The European Smaller Companies Trust Fund Manager Commentary – July 2022
Ollie Becket, Portfolio Manager of The European Smaller Companies Trust, delivers an update on the Trust highlighting the key drivers of performance in July and recent portfolio activity. Ollie also provides an outlook for the coming months.
6 minute read
Equity markets moved higher despite further interest rate rises. The US Federal Reserve (Fed) increased rates by 75 basis points (bps) for the second month in a row while the European Central Bank (ECB) announced a larger-than-expected 50 bps rise.¹ Investors were encouraged by some lead indicators (notably money supply) beginning to show the first signs of a better outlook for the second half of this year. This was driven on the one hand by China adding more monetary stimulus, but also inflation rate momentum slowing down -with absolute levels of inflation perhaps peaking. Crude oil prices fell due to worries about inflation and the expected corrosive effect on demand, pushing US benchmark West Texas Intermediate (WTI) below US$100 per barrel, although signs that supply remained tight limited the overall losses.
Trust performance and activity
Fund returns were largely driven by an intense earnings season rather than any top down factors. Positive earnings surprises came from ferry operator DFDS, where fuel costs had caused expectations to be lowered ahead of results, projectors and conferencing equipment Barco, and Nexans (which produces cabling used for grid and renewables).² On the negative side was wealth manager Van Lanschott, where investors used a lowering in interest rate forecasts to sell down a share which has been relatively resilient during the broader market sell-off. HelloFresh (meal kits) announced disappointing numbers and is the latest consumer-facing stock to suffer during the current cost of living squeeze.³ Activity involved the purchase of Iveco, the truck manufacturer which was spun out of CNHI in late 2021. The company has been doing a good job of balancing price rises with cost inflation and has been taking market share. We also bought Commerzbank, a company with a troubled past where we were attracted to the self-help potential. We sold Aareal bank, Basware and Bobst which have all been subject of a bid. While a ceasing in credit markets may slow merger and acquisition (M&A) activity, we expect management teams and private equity firms with cash piles to continue to look at our investment universe.
The current bear market -not just in equities but also bonds, cryptocurrency and now extending to commodities -had primarily been induced by inflation, or rather the central banks' fight against inflation. The bear markets of the 1960s and 1970s played out in similar fashion, as did the 1994 correction. Equity markets back then troughed when inflation and interest rates peaked. We note that so far at least, the US 2-year sovereign bond yield peaked in mid-June. Even though it seems that Fed interest rate hikes will still be ongoing for a few meetings longer, bond yields are already anticipating the peak. The US personal consumption price index saw its peak month-over-month and year-over-year growth rates in March. Notably, in their latest meetings both the Fed and the ECB have abandoned forward guidance. Instead, both central banks have flagged that the further rate hike path from here is going to be data-dependent. That being said, geopolitical tensions remain elevated with China-Taiwan hostilities being added to the risk of a Russian gas shut down. Ultimately, we are happy to not be taking a big bet on the cycle within the portfolio, either in terms of cyclicality/defensives or via a growth/value tilt.
Please read the following important information regarding funds related to this article.
- If a trust's portfolio is concentrated towards a particular country or geographical region, the investment carries greater risk than a portfolio diversified across more countries.
- Where the trust invests in assets which are denominated in currencies other than the base currency then currency exchange rate movements may cause the value of investments to fall as well as rise.
- Most of the investments in this portfolio are in smaller companies shares. They may be more difficult to buy and sell and their share price may fluctuate more than that of larger companies.
- This trust is suitable to be used as one component in several in a diversified investment portfolio. Investors should consider carefully the proportion of their portfolio invested into this trust.
- Active management techniques that have worked well in normal market conditions could prove ineffective or detrimental at other times.
- The trust could lose money if a counterparty with which it trades becomes unwilling or unable to meet its obligations to the trust.
- Shares can lose value rapidly, and typically involve higher risks than bonds or money market instruments. The value of your investment may fall as a result.
- The return on your investment is directly related to the prevailing market price of the trust’s shares, which will trade at a varying discount (or premium) relative to the value of the underlying assets of the trust. As a result losses (or gains) may be higher or lower than those of the trust’s assets.
- The trust may use gearing as part of its investment strategy. If the trust utilises its ability to gear, the profits and losses incured by the trust can be greater than those of a trust that does not use gearing.
- Derivatives use exposes the trust to risks different from, and potentially greater than, the risks associated with investing directly in securities and may therefore result in additional loss, which could be significantly greater than the cost of the derivative.
- If the trust seeks to reduce risks (such as exchange rate movements), the measures designed to do so may be ineffective, unavailable or detrimental.