is likely to remain high through different stages of COVID-19.

In textile and apparel, athletic and performance brands are likely to be defensive investments as compared to luxury and fashion-oriented brands. As the world becomes more casual, there have been secular tailwinds supporting demand for products from companies such as Nike, Adidas, and Columbia. Moreover, athletic and performance brands benefit from geographical diversification. There is a new demand for athletic products from emerging markets as the middle class grows and people, because of lifestyle changes, purchase more athletic wear. Additionally, these companies have stronger and more successful e-commerce businesses because of their business model and broader ecosystems (such as Nike Training Club app, Adidas Runtastic), which is helpful in the current environment in which more people are shopping online. In our view, many of these athleisure business models were attractive pre-crisis and are poised to emerge even stronger on the other side.

In restaurants, quick-service restaurants with a strong drive-thru, take-out, delivery sales channels, and valueoriented meal offerings have outperformed other restaurants. Companies such as Domino’s have benefitted because of their strong captive delivery system and the perception of good value in pizza as consumers look to save money. Casual dining (full-service restaurants) is a category more challenged by COVID-19 due to state-mandated closures of dining rooms, which typically account for 80% or more of sales. Companies like Darden Restaurants (owner of concepts such as Olive Garden, LongHorn Steakhouse and The Capital Grille) that have healthy balance sheets stand to gain market share as the financial pressures from temporary store shutdowns and weakened consumer demand force many competitors to close.

The above insights into the Ivy Investment team’s perspective on the U.S. consumer landscape frame some of the analysis underlying a broad range of strategies, including in the areas of large-cap, mid- and small-cap and fixed income.

Market dislocation provides opportunities

We believe the COVID-19 outbreak is likely to be a transitory event. While unfortunate, we believe such passing events lead to risk-off market environments, providing us opportunities to seek to take advantage of near-term stock price dislocations to invest in long-term advantaged business models. Looking ahead as fundamental investors, we continue to look for opportunities by laying greater emphasis on the fundamentals and quality of asset classes and sectors.


Chart Showing covid-19-page-image

Stay up to date on the latest financial impact of
COVID-19

COVID-19 updates


1. https://fred.stlouisfed.org/release/tables?rid=50&eid=4881&od=. Total of 33.7 million people

2. https://www.nrn.com/operations/national-restaurant-association-congress-... billion-losses-and

3. https://www.hospitalitynet.org/news/4097744.html

4. https://www.bbc.com/news/world-us-canada-52033863

5. For the week ending March 21, initial jobless claims jumped to 3.28M, a record high number.

Past performance is not a guarantee of future results. The opinions expressed in this article are those of Ivy Investment Management Company and are not meant to predict or project the future performance of any investment product. The opinions are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. It should not be assumed that investments made by any Ivy Investment product will match the suggested performance or character of the investments discussed in this article. Investors may experience materially different results. This commentary is being provided as a general source of information and is not intended as research or as a recommendation or advice to purchase, sell, or hold any specific security or fund, or to engage in any investment strategy. Any securities discussed herein are presented in a fair and balanced manner and were chosen based on objective, non-performance-based criteria, and securities discussed may or may not be held now, or in the future, by any Ivy Investment product.

Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon.The information included in this article is based upon information reasonably available to Ivy Investment Management Company (IICO) as of the date of this article. Furthermore, the information included in this article has been obtained from third party sources IICO believes to be reliable; however, these sources cannot be guaranteed as to their accuracy or completeness. No representation, warranty or undertaking, express or implied, is given as to the accuracy or completeness of the information contained herein, and no liability is accepted for the accuracy or completeness of any such information.

This article may contain certain “forward-looking statements,” which may be identified by the use of such words as “believe,” “expect,” “anticipate,” “should,” “planned,” “estimated,” “potential,” “outlook,” “forecast,” “plan” and other similar terms. All such forward-looking statements are conditional and are subject to various factors, including, without limitation, general and local economic conditions, changing levels of competition within certain industries and markets, changes in interest rates and availability of leverage, changes in legislation or regulation, and other economic, competitive, governmental, regulatory and technological factors, any or all of which could cause actual results to differ materially from projected results.

Risk factors: Investing involves risk and the potential to lose principal. International investing involves additional risks, including currency fluctuations, political or economic conditions affecting the foreign country, and differences in accounting standards and foreign regulations. These risks are magnified in emerging markets. Fixed income securities are subject to interest rate risk and, as such, the value of such securities may fall as interest rates rise. Securities of companies within specific industries or sectors of the economy may periodically perform differently than the overall market. Investing in companies involved primarily in a single asset class may be more risky and volatile than an investment with greater diversification.

