COVID-19 – Social capital pt. II.

The great office return beckons.

• While the hottest stay-at-home at home stocks have started to correct from their highs, I think there is probably a long way to go as the signs are increasingly pointing to a full-scale return to the office.
• Zoom and Peloton are now well off their highs, Netflix, Amazon and Microsoft are currently treading water which I think splits this category into two segments.
  • First the pure plays like Zoom and Peloton which went to absurd valuations and are now correcting and look like they have much further to go.
  • Second, the giants which are exposed to other secular trends that have been accelerated by the pandemic.
  • The valuations of these companies did not reach the crazy levels of the pure plays and they now look set to tread water while the fundamentals grow into the current share prices.
  • Hence, I can see Microsoft et al going sideways for quite some time until its PER comes down to a more normal level.
• This is a general sign of the cyclical trend that I think will dominate the market this year characterised by a rotation out of the stay-at-home trade and into the recovery value-oriented end of the market.
• As the bond market continues to price in higher inflation with rising 10-year government bond yields, the big question is whether central banks will intervene to stop it.
• Fundamentally, they have very little choice because the global system is now so indebted that even a small rise in interest rates risks trashing the fledgeling recovery.
• Against this backdrop, there are signs that we are in the final straights of the pandemic.
• Where vaccination is occurring, there has already been a huge decline in all-cause excess mortality indicating that in Europe, despite its difficulties, the few vaccinations it is doing are going into the right arms.
• Consequently, as summer comes and the case count collapses (as it always does when the weather warms up), governments will be under increasing pressure to lift restrictions and let everyone go back to work.
• This is already clearly visible in a survey carried out by KPMG where just 17% of CEO’s are planning on cutting back on office space compared to 69% in August last year.
• Some companies have already made cutbacks, but such a dramatic drop is pointing to an increase in confidence given how effective the vaccines are proving to be.
• RFM research indicates that the degree to which variants emerge is likely to fall dramatically as the active case count goes into decline meaning that if a new vaccine-evading variant is going to emerge it is most likely to do so now and not in Q3 2021.
• Hence, I think that when the virus makes its inevitable return in Q3 2021, it will be little more than a minor inconvenience as it will meet a wall of immunity built up by mass vaccination and millions of infections.
• Assuming that the governments of the world do not panic when the inevitable rise comes, then the scene is set for a wholesale return to the office.
• I have previously argued that this is essential as permanent home working will erode social capital to the point where home working becomes much less effective (see here).
• In effect, the only reason why it worked so well is that everyone spent their previous lives seeing their colleagues face to face on a daily basis.
• The pandemic has proven beyond all doubt that home working can work which combined with a huge spend on networking equipment for the home means that there is a place for it to continue.
• However, in order for it to work well, a wholesale return to the office for the majority of the time will be required in order to keep the social capital account topped up.
• I suspect that companies that are allowing home working on a permanent basis will either be forced to change their minds or face a period of underperformance.
• The net result is that when people begin commuting again, they will think twice about their move outside of the city and that the inner-city real estate market will see some recovery.
• I think that this will include the restaurants, coffee shops and sandwich shops that serve the office working population.
• We are in the home stretch of this pandemic and thanks to the huge scientific effort, it is likely soon to be in the rearview mirror.
• This is bad news for the stay-at-home trade and looking at how high the valuations are of the pure plays, they have much further to fall.
• It is not too late to sell.