After the market volatility caused by president Donald Trump’s Liberation Day trade tariffs, investors have been slowly but steadily ‘de-dollarising’ or moving money out of US assets, be that shares, bonds or the US dollar itself.
Continental Europe has been a big beneficiary, with the German market ─ the region’s biggest and most liquid - an obvious early winner, but Shares believes there is a great deal more upside potential across the board.
One way to play this through Guinness European Equity Income fund (BYVHVZ9), which takes a focused approach to investing in high-quality, income-paying stocks and has a novel way of managing risk.
WHY EUROPE, AND WHY NOW?
The fund’s managers, Nick Edwards and Will James, point to three major European policy errors of the last few decades - a reliance on Russia for cheap energy, a reliance on the US for security, and a reliance on China by European companies for growth.
Each of these has proved to be a mistake, but the managers argue Europe has the wherewithal to change course and the companies to help it move forward.
Moreover, Europe is a far better financial position than the US, with less debt and lower interest rates, so conditions are more favourable for growth companies.
Europe does, however, have more internal rules and regulations than the US, which means trade within the continent is less than half that across US states, so if barriers can be brought down trade will be able to flow more freely.
Also, there is huge potential to grow Europe’s financial markets ─ individuals tend to hold around a third of their financial assets in cash, and unlocking just 5% of that wealth could inject €1.8 trillion or around 10% of the continent’s GDP.
HOW DOES THE FUND WORK?
The managers use a bottom-up approach, looking at all European markets including the UK, restricting themselves to companies with a market capitalisation of €500 million or more, solid balance sheets and a ROCE (return on capital employed) of more than 8% over eight consecutive years.
This approach means they can whittle their stock universe down to around 200 companies which have weathered different economic cycles and have maintained above-average returns.
Nick Edwards explains: ‘The focus on cash generative companies which can both reinvest in growth as well as paying sustainable and growing dividends has allowed us to compound attractive returns on a through cycle basis, resulting in a high-return portfolio well placed to weather and take market share in difficult market environments.
‘Together with a concentrated (30 stock), balanced (equal-weighted) approach, this has driven outperformance in down markets and attractive risk-adjusted returns over time.’
The managers’ preference for an equal-weighted approach to the portfolio means there is less sector concentration and less individual stock risk.
It also means smaller, more dynamic companies have a greater weighting than they would in a market-cap weighted portfolio, which is a source of alpha generation.
LOW TURNOVER
The fund’s average investment horizon is three to five years, which means a low turnover ratio and low dealing costs, although there is a minor cost in rebalancing the fund on a regular basis.
The managers have a strong sell discipline, so if a new stock is added, an existing stock has to go to make way.
Last year, the fund made two purchases, French advertising giant Publicis Europe (PUB:EPA) and Scandinavian insurance group Sampo (SAMPO:HEL).
The two holdings which left the portfolio were German chemical and personal goods company Henkel (HEN:ETR) and car giant Mercedes Benz (MBG:ETR).
As a result of the managers’ bottom-up investment process, the portfolio is index-agnostic and has quite different country and sector exposures to the Europe ex-UK benchmark.
The fund is heavily overweight the French market, as well as having greater exposure than the index to Belgium, Scandinavia and the UK.
Conversely, it is heavily underweight Germany and Switzerland, with smaller underweights in Ireland and Spain.
On a sector basis, it is strongly overweight consumer staples, financials and industrials - through stocks such as Axa (CS:EPA), Danone (BN:EPA), Euronext (ENX:EPA), Schneider (SU:EPA) and Unilever (ULVR) ─ and underweight consumer discretionary stocks, energy stocks and utilities.
SUPERIOR PERFORMANCE
The fund has an impressive track record, beating its benchmark, the MSCI Europe ex-UK, over three, five and 10 years.
The managers argue Europe has a large proportion of high-quality companies which can generate persistently high returns, despite the vagaries of the economy, and this is what allows them to pay consistent and growing dividends, which is key to the fund being able to outperform.
To that end, the fund offers an attractive dividend yield of 3%, and the ongoing annual charges are 0.89%, which we feel is competitive.
These articles are provided by Shares magazine which is published by AJ Bell Media, a part of AJ Bell. Shares is not written by AJ Bell.
Shares is provided for your general information and use and is not a personal recommendation to invest. It is not intended to be relied upon by you in making or not making any investment decisions. The investments referred to in these articles will not be suitable for all investors. If in doubt please seek appropriate independent financial advice.
Investors acting on the information in these articles do so at their own risk and AJ Bell Media and its staff do not accept liability for losses suffered by investors as a result of their investment decisions.
magazine