The impact of COVID-19, and other infectious illness outbreaks that may arise in the future, could adversely affect the economies of many nations or the entire global economy, individual issuers and capital markets in ways that cannot necessarily be foreseen. In addition, the impact of infectious illnesses in emerging market countries may be greater due to generally less established healthcare systems. Public health crises caused by the COVID-19 outbreak may exacerbate other pre-existing political, social and economic risks in certain countries or globally. The duration of the COVID-19 outbreak and its effects cannot be determined with certainty.

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CIO Insights - Epidemiology of the markets

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The global impact of COVID-19 remains a moving target. And with the retail, transportation and hospitality sectors employing more than 25% of the U.S.’s total private workforce, the consequences on the domestic economy are uncertain. The Ivy investment team provides insight regarding the investment implications in the U.S. consumer sector.

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- Depending on the success of social distancing, various scenarios could evolve in the coronavirus outbreak.
- Our research emphasis continues to scour the landscape of U.S. consumer product and services businesses.
- Forecast unemployment to soar in the second quarter.
- We believe COVID-19 may be a transitory event that will allow us to invest in companies for the longer term at more attractive valuations.

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IVY INSIGHTS – U.S. ECONOMY: BACK IN BUSINESS?

IVY INSIGHTS – U.S. ECONOMY: BACK IN BUSINESS?

Commentary as of April 20, 2020

Dan Hanson: It appears the market is looking broadly through a flattening of new COVID-19 cases to a reopening of the economy. To date in April, we've seen the best one-month returns in decades, and the best two-week period since the depths of the Great Depression. With the “Great Lockdown” beginning to wind down, as investors, we need to balance this view with the reality that we still need to get through the earnings hole.

From the outset, we have been framing this environment in the context of three pillars: the public health impact, the economic impact and impact on the markets. It is hard not to look at this environment without including a fourth factor: political implications. The decision to reopen is not just science driven; there will be political influence as well.

As we digest all this information, we see the market discounting getting back to normal. We still expect volatility to persist, because we still have uncertainty. Charlie Munger was quoted in the Wall Street Journal this weekend, and to paraphrase, everyone acts as if they know what will happen, and in fact no one really knows what will happen. We would echo that sentiment by saying great investment results require a balance of arrogance and humility: arrogance to have a view that we can deliver long-term outperformance driven by bottom up, fundamental insights, and the humility in recognizing the markets are fairly efficient. That balance comes out in asset allocation decisions, through portfolio managers sticking to their knitting, and executing proven philosophies and processes. We're not looking to generate alpha by calling the next data point: we're calling on the long-term disciplines that have driven alpha over full cycles. We expect continued elevated volatility, which supports remaining broadly invested and heightens the risks to not following through on long-term disciplines.

How has this anticipation about reopening the economy influenced your views?

Derek Hamilton: The market is starting to shift toward what the process of opening up really looks like, and we'll likely have fits and starts. Europe is already moving that direction, with Germany leading the way by allowing small retail businesses to reopen. Others will phase in over the course of the next couple weeks. Masks and social distancing will be a part of this reopen, but at least they’re moving this direction.

The U.S. is moving toward a gradual reopening as well. Roughly half of the U.S. population is scheduled to begin reopening around the first of May. This will be very limited at first, and social distancing measures will limit the number of customers in a shop or restaurant, but we are moving that direction. We expect to see decent U.S. gross domestic product (GDP) growth in the third quarter by historical standards.

One aspect of the reopening to highlight is antibody testing. New York is going to start conducting these tests on a limited basis today. This is one of the milestones states will observe when thinking about reopening, because it is a good way to see how much of the population could be immune to this virus. Even with more testing, there is still a lot of uncertainty. If we experience another severe outbreak later in the year with a second shutdown, we'll have to revise our expectations lower.

It is important to understand the original goals of the shutdown and social distancing measures, too. Initially, the lockdown was intended to prevent our healthcare system from becoming overwhelmed. As we gradually reopen, there is the chance the future potential shutdowns aren't as broad or severe. Our healthcare system may be better prepared, depending on the efficacy of newly developed treatments and more widespread testing.

We have also been looking at how much slack is in the economy. If you consider the productive capacity of the U.S. economy, and where activity is relative to that capacity, that's called the output gap. It helps us understand the depth of the recession and what is required to get back to more normal levels. Even if we do have a sharp snapback in the third quarter, our forecast shows the output gap at around 6% of GDP, which is as large as it was in the Global Financial Crisis.

Putting this shutdown into perspective, we still expect bankruptcies to accelerate, with fewer jobs available to U.S. workers. The healing process will take time: it will likely take a couple of years to return to where the economy was before the pandemic.

As the country starts to reopen, what industries are likely to benefit first? How will it impact unemployment claims going forward?

