Henderson European Focus Trust Fund Manager Commentary – June 2022
Macro backdropJune concluded the worst first half of the year for developed market equities in over 50 years. The MSCI Europe ex UK Index fell by 8.2% for the month, bringing year-to-date losses to 17.5%.¹ The continued drawdown was driven by the same themes we have discussed in our previous commentaries: commodity price inflation, supply-chain disruption, the cost of living crisis, falling consumer confidence, and worries around the magnitude of the interest rate hike cycle. Amid the tsunami of bad news, it is clear that the market is trying to price in a recession. This is in stark contrast to recent company engagements that we have had where the majority of corporates have continued to see strong demand, believe they are navigating the environment as best they can, and remain optimistic. Who possesses the better crystal ball? Often the market.
Trust performance and activityFund activity during June was marked by an increase in exposure to oil and gas holdings. The sector valuation remains too cheap in our view, with companies trading on high double-digit free-cash flow yields. We do not think these are reflective of the return potential to shareholders and the change in capital cycle that we anticipate. We therefore used share price pullbacks to top up holdings. We exited positions in Pandora and Kering due to our continued worries over the squeezed consumer wallet. We opened a position in Glencore, principally on valuation grounds. Lastly, we initiated a position in Safran. We believe the long-term drivers of the air travel market are intact, with structural growth being driven by the need for airlines to decarbonise through upgrading aircraft with new engine options.
Outlook/strategyThe typical ‘anatomy’ of a bear market is, first, for valuation multiples to reset and for negative earnings revisions to follow, eventually culminating in all sectors capitulating. We believe that we are well into the first stage. Hence we await, with bated breath, the second quarter earnings season and, in particular, the outlook commentary. This will help us better understand the path forward for earnings for our investee companies and the wider market. In the knowledge that the business landscape can (and likely will) change dramatically in a short space of time, we expect profit warnings and guidance downgrades. Given the large falls already experienced by many stocks, we believe share price reactions to earnings announcements will be salutary in establishing whether a bottom in certain names and sectors has been reached. Consequently, we will remain focused on our pragmatic, style-agnostic approach to stock picking. It may well be that compelling opportunities are soon to present themselves.
¹Source: Bloomberg as at 30th June 2022Glossary Expand Bear Market – A bear market is when a market experiences prolonged price declines. It typically describes a condition in which securities prices fall 20% or more from recent highs amid widespread pessimism and negative investor sentiment. Inflation – The rate at which the prices of goods and services are rising in an economy. The CPI and RPI are two common measures. Free cash flow yield – Free cash flow yield is a financial solvency ratio that compares the free cash flow per share a company is expected to earn against its market value per share. The ratio is calculated by taking the free cash flow per share divided by the current share price. Monetary policy – The policies of a central bank, aimed at influencing the level of inflation and growth in an economy. It includes controlling interest rates and the supply of money. Monetary stimulus refers to a central bank increasing the supply of money and lowering borrowing costs. Monetary tightening refers to central bank activity aimed at curbing inflation and slowing down growth in the economy by raising interest rates and reducing the supply of money. Quantitative tightening – Quantitative tightening (QT) is a contractionary monetary policy tool applied by central banks to decrease the amount of liquidity or money supply in the economy. Valuation metrics – Metrics used to gauge a company’s performance, financial health and expectations for future earnings e.g. price to earnings (P/E) ratio and return on equity (ROE).
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