Fund Update : R-co Conviction Equity Value Euro — November 2023

The losses on the equity markets that began in September spilled over into October, with marked declines in the MSCI World (-2.9%), the S&P (-2.1%), and the EuroStoxx (-3.3%)¹. The losses were driven by macroeconomic data that remained mixed or even got worse in Europe, lacklustre third quarter results, bond market volatility and a resurgence in geopolitical tensions with the return of war to the Middle East. This environment boosted defensive sectors somewhat (food & beverages +2.5%; and media +0.9%), but healthcare was the worst-performing sector (-9.8%) due to disappointing numbers. Industrials (-6.1%) and autos (-8%) were also among the month’s worst performers¹.

The Value style in Europe remained attractive at a P/E³ of 8.4x, or a 25% discount to its historical 20-year median (11.1x). Value was even more attractive in relative terms, in that compared to their respective medians, the market is currently trading at a 10% discount (11.6x vs. 12.9x), and Growth, at a 13% premium (18.6x vs. 16.5x). This contrast is even starker when broken down by sectors. Despite disappointing Q3 numbers, consumer goods are currently trading at a 21% premium, while banks and autos – whose releases beat forecasts – are still at discounts of 43% and 50%⁴.

In this adverse market environment, R-co Conviction Equity Value Euro underperformed its benchmark by 1.4% on the month, thus lowering its year-to-date outperformance to +1.0%⁵. This poor showing was due mainly to the impact of stock-picking, which was hit by profit-warnings from Alstom (-43.6%) and Sanofi (-15.6%)⁶. In the case of Alstom, cash management remains an issue and triggered a sharp cut in cashflow guidance⁷. As the outlook remains bright for Alstom’s end-markets and as it continues to improve its margins, we held onto this position but without adding to it, believing that, at this point, a recapitalisation would be as likely as desirable. Sanofi’s profit-warning was due mainly to higher research & development costs, due, in turn to a strategic about-face that resulted in the group’s setting aside its medium-term objectives. The share price drop on the day of the profit-warning (-18.7%)⁴ looked overdone, and we added to our position in order to maintain its weighting in our portfolio.

Economic data continued to disappoint in Europe, including GDP growth forecasts that the IMF has just revised downward. This slowdown, like the contraction of lending to businesses, is far from unexpected, as it can be traced back to the ECB’s monetary policy, which has been hawkish for several months. The US’s monetary rightening is just as hawkish or even more so, but its impact is taking time to show up, due to resilience in consumer spending and jobs. While consumer spending just keeps surprising on the upside, employment is showing its first signs of weakening. This US slowdown will be the last link in the chain of monetary policy transmission, which is likely to trigger adjustments to earnings growth forecasts. In the meantime, we are sticking to the relatively conservative approach we have taken since last March.

We therefore made very few changes to our portfolio weightings during the month. Among financials, we reduced our exposure to Italian banks, owing to their high short-term vulnerability to interest-rate trends, while adding to our holdings in insurance, whose beta⁸ is lower than that of banks and should therefore reduce or limit our risk exposure in the event of increased market volatility.

As we explained in our recent release, the Value style in Europe is priced quite attractively despite: i/ the ongoing rotation that began early last summer into the higher-for-longer theme ; ii/ rather conservative earnings growth forecasts for 2024; and iii/ Value’s marked outperformance vs. Growth over the past three years. All this is, more broadly, a component in our scenario of a change in the inflation / monetary policy / interest rate paradigm that the resilience of inflation figures confirm month after month. This environment is especially favourable to Value and has been one factor in the performance of R-co Conviction Equity Value for more than three years now.