Derek: The industries that have been hardest hit in this downturn are retail, hospitality and restaurants. Using what other countries are doing as a template, we could expect a gradual opening of small retailers followed by restaurants. There are likely to be limitations on how many customers can be shop or dine at a time. However, these businesses will be coming off an environment where sales were zero, so the change is likely to be most noticeable there.

As we move that direction, unemployment claims could start to come down rather quickly. There are two unemployment claims numbers reported every week. The first is initial claims, which have totaled more than 22 million claims in the past few weeks. We are likely to see those figures drop fairly rapidly as business activity resumes. The second measurement is continuing claims, which measures the number of people that receive unemployment benefits. We believe that figure will show a more gradual decline.

What are some of the implications for manufacturing and potential on-shoring as a result of this environment?

Derek: Any movement of manufacturing back to the U.S. is likely to happen in phases. Items that are vital, like pharmaceuticals, are likely to be brought home as quickly as possible. A second phase could be more focused around security of supply chains. Some supply chains will, at a minimum, be more geographically diversified, if not brought home entirely.

An outlier is the outcome of the elections in November. Will a return of manufacturing be mandated or voluntary? This is certainly a net negative for China, but all manufacturing won't leave. They still need to meet domestic demand, and China will still be a regional manufacturing hub for emerging consumers in that part of the world.

How would you characterize valuations at this point?

Dan: At the end of the day, investment returns are all about long-term earnings power relative to the price paid. As fundamental investors, we think about valuations bottom up, company by company. Today we think valuations are fairly balanced and support sticking with long-term disciplines and allocations. Earnings for the broad market are likely to drop around 30% year-over-year. And, that would be consistent with other historical peak-to-trough drawdowns. Looking at prior cycles, it typically takes at least a couple years for markets to return to prior peaks, which reflects the nature of the economic cycle. In the current environment, while near-term corporate earnings are plummeting, for high quality businesses with sound balance sheets, we see a relatively negligible impact on long-term earnings power. And we see the magnitude and breadth of stimulus measures supporting a recovery in corporate earnings.

Regarding valuations, the puts and takes include:

  • Don’t fight the Federal Reserve. We have enormous fiscal and monetary support not just in the U.S., but around the world.
  • It’s not if, but when we will exit the “Great Lockdown”. We expect reopening, combined with fiscal and monetary stimulus, to support a sharp inflection in economic growth in the third quarter, from decline back to expansion.
  • Low interest rates around the world, which we expect to persist, highlight the opportunity cost of sitting in cash. Further, prior market cycles have illustrated the high costs of sitting on the sidelines. These factors may have helped support the rebound in stock prices over the last few weeks.

Past performance is not a guarantee of future results. This information is not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through April 20, 2020, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This information is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon.

Risk factors: Investing involves risk and the potential to lose principal. Fixed-income securities are subject to interest rate risk and, as such, the value of such securities may fall as interest rates rise. International investing involves additional risks, including currency fluctuations, political or economic conditions affecting the foreign country, and differences in accounting standards and foreign regulations. These risks are magnified in emerging markets.

The impact of COVID-19, and other infectious illness outbreaks that may arise in the future, could adversely affect the economies of many nations or the entire global economy, individual issuers and capital markets in ways that cannot necessarily be foreseen. In addition, the impact of infectious illnesses in emerging market countries may be greater due to generally less established healthcare systems. Public health crises caused by the COVID-19 outbreak may exacerbate other pre-existing political, social and economic risks in certain countries or globally. The duration of the COVID-19 outbreak and its effects cannot be determined with certainty.

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Ivy Sector Insights – Industrials

Ivy Sector Insights – Industrials

Commentary as of April 17, 2020

“Shelter in place” orders have put the brakes on almost all forms of transportation. What are we seeing in these industries?

Airlines. We believe it’s generally accepted that it will take time before airline flight schedules and capacity return to normal. Right now, these companies are suffering. Flight bookings, including cancellations, were down greater than 100% for the week of April 6. Domestic capacity is down about 80%, while international capacity has fallen 100%. Airlines are crucial to keeping the economy moving, so once consumers and businesses returns to some semblance of normalcy, the industry needs to be available. The comprehensive Coronavirus Aid, Relief, and Economic Security (CARES) Act includes about $25 billion in grants to the airline industry, which should provide support in the near term. A second package will be available in September, but this relief is likely to be in the form of loans rather than grants.

The industry is experiencing a nearly complete shutdown, with companies experiencing a zero-revenue environment. Our analysis focuses on a company’s liquidity position and cash burn, while relying less on and topline numbers. Airlines are high fixed cost businesses, with considerable labor and capital costs. It can get ugly quickly under these circumstances. Our analysis typically favors higher quality carriers with solid balance sheets, which could be crucial at this time since the lower quality companies will need to contend with higher debt on balance sheets from possible government loans and lower revenues. We believe more “bargain” carriers could have a harder time recovering from this downturn.

