Investors who shun Europe over growth concerns could be missing out on some of the market-dominating names and best brands from across a range of industries, according to Carmignac’s Mark Denham.
A lack of strong growth in the European economy and a historic bias away from the region has led to some investors to underweight it within portfolios.
The recent Bank of America Merrill Lynch Global Fund Manager Survey revealed that international asset allocators had reduced exposure by 17 percentage points to an 8 per cent underweight, just off January’s seven-year low of 11 per cent underweight.
Source: BofA Merrill Lynch Global Fund Manager Survey
However, Denham – who manages the Carmignac Portfolio Grande Europe and the recently launched FP Carmignac European Leaders – said that investors who choose not to allocate to Europe could be missing out on some of the most exciting companies and brands in the world.
“There’s a large number of companies in Europe that are completely missed or underestimated by investors,” he said. “There’s also a large number of world-leading, high-growth businesses you can make money from.”
Europe is a region that has been out of favour for a number of reasons, one of which has been the flow of news at the macro level, Denham said.
“We’ve had a number of events, whether it be disputes between the Italian government and the European Commission over their budget, obviously there’s Brexit, and more recently the ‘gilets jaunes’ protests in France,” the European equity manager explained.
He said these events and others helped to reduce people’s expectations of economic growth in the region.
Denham also pointed out that allocations to Europe among global investors are at a relatively low point, which he thinks is an interesting contrarian signal.
“Over the past five years, European equities have lagged other regions, emerging markets and the US in particular,” he said.
“This is primarily because Europe hasn’t had the preponderance for the larger representation of what has been the large tech winners over the past few years—the Amazons, Alibabas, and so forth.
“Having said all those negatives, is Europe worth looking at?”
For the Carmignac Portfolio Grande Europe fund manager and his team, the answer is ‘yes’
“There are literally hundreds if not thousands of companies listed in Europe from which we pick up portfolios of 30-40 stocks,” he explained.
However, there are some particular characteristics of Europe from which investors can learn about the way to invest and how to think about European markets, he argued.
“The first of these is the economic growth issue,” he said, explaining that economic growth in Europe is relatively modest compared to other regions. Real GDP growth is between 1 and 2 per cent, which is lower than in the US and much lower than in emerging markets.
Quarterly GDP over 5yrs
Source: OECD
“So, in Europe we don’t benefit from a rising tide lifting all boats,” Denham said. “We have to very much focus on secular opportunities, rather than relying on cyclical tailwinds. “
Another characteristic is that for at least 50 per cent of quoted European companies, sales and profits come from outside the EU and are very dependent on international events.
Therefore, one has to be aware of volatility, he said, adding: “If certain world leaders tweet overnight that they’re going to impose tariffs on a neighbouring country of theirs, European stocks will probably fall as much as anybody else on the back of that.”
In this atmosphere, he said, focusing on businesses that can grow largely under their own steam – irrespective of the economic or the macro environment – should be paramount for investors.
The portfolio manager said his team takes a broader interpretation of technology to include internet business models.
“The US or emerging markets have 20 to 25 per cent exposure to that sector currently,” he said. “In Europe it’s between 5 and 10 per cent, much lower. So, we don’t get that tailwind.”
The final lesson to learn from the European situation is the flip side of the tech issue, he said.
“Many of the larger sectors in Europe are still sectors of relatively low growth, relatively uninteresting from an investment perspective, we think—utilities, telecoms, financials, or oil,” said Denham.
What we see reflected in these areas, he noted, is the unfortunate construction of the benchmarks.
“It’s incumbent on active managers to deviate from these benchmarks and really focus on the bottom-up stock opportunities that we believe in,” he said.
Denham said Europe has many world-leading areas for investment.
“Just because we haven’t had the big tech winners doesn’t mean that, as a region, we should feel particularly defensive at all,” he added.
One such area is luxury goods, where companies like Hermes, LVMH, Gucci (which is part of Kering), can be found, he said.
“Europe has the leading and highest quality luxury goods companies in the world,” he said. They’ve seen very strong growth all over the world, especially from emerging markets.”
This particular sector has seen very strong performance over the past three years, he said.
“We’ll probably wait for opportunities for a pullback or perhaps some disappointment over the coming quarters, if there’s one, as a buying opportunity to re-increase holdings there.”
Another area is sportswear companies where brands like Adidas and Puma are world leaders.
Denham also highlighted the renewable energy space where Europe is home to world-leading companies.
“Of the three largest wind-turbine manufacturers, two of them, Vestas and Siemens Gamesa, are the largest two in the world,” he said. “They’re also growing their market share as the smaller players get squeezed out of the wind industry.”
This a large component of our portfolio currently, he said, adding: “We don’t like the oil sector, but we do like renewable energy.”
The portfolio manager said his team is also interested in “the more steady eddie areas in the consumer staples business”, like Unilever, Nestle, or L'Oréal, that are growing in the mid-single digits.
He acknowledged these are not the most “dynamic growers,” but said they grow at healthy profit margins.
“Their top prices are at their absolute and relative highs right now,” he explained.
As for technology, he said while they don’t have the Amazons and Alibabas, they do have leaders in interesting niches, for example, German software company SAP and semi-conductor manufacturer ASML.
The FP Carmignac European Leaders fund was launched in May of this year to cater specifically for UK-based investors. Managed by Denham, the fund invests in large and mid-cap companies in Europe, excluding UK, with the goal of achieving capital growth over a period of five years.
Stock picker Denham has managed the five FE Crown-rated Carmignac Portfolio Grande Europe since November 2016, a growth-oriented strategy that aims to outperform the STOXX Europe 600 Euro benchmark over five years.
Performance of fund vs sector & index under Denham
Source FE Analytics
Under his management the fund has made a total return of 27.30 per cent, compared with a 26.13 per cent gain for the benchmark and a 22.24 per cent gain for the average IA Europe Including UK peer. The fund has an ongoing charges figure (OCF) of 1.16 per cent.