The surprise performer of 2023 – Will sentiment ever change for European equities?
If investors ignore the tech-driven distortions of the US market, and the transitory charms of a...
Alexander Darwall, manager of the European Opportunities Trust, talks us through the current opportunities throughout Europe. He begins with his views on the economy and the implications for companies going forward. Alexander also discusses the importance of company selection and global reach, with portfolio examples such as long-term holding Novo Nordisk and Genus, an animal genetics company.
Hello, I’m Chris Salih, investment research analyst at FundCalibre, and today I’m delighted to be joined by Alexander Darwell, manager of the Elite Rated European Opportunities Trust. Alexander, once again, thank you for joining us today.
[00:11] Thank you, Chris.
Obviously, we’ve had a lot of talk about the UK economy and the US. Could you perhaps set the scene
for us in terms of Europe, in terms of interest rates, inflation and economic growth before we start,
just to [give us] an idea of where we are on the continent?
[00:27] Okay. First thing I should say is I’m not an economist, I don’t pretend to be good on economics, and we’re much more of a bottom-up fund. But I’ll just make a few broad comments.
Europe has, in economic terms, in a global context been an underperformer. That’s, and I think … so the big question one would ask now, is whether the energy crisis is likely to rejuvenate Europe’s economic performance, or perhaps exacerbate their economic decline. And I suspect that whilst we’re getting a bit of a relief with lower energy costs presently, I can easily foresee circumstances in which energy becomes a problem again. And I think this is a burden for Europe. And just to come back to our fund, we are low users of energy in our companies typically, and we have a much more global fund. So, we never confuse the slightly more difficult outlook for European economies from our optimism from our portfolio companies.
But again, I think the energy and productivity of Europe does not compare particularly well
with, say, the US. And whilst there is some evidence of a slight decline in inflation short term, which
investors have seized upon as good news, I can foresee that this is not going to be an easy economic
ride. But I think we have a portfolio which is much, much better prepared for difficulties. We have a
fund for all seasons. We don’t base it on a particular economic scenario, but I hope we are well-placed for what is thrown in our direction.
Well, let’s explore that a bit further. Obviously, last year was not the easiest year for anyone, but the trust held up very well versus its peers. I mean, was it all about that active bottom-up focus? Maybe
just talk us through a couple of tenets of what made the trust succeed in 2022 compared to a lot of
[02:19] Well, it’s many of the things we just touched on, but maybe just start by saying inflation and higher interest rates, which were the big stories for last year and really put a dampener on performance and broad asset prices – a couple things to say about that: this inflation is bad for capital everywhere, whether it’s fixed income, cash, property, equities… inflation is not a good thing generally, but I believe your best chance of dealing with that – the most sort of offensive / defensive strategy, if you like – is to be in high-quality, resilient, growing companies, those equities. And those are the ones we’re after. So, I think what’s sort of helped us a bit, is that we have very low debt compared with the average in our companies. Our companies have more cash flow and less debt.
And I think the other thing I would draw attention to is that our companies typically, because they’re very much more intellectual property, IP-focused companies, [they] have less energy in their bills, in their cost space. So, we were less affected by higher interest rates. We were less affected by higher energy costs. And I think that goes a long way to explaining why we held up reasonably well.
You’re also keen on the innovators in the market, aren’t you?
[03:31] Absolutely. The way we work is we try to find companies which we think are well protected on the downside – we look first at the downside – they’re well protected from disruption through technology or regulation or changing consumer habits. They’re well protected from higher interest rates and inflation because they’ve got strong business models.
And then we look at the upside – are there options for growth? And what we’re really after is finding companies who do something special and different and can deliver real value-added to their customers. And where we find that – we think partly because we’ve got a global coverage – or we seek companies that have that kind of global coverage – we think there are still plenty of options for growth. So yes, we need companies that are well rewarded for innovation. We don’t have the ‘pile ‘em high, sell ‘em cheap’ volume type of business model. We have value-based models and value will out in that sense.
Okay. Before we go into a couple of stock specifics, maybe let’s just sort of bring it all together on the
sort of outlook side. Again, you’ve highlighted the difference between macro economy and how you approach your portfolio. So, going into 2023, you know, a lot’s been made of the macroeconomic environment in Europe – do you sort of worry about the sentiment or are you sort of rubbing your hands in glee, going, “Opportunities here, because some of my companies that are very good are perhaps being weighed down on sentiment”. Could you just give us a bit of insight on sort of your mindset towards [that?]
[04:59] A really good question, Chris. We don’t spend a lot of time worrying about market sentiment.
We do spend time looking at research and expert networks about where people raise proper fundamental concerns about our investments. That’s something we need to spend time on and get comfortable with and see whether we agree or not, and that might confirm our confidence or it
might undermine our confidence. So, there’s a really important job to do on fundamentals, but I don’t
spend time worrying about the sentiment factor because there’s nothing we can do about it, and because I’m also very sure that the fundamentals always get properly rewarded in due course.
That works both ways. If we have a company and we’re wrong and the fundamentals aren’t very good and their earnings decline over time, don’t worry. That’ll be reflected in the share price. We’ll get it wrong and it’ll show. But if we’re right about our best companies and they deliver the profits, they get properly valued at some point over time. But we shouldn’t be worried about being too short-term. We like market inefficiencies. I mean, if the market was perfectly efficient all the time, we wouldn’t have a job. So, we have to live with market inefficiency which you could call sentiment. And it’s both … it’s an opportunity both to sell and it’s an opportunity to buy. So no, we can’t change the imperfect market, but I’m glad it is an imperfect market because we will get opportunities to buy well and we will get opportunities to sell well, [it] all depends on the ability, our ability to identify great companies.