Autos. Car sales were trending downward before the COVID-19 pandemic, but now are simply abysmal. The seasonally adjusted-annual rate of sales is typically around 17 million per annum, but is projected to fall to near four million. On top of that, every auto manufacturing factory in North America has been shut down. The larger manufacturers have impressive stockpiles of cash, but these same auto makers will burn $25 billion in cash in the next two months, so liquidity is a concern. Companies that have access to capital markets or have recently raised capital appear to be in a better liquidity position, and could be set up to outperform on the other side of this cycle. One positive note, China is beginning to reignite its economy, so companies with reasonable exposure to China may be in better position than those only with U.S. exposure

Trucking and rail. Trucking stocks have fared well. There are few big players in the space that could likely survive this environment. These companies have the ability to handle large capacity, which we believe could be pushed to the brink in the next couple of quarters. In addition, railroads are likely to experience a volume headwind, but may be positioned well for long-term success due to recent cost-cutting initiatives and from the benefit of operating as a regional duopoly.

Another area in your universe of coverage is insurance. Are there segments within the industry that are in better spots than others?

There are primarily two types of insurance: property and casualty (P&C) and life. On the P&C side, the majority of people currently are working from home. They are not driving as much right now, which is an ideal environment for these insurers. This has led to some insurers returning premiums to customers in part to avoid possible backlash from state insurance commissioners in the form of rate reviews, and possible reductions. Once rates are lowered, it is hard to raise them again, so many insurance companies view one-time payouts as a more attractive option.

Conversely, life insurance companies are facing multiple headwinds. As the COVID-19 mortality rate climbs, these companies are seeing an increase in death claim payouts. In addition, this is all happening in an extremely low interest rate environment, which impacts the profitability of these companies’ investment portfolios. If rates remain low for a long time, that will create a meaningful headwind for life insurers.


Past performance is not a guarantee of future results. The opinions expressed are those of Ivy Investments and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon.

Risk factors: Investment return and principal will fluctuate, and it is possible to lose money by investing. Securities of companies within specific industries or sectors of the economy may periodically perform differently than the overall market.

The impact of COVID-19, and other infectious illness outbreaks that may arise in the future, could adversely affect the economies of many nations or the entire global economy, individual issuers and capital markets in ways that cannot necessarily be foreseen. In addition, the impact of infectious illnesses in emerging market countries may be greater due to generally less established healthcare systems. Public health crises caused by the COVID-19 outbreak may exacerbate other pre-existing political, social and economic risks in certain countries or globally. The duration of the COVID-19 outbreak and its effects cannot be determined with certainty.

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Industrial companies are among the hardest hit by this market downturn. We discuss the current state of planes, trains and automobiles.

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Ivy Sector Insights – Information Technology

Ivy Sector Insights – Information Technology

Commentary as of April 16, 2020

In the current scenario, what are the factors impacting technology stocks?

As bottom-up investors, our job is to seek out companies that have risk-reward in our favor through a market cycle. This has become especially important in the current environment. Until January of this year, financial markets were at an all-time high and the pundits were battling about what would cause the next slowdown and market correction. And something completely unexpected did – the spread of COVID-19.

In our view, there are companies in every sector that have resilient business models – no matter the environment. Through bottom-up research, we seek to find and invest in these types of companies. In terms of technology, we believe the following three factors are most important in the current environment:

  1. Global supply chains: We expect to see global supply chains becoming less concentrated and less reliant on a few countries. Balkanization – companies bringing supply chains closer to their customers – has been underway for a while. This was a center point during the U.S.-China trade dispute and, considering the recent COVID-19 pandemic and the disruptions it caused, global supply chains will likely remain an important factor for companies.

    As supply chains move away from lower-wage countries and closer to the customers, we expect automation to be a major factor supporting this transition. We are leveraging this trend and are investing in companies that are in the value chain of enabling and supporting automation.
  2. Evolution in demand: The spread of COVID-19 has shaken the global economy. Currently, a record number of people are filing for unemployment. In such an environment, consumer and corporate demand will probably face headwinds in the near term and the demand profile for the second half of this calendar year remains uncertain.

    At the same time, a new trend has emerged – a large proportion of people are working from home. This has increased demand for cloud computing, endpoint security equipment, an upgrade of the work-from-home IT environment (new PCs, new screens) and many other areas. As such, we believe technology companies exposed to this trend will clearly see tailwinds and we are opportunistically looking to gain or increase exposure in such secular growth companies.
  3. Changing consumer behavior: With the increasing adoption of the internet and online activities, consumer behavior has been changing. This change has been accelerated by COVID-19 in which many activities including education, health care and conferences have become remote. We hope to take advantage and invest in companies that are in the value chain of supporting this transition.

