Europe is recovering but it’s not out of the woods yet.
That’s not the verdict of a fund manager or a political analyst, but rather the man in charge of the European Central Bank (ECB) – Mario Draghi. Although he didn’t say it in quite so many words.
In a speech at the end of October, Draghi announced both the possible end and the possible extension of quantitative easing (QE). Talk about hedging your bets.
The ECB president set out plans to reduce the bank’s bond buying program, from its current €60 billion ($69 billion) a month to €30 billion from January 2018, as the bank is increasingly confident of hitting its inflation target.
However, he struck a more cautious note on the state of Europe's wider economy and said the bank would buy at this rate until September next year. He also left the door open for further stimulus by saying that QE could continue beyond this date ‘if necessary.’
‘If the outlook becomes less favorable, or if financial conditions become inconsistent with further progress towards a sustained adjustment in the path of inflation, we stand ready to increase the asset purchase program in terms of size and/or duration,’ he said.
Regardless of if or when QE might end, Draghi was clear about rates – they will stay low for a while. ‘Interest rates… are expected to remain at their present levels for an extended period of time and well past the horizon of our net asset purchases,’ he said.
It is a view broadly shared by Carl Dirk Enderlein, the Citywire AAA-rated manager of the Brown Advisory-WMC Strategic European Equity fund. Enderlein sits at the top of the Equity – European Region category for his risk-adjusted returns over the past three years.
In his note to shareholders, Enderlein, who joined the fund’s subadvisor Wellington Management in 2010 after a successful spell at Allianz Global Investors, wrote that he saw signs of strength in the European economy, but expected lower growth and low interest rates to continue.
He said this backdrop ‘in combination with political uncertainty, will, in our view, result in continued volatility in the equity markets during the year.’ It’s a situation he relishes.
‘While this may create unease among market participants, we as stock pickers welcome volatility as it translates into investment opportunity at attractive valuations,’ he wrote.
The $1.3 billion fund has around 64 positions – predominantly large growth stocks – with top holdings including Swiss banks UBS and Julius Baer Group, as well as pharmaceutical giant Reckitt Benckiser and consumer goods conglomerate Unilever.
It also has an overweight to small and mid caps, with 22% of the portfolio invested in firms with a market capitalization of between $1 billion and $5 billion, versus the MSCI Europe index’s 1%. A further 8.9% is invested in the $5 billion to $10 billion range, against the index’s 8.4%.
In terms of country allocations, the UK comes top at 28% of the portfolio, followed by Switzerland with just shy of 17% – both overweights. France is third at 13.5% – an underweight. Enderlein’s 8.8% allocation to Germany is about half that of the benchmark’s 15%, but his allocation to Sweden at 10% is twice that of the index, and is made up of construction firms Assa Abloy, Atlas Copco and Sandvik.
Small but mighty
Enderlein is not the only manager playing further down the market cap spectrum to boost returns.
The second highest-rated managers in the category are Jason Holzer and Borge Endresen, who run the Invesco European Small Company fund. The fund is small by name, but with $787 million in assets it has a respectable 3.2% market share of the category.
The managers have an unusually large cash position at the moment – 27.9% – which they plan to put to work in the event of a market correction.
In a recent commentary, Holzer predicted that small caps would continue to benefit from mergers and acquisitions activity, with two of his holdings – Banca Transilvania and Israel Discount Bank – becoming possible targets.
‘Not only is private equity still flush with large fund-raisings, but trade buyers are quite active in mergers and acquisitions,’ he said.