Okay. We always like to talk about companies within the portfolio, but it’s particularly relevant for you, given the nature of the trust. And let’s start with Novo Nordisk [Novo Nordisk A/S]. That’s obviously got quite an interesting story behind it. Could you tell us a bit more about the holding and your sort of view on it?
[06:51] I look at companies in my portfolio as being great, good or exciting. And the bigger … the great companies have a bigger weighting or it’s a very, very important part of the weighting. Whereas an
exciting company might be a much smaller weighting because it’s exciting, but it may not have the
characteristics of good or great, and great is where we get very, very good visibility – where we’re
absolutely convinced about the business model, where we have recurrent and growing earnings.
And if I just look at Novo Nordisk specifically, which I think is a great investment, it’s a great company, it’s working in a quasi-duopoly in the world, addressing two massive and growing global therapeutic
markets, diabetes and obesity. And they are truly innovative, and they’re being rewarded well for their
innovation because they can measure the quality of their product through clinical trials. They can monetise it because healthcare authorities are happy and rational and will reward innovators, people who deliver value. And finally, they can collect the money because they’re selling typically to healthcare plans and to governments around the world who are willing, ready, and able to pay. So, this is a great business, and we are in the early stages of the obesity opportunity because Novo Nordisk was the first to bring a truly credible obesity drug to the market with Wegovy™ and this is a semaglutide molecule. It has a long way to go, I believe. So, this is, I think, it’s a great investment and that’s reflected in its weighting, which is higher. It’s the biggest in the portfolio at the moment.
And let’s touch on Genus [Genus plc] I believe, which is the website says it partners with farmers to transform how we nourish well, could you maybe expand on this?
[08:53] Genus is an old company and it’s the world leader in pig genetics, porcine genetics, and they serve – and also bovine – cattle – genetics. But just focusing on the porcine sign for a moment, they supply most of the big pig producing companies, making bacon and so forth around the world. And the reason they do that is that pig genetics can help give farmers what they need. Sophisticated technofied farmers, whether it’s in China or in the US or in Europe, they want pig genetics that can give them either low mortality rates or give you lots of piglets – I think we’re up to about 30 or something at the moment per sow – or they can give you, they can bring healthcare benefits, they can bring … they can give you fatter piglets or thinner piglets and protein conversion is a very, very important part of it.
But the genetics matter a huge amount, and they are the world leader in porcine genetics. So, I think it’s a really good business with a global reach. What I think we have the possibility of an exciting development, and again, I say exciting: I’ve told you it’s a good core business, which I don’t see as being
disrupted. We have a potential option for an exciting development, which is gene editing in pigs,
which has massive healthcare benefits because pigs are susceptible to diseases, but if you can stop one
of those important diseases – which is a respiratory virus – you have more piglets, you have healthier piglets, and you have ultimately a cheaper product for the customers. So, this is potentially an exciting development, we’ll see.
China specifically, China reopening, it’s not the only story. The pig industry is a complicated one in China. Over time, a vibrant, flourishing, open Chinese – domestically open Chinese – economy is good, indirectly for Genus. It’s not the reason we’re holding it now – there are complications, there are other factors which influence the short-term market in China, but indubitably they will, we hope that they’re aiming to increase their presence in China and the healthier the Chinese economy is through opening up, the better it is – indirectly – for Genus.
Do you just quickly, do you want all of your companies to have a sort of global footprint or are you happy if some of them are purely Eurocentric? Just give us a quick insight on that.
[11:29] Well, we do have, I suppose we do have some Eurocentric focused [companies]: Deutsche Boerse, which is a leading exchange for derivatives and power and energy markets in Europe. They will attract global investors, it’s true, but it’s essentially a European hub.
But most of the time our company … if you go global as far as you can, it’s both a validation [that] you’ve got something special, and it increases your total addressable market. But we have very successful investments like Experian who can never realistically expect to do well in China because they’re in the credit bureau business, and the Chinese are unlikely to welcome a foreign company in to look at all its banking data. It’s not realistic. So, let’s forget about it. It’s not … but they can do very well in America, north and south. And indeed they are doing very well in North and South America, and they do well in the UK. So, … and continental Europe, there’s still a lot of scope for growth there.
So, it’s not that all our companies always have total global coverage, but if you look at a see-through of our earnings from our companies, it’s about 40% in North America, sorry, in the Americas, 40%; it’s 30-something percent in Europe and it’s 30-something percent in Asia. This is good in one respect, if not in many others also, but it means we don’t have to worry about being unduly exposed to a very narrow region where you might get cyclicality. Because we’re exposed to so many different cycles, I think it gives you a smoother outlook.
Alexander, as always, thank you very much for your time today.
[13:09] Thank you Chris.
Thank you. And if you’d like to learn more about the European Opportunities Trust, please visit FundCalibre.com
22/11/2023 in Equities, Europe
If investors ignore the tech-driven distortions of the US market, and the transitory charms of a...Read
09/11/2023 in Specialist investing
The healthcare sector has long held some natural advantages. The wealthiest nations are getting...Read
26/10/2023 in Equities
Halloween is just around the corner – so how scared are fund managers right now? Are they sleeping...Read