Which are some companies that you are investing in?

We want to invest in companies that smartly allocate capital and act as shock absorbers in our portfolios, and are backed by secular trends, rebounding when financial markets recover. We believe that analog semiconductor companies, foundry stocks and infrastructure providers have a favorable risk-reward profile with limited downside risk in the event of an extended down-cycle and a rebound from secular tailwinds when the macro picture begins to improve.

  1. Foundries: Companies such as Taiwan Semiconductor Manufacturing Company (TSMC) that manufacture semiconductor chips are a key part of the global supply chain and it remains a stock with steady compounder characteristics in the technology ecosystem. TSMC acts as the foundry of the world and it enables most devices that have silicon inside of them including smartphones, servers, automotive electronics, industrial automation, PCs and tablets, and many more. As silicon intensity rises, TSMC benefits with its diversified manufacturing strategy, its dominant market share advantages (>60%), its execution in node transitions (7nm/5nm/3nm and beyond), and its sustainable capital allocation.
  2. Semiconductor analog companies: Companies such as Texas Instruments and Analog Devices design semiconductor chips that act as the bridge between the physical world and the digital world. These companies remain resilient through semiconductor cycles for a whole host of reasons. They have long product life cycles, numerous market segments, difficult to replicate technology intellectual property, complexity of design and process technology, a deep bench of experienced design engineers, low capital expenditure requirements and enviable margin and free cash flow profiles. For example, the average product life for Analog Devices (ADI) in its industrial end markets is 20 years with almost no price erosion. This creates formidable barriers to entry and makes them attractive long-term investments.
  3. Infrastructure providers: Companies such as Amazon, Alphabet (Google) and Microsoft that provide the infrastructure enabling the adoption of remote activities are part of another segment we believe may see demand through COVID-19 and on the other side of the crisis as well. Most of these cloud infrastructure providers extensively use semiconductors such as memory chips (dynamic random-access memory (DRAM) and NAND), graphics processing units (GPUs), and central processing units (CPUs) and other chips, which benefit the semiconductor supply chain.

At Ivy, we have the institutional wisdom of portfolio managers and research analysts who have covered the technology sector for multiple decades. And through active debate and regular conversations in our daily morning investment meeting, we aim to identify long-term investments that benefit our shareholders.


Past performance is not a guarantee of future results. This information is not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through April 16, 2020, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This information is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon.

The impact of COVID-19, and other infectious illness outbreaks that may arise in the future, could adversely affect the economies of many nations or the entire global economy, individual issuers and capital markets in ways that cannot necessarily be foreseen. In addition, the impact of infectious illnesses in emerging market countries may be greater due to generally less established healthcare systems. Public health crises caused by the COVID-19 outbreak may exacerbate other pre-existing political, social and economic risks in certain countries or globally. The duration of the COVID-19 outbreak and its effects cannot be determined with certainty.

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Ivy Sector Insights –<br/> Information Technology (Software)

Ivy Sector Insights – Information Technology (Software)

Commentary as of April 15, 2020

Portfolio managers are thinking about how they adapt their portfolio to the new environment, with greater probability of recession and earnings reductions. There's certainly a chance that things get a lot worse, though there's certainly a chance that we bounce back.

In this environment, we believe software is currently an attractive area. Video games put a large strain on broadband consumption a few weeks ago, with many people staying home and playing games. One of the risks we're seeing is the epicenter being focused on small businesses. There are a number of software businesses that sell into that market, so we're trying to be cautious with some of those companies.

If you look back at time periods where the market was stressed, performance of software has been pretty impressive. The most recent time period for comparison was the 2008-2009 recession. Stocks were down, in some cases, 60% or more. Earnings estimates were revised much lower. Software held up much better than the broader market, and when the market recovered, software continued to perform well.

In a down market, software companies typically protect earnings better than most companies. In a recovery, investors tend to like these types of business models and have the opportunity to buy shares at depressed valuations.

In today’s environment, we're thinking about valuations – what expectations are reflected in prices. Looking at price/sales, median has gone from 8x in January to 5.5x today. However, valuation dispersion has been very wide. It peaked in mid-March and has come down a bit, but there are still big differences between the most expense companies and the peer group median. When valuation dispersion is wide, the most expensive group tends to underperform the average or median company. So, we want to be careful with the companies we're recommending, knowing some are quite expensive relative to alternatives within the group.

