Bertrand Faure, Portfolio Manager of the EI Sturdza Strategic European Smaller Companies Fund, provides insight on the European equity markets and his Fund’s investment process.
2018 was an interesting time to be following European equity markets, with a severe liquidity crisis triggering dislocation and volatility through the last quarter, resulting in markets providing some of the best opportunities since the crisis of 2008.
Q1 2019 by comparison has delivered some of the best returns for a long time. One of the stories that characterised 2018 was the total absence of positive returns in any major asset class. So far, 2019 has been the polar opposite, with healthy returns in commodities, stocks, credit markets and government bonds.
This phenomenon may appear counter intuitive in the context of Brexit uncertainties, global trade agreements and the relentless slowdown in global manufacturing data driving down global EPS expectations, all of which were overshadowed by the change in tone of the European Central Bank.
The latest reporting season was solid for many companies, pointing to the absence of recession and continued growth in sales and margin expansion for 2019. In the European small and mid-cap universe, the majority of companies reporting profit warnings in 2019 managed to recoup their losses rapidly showing how oversold the market became at the end of 2018. Although markets have had a great start in Q1, companies are still trading at large discounts to fair value; the Fund’s portfolio today has an average discount to target price of ~45%, according to Bertrand Faure’s assessment and based on very prudent macro assumptions.
Despite the significant upside potential that exists in European markets, it may not last throughout the year. There are risks as voiced by several market participants and observers, reduced volatility, and an absence of discrimination. As such it remains imperative to be disciplined with regards to stock selection, focussing on companies whose business models are robust and able to adapt to changing economic conditions, whilst entry and exit points will be key.
Repeatable and disciplined investment processes
Bertrand Faure and his team have been successfully managing money with their investment process for the past 16 years, utilising 360 degree private equity style fundamental analysis with a disciplined investment approach. The team look for something special in each of the companies that make it into the portfolio, a standard that is possible to adhere to given the breadth of the European small cap universe.
A typical investment is in a successful business that has defendable market share and pricing power, significant free cash flow and strong management. Management really is key; Bertrand believes you shouldn’t invest in smaller companies without meeting them. In addition, the team meet with competitors and suppliers, and when appropriate do site visits.
The team have built a very large database of proprietary financial models over the past 16 years, which are consistently updated. This is a significant commitment and body of research. This information allows the team to react quickly and capitalise on the short windows of opportunity as they present themselves.
Fundamental analysis is combined with risk management, looking at the downside as well as the upside, to arrive at the entry and exit levels for each stock prior to it being established, while position weightings ensure that investor’s capital is put to work where there is most to gain and the least to lose.
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The views and statements contained herein are those of Pascal Investment Advisers SA in their capacity as Investment Adviser to the Fund as of 24/04/2019 and are based on internal research and modelling.