One risk to note within software is small businesses. A lot of software companies are focused on providing payroll software, accounting software or payment processing software. Many of these businesses have completely shut down. We're encouraged by the stimulus package, and we'll watch how small businesses are able to weather the current market environment. Our approach is to look at the companies with an understanding there is a wide range of outcomes, and trying to find the businesses that aren't pricing in a perfect recovery, or something that is pricing in a more negative outcome. To summarize, we believe software companies are attractive relative to the market, though we want to be very mindful of valuation within the industry.


Past performance is not a guarantee of future results. This information is not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through April 15, 2020, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This information is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon.

The impact of COVID-19, and other infectious illness outbreaks that may arise in the future, could adversely affect the economies of many nations or the entire global economy, individual issuers and capital markets in ways that cannot necessarily be foreseen. In addition, the impact of infectious illnesses in emerging market countries may be greater due to generally less established healthcare systems. Public health crises caused by the COVID-19 outbreak may exacerbate other pre-existing political, social and economic risks in certain countries or globally. The duration of the COVID-19 outbreak and its effects cannot be determined with certainty.

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Ivy Value Fund

Ivy Value Fund

Commentary as of April 14, 2020

Could you please share your perspective on the large-value universe in today’s market environment?

Typically you’d expect large-cap value to be one of the best places to hide in down markets like what we experienced in March. When you look at some of the stocks that we hold in the portfolio – Lowe's, Allstate, Walmart, CVS and Bank of America – these are large companies with good business models and balance sheets that all pay dividends. Unfortunately, it didn't work out as well this time around. We think this might be because this was a virus-driven drawdown as opposed to an economic one. Large caps did their job by holding up better than small caps, but large-cap value did not do its job. It underperformed large-cap growth by a significant margin over the volatile period. We think this is most likely driven by a large allocation to financials in the Russell 1000 Value Index, the Fund’s benchmark, as well as some of the more cyclical areas like retail, industrials and information technology not keeping up in the downturn.

Does this market volatility create an enticing investment environment for you?

This really is an exciting time. The Fund performed really well from 2007-2010, another volatile time period and we need some volatility for the strategy to work well. We need some stocks to get really underpriced and others to get really expensive. From 2011 to most recently, it has been a very low volatility environment due to low gross domestic product growth and low inflation. This has made it difficult to find value opportunities. Now that is changing as volatility is returning. One company example is Capital One. The company’s stock was up last week; however, it is still down substantially year-to-date. We understand why. People aren’t spending and aren’t using their credit cards. If/when we return to some sense of normalcy, the normalized earnings power should look really attractive. So we have some heightened interest in some of these companies during this volatile period.

What are your current thoughts on portfolio construction?

Timing the market bottom is nearly impossible. We try to let stock valuations tell us the moves to make. The Fund entered this environment with some extra cash and, so far, we haven’t needed to sell any holdings to raise cash. Some companies like Target and Walmart have performed really well and their valuations are starting to reflect that. So we may need to start trimming some of the recent Fund contributors in the future; however, we don’t believe it’s time to do that yet. While the portfolio is currently overweight to more cyclical names, we want the individual nature of the stocks we own to drive potential Fund performance.

We view the sectors in offensive and defensive buckets, where the offensive bucket includes more cyclical stocks and the defensive bucket includes stocks like consumer staples and utilities that are less cyclical. We bucket the financials sector separately due to its sensitivity to interest rates. Currently the Fund has a slight overweight position to financials and offensive names, and a slight underweight position to defensive names.

We expect there to be some volatility through earnings season. We plan to build positions in companies that support the Fund’s investment philosophy over time. The strategy is to arbitrage the different time horizons investors have. Some of these valuations reflect very short-term expectations, and in that case we take a longer view.

Could you highlight some of the business models you own in financials?

Capital One is a consumer-facing credit company that we own that is very cyclical. On the other end of the spectrum, we own Allstate. It offers a required service for the nearly everyone. We anticipate that the company’s profitability should improve because people aren’t driving as much during this stay-at-home order. Thus there should be fewer auto accidents. BNY Mellon is a trust bank we own. This bank really isn’t focused on lending. It’s actually more focused on processing and servicing as more of a custodian business. It is important to note the differences between businesses within financials because they are not all the same.

How are you currently thinking about valuations?

The primary metric we use in determining what a company is worth is free cash flow compared to enterprise value. If we had an unlimited checkbook, we could go to any company and buy all of its equity and debt to own the business entirely. Before the drawdown, a company’s free cash flow to enterprise value multiple ranged from fair to slightly expensive. Recently, cash flow has decreased dramatically for many of these companies due to their operations being stalled by COVID-19. This is making the stocks look expensive.

This environment gives us an opportunity as active investors because we are comfortable with near-term free cash flow being low as long as normalized cash flow still looks attractive. We are much more concerned with what a company's free cash flow will look like when the U.S. economy returns to more normal levels, especially when determining what a stock is worth. There are several cases where we feel that company stocks are getting punished too harshly for near-term financials when their long-term financials should still be solid. We see this trend as a buying opportunity for the Fund.

An example of this is NXP Semiconductor, which is a semiconductor company with about 40% of its business tied to automobiles, particularly electric and self-driving cars. In the current market environment, auto production has basically been shut down, and this company’s stock was punished for this. We think the cash flow of this company should return to healthy levels within a year or so, and as a result, we have added to this position within the portfolio.

How do you build a case for value stocks in a deflationary environment?

We think it is more difficult to say in the longer term, but over the next 12 months we believe value looks rather attractive. Most growth names have held up well during the drawdown while many value names are at half of their value versus their worth at the peak. One example of this is Delta Airlines. We believe this stock could easily triple in value from this point based on our view of long-term valuations. While there are many great growth businesses that will most likely continue to grow following this time period, it is unlikely that these stocks will experience the kind of upside potential that a value stock like Delta could gain over the next year or so.

Could you touch on the Fund’s investment philosophy and process a bit for those that aren't as familiar with the strategy?

The Fund’s strategy does not attempt to make sector calls, rather it focuses primarily on stock selection. We overweight or underweight sectors based on individual stock opportunity, with some limits to control risk or volatility. We believe in the philosophy that the value of any business is worth its future cash flows discounted back to the present. In the case with stocks, future cash flows are always uncertain. When a stock’s cash flow streams become more uncertain, it will tend to become inexpensive. When you find companies with high free cash flow yields, you have to ask some questions because the market believes something is wrong with the business. So, when we find an inexpensive company and believe it can be fixed within a reasonable time that represents opportunity. Other businesses are in a position where they won't recover, because they’re secularly challenged. We try to avoid those types of companies. JC Penney’s is an example of this. While this stock is currently inexpensive, we don't see a path toward it becoming relevant again in the future.

Could you share some comments on oil and energy?

For the past three to five years the Fund has been perpetually underweight energy. We have owned energy in past. However, with our philosophy of owning companies with free cash flow yields, we find that most energy companies just don't offer this type of yield. The Fund’s energy exposure has been primarily in refiners and pipelines, where cash flows are more resilient and less cyclical than actual producers.


Past performance is not a guarantee of future results. This information is not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through April 14, 2020, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This information is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon.

Top 10 holdings (%) as of 03/31/2020: Walmart, Inc. 4.7, Philip Morris International, Inc. 4.1, CVS Caremark Corp. 3.9, Bank of America 3.8, Exelon Corp. 3.7, Comcast Corp. 3.5, Fidelity National Information Services, Inc. 3.2, Allstate Corp. 3.2, Northrop Grumman Corp. 3.0 and Citigroup, Inc. 3.0.

The Russell 1000 Growth Index measures the performance of the large-cap growth segment of the U.S. equity universe. The Russell 1000 Value Index is an unmanaged index comprised of securities that represent the large-cap sector of the stock market. It is not possible to invest directly in an index.

Risk factors: The value of the Fund's shares will change, and you could lose money on your investment. The value of a security believed by the Fund’s manager to be undervalued may never reach what the manager believes to be its full value, or such security’s value may decrease. Investing in companies in anticipation of a catalyst carries the risk that certain of such catalysts may not happen or the market may react differently than expected to such catalysts, in which case the Fund may experience losses. The securities of many companies may have significant exposure to foreign markets as a result of the company’s operations, products or services in those foreign markets. As a result, a company’s domicile and/or the markets in which the company’s securities trade may not be fully reflective of its sources of revenue. Such securities would be subject to some of the same risks as an investment in foreign securities, including the risk that political and economic events unique to a country or region will adversely affect those markets in which the company’s products or services are sold. Not all funds or fund classes may be offered at all broker/dealers. An investment in the Fund is not a bank deposit and is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. These and other risks are more fully described in the Fund's prospectus.

The impact of COVID-19, and other infectious illness outbreaks that may arise in the future, could adversely affect the economies of many nations or the entire global economy, individual issuers and capital markets in ways that cannot necessarily be foreseen. The duration of the COVID-19 outbreak and its effects cannot be determined with certainty.

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Ivy Value Fund

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Market drawdowns can create dislocations between valuations in the equity market. This can offer potential opportunities for value investors.

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Mid caps in today's markets

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Get the latest views on how U.S. companies in the middle are faring in the current volatile environment. Listen to our mid-cap experts as they share their thoughts and answer advisor questions.

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Handling short-term market moves

We tend to exercise patience during market drawdowns, preferring to focus on longer-term investment horizons rather than reacting to near-term estimate revisions.

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Bradley Klapmeyer

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Factor Analysis

Factor Analysis

Commentary as of April 09, 2020

What is the basis of factor analysis?

It helps to think of factor analysis as a linear regression of dozens of explanatory variables. These variables are factors that help to explain movements in stock prices. Investments have varying exposures to these factors, and the impacts to stock prices are determined, in part, by their factor exposures and the returns for each specific factor. Factors can include: country, currency, industry, and style factors.

There are two primary types of style factors: fundamental and technical. Both have their own advantages and disadvantages.

  • Fundamental Factors: These are related to the fundamental characteristics of a business. Examples include profitability, growth, leverage, earnings quality and more. These factors are estimated through financial statements; therefore, they're slow to change and are often easier to understand. However, because they are slow to change, the factor returns have low volatilities and may explain less about daily returns. These factors can be slower to catch inflection points in the market.
  • Technical Factors: These are market- or price-based factors. Examples include momentum, volatility, beta, size, liquidity and more. These factors capture real-time market activity, and factor returns are more volatile so they do a better job of explaining daily price movements and relationships between assets. Since these are more tied to the market rather than the business itself, they can be transient. A stock could have positive momentum exposure today and negative momentum exposure tomorrow without having released any fundamental information on the underlying business. However, these factors can be very helpful in identifying inflection points.

It helps to think of these factor types as analogous to a person's personality versus their mood. Your mood may dictate how your day is going, but your personality will dictate things long-term. These factors cover different time horizons, but both can be extremely helpful data points.

The key to active management is security selection and portfolio construction, and factor analysis can be a critical part of the construction process. We have many talented portfolio managers and analysts working hard to provide excellent ingredients, but we can't simply gather a random assortment of quality ingredients and expect to have a gourmet meal. Focusing on the portfolio construction aspect is important and factor analysis can be a critical part of that process.

Factor Trends and the Current Environment

Style factors have exhibited consistent trends over the past decade. They reflect the fundamental drivers of risk appetite. Investors purchase growth when there isn't any. Persistently low levels of economic activity, low interest rates and skepticism around a central bank-driven cycle have resulted in investors chasing low-risk attributes of safety, such as free cash flow margins.

There are certain styles which are clearly associated with safety versus cyclicality. Factors tied to safety include growth, quality, profitability, size, low volatility, low beta and momentum. Factors tied to cyclicality include value, leverage, high volatility, high beta and small size. Sectors can also be tied to these themes. Technology, utilities, consumer staples and healthcare can be associated with safety, while energy, financials and autos can be associated with cyclicality.

Valuation spreads have been driven to historical extremes. Valuation spreads can be measured by sorting an index and dividing the stocks into quintiles by exposures to different attributes on a sector-neutral basis and then comparing valuations. For example, we could look at the price-to-earnings (P/E) ratio of the top quintile of stocks in terms of earnings quality and compare it to the P/E of the bottom quintile of stocks in terms of earnings quality. The difference, or spread, is the premium that's being paid for earnings quality. In terms of factors, as the winners have continued to win and the losers have continued to lose, the spreads between these two have become historically wide.

In today's markets, safety has gotten expensive, and what's cheap is risky. These two alternatives aren't ideal. When valuations spreads begin to normalize, they tend to compress from the top-down because of limited movement towards the bottom. That becomes a risk for the safety trade. During the current bout of extremely volatility, even though valuations spiked downwards, spreads have remained relatively unchanged. The move has been more directional rather than rotational.

Ivy's Approach to Factor Analysis

The framework of factor analysis is an input to decision making and portfolio balances. This analysis can help inform whether we’re paying too high of a price given valuation levels. Investing is not a binary decision where we’re either all in or all out. By incorporating factor analysis, we can scale positions and manage overall risk exposures.

Factor analysis shows that the firm's portfolios generally don't exhibit extreme factor exposures one way or the other, such that security selection is estimated to be the primary driver of risk and return. We're a fundamental, bottom-up stock picking investment shop, and this is what we expect to deliver for our shareholders.


FOR INVESTMENT PROFESSIONAL USE ONLY. NOT FOR USE WITH THE GENERAL PUBLIC.

Past performance is not a guarantee of future results. The opinions expressed are those of Ivy Investments and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon.

Risk factors: Investing involves risk and the potential to lose principal. Fixed-income securities are subject to interest rate risk and, as such, the value of such securities may fall as interest rates rise. International investing involves additional risks, including currency fluctuations, political or economic conditions affecting the foreign country, and differences in accounting standards and foreign regulations. These risks are magnified in emerging markets.

The impact of COVID-19, and other infectious illness outbreaks that may arise in the future, could adversely affect the economies of many nations or the entire global economy, individual issuers and capital markets in ways that cannot necessarily be foreseen. The duration of the COVID-19 outbreak and its effects cannot be determined with certainty.

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