Hello, I am Zehrid Osmani, Head of the global long term unconstrained strategies, and Senior Portfolio Manager at Martin Curie. Welcome to our performance update on the first half of 2023. We will cover three points: (1) an update on the market moves in H1, (2) fund performance, and (3) our outlook for the remainder of the year and into 2024.
Global equity markets have continued to be very volatile over the first 6 months of the year, as we predicated would be the case in our 2023 outlook, given the wide range of potential outcomes on inflation, monetary policies and economic fronts. Other uncertainties also weighed on sentiment over the period, notably the failure of several US regional banks, the tense US debt ceiling negotiations and risk of US government debt default, as well as ongoing geopolitical uncertainties.
From a style perspective, the aggressive sell-off seen in quality growth stocks last year, triggered by the fastest pace of rate hikes in decades, reversed course this year, with Quality and Growth outperforming Value on the back of easing inflation and monetary policies approaching peak.
The recovery of Quality Growth stocks was particularly strong in Europe during the first quarter. This was largely driven by China’s swift re-opening from late last year, which contributed to a less bleak global macro-economic outlook than the market had feared.
A peculiar characteristic of the markets so far this year has been the very narrow leadership, driven by some of the large cap Tech stocks, performing strongly on the back of the growing market focus on Artificial Intelligence.
On valuations, we still see more supportive valuations in European and Asian equities, rather than US equities at the aggregate level, although we believe it is more important to assess stock specific valuation on a case-by-case basis given the uncertain environment we are facing.
Our detailed and structured fundamental research has always placed valuation discipline at the heart of our process. In addition, we continue to focus on companies that have (i) resilient earnings, given risk of further downgrades, (ii) pricing power, in order to protect margins, given the higher inflation; (iii) solid balance sheets in case we head into a recessionary period, and (iv) that are exposed to structural growth themes, given the lower growth environment in general. As such, we believe our strategy is well positioned to navigate the uncertain macro environment ahead
Performance over H1
Over the first half of 2023, our Global strategy delivered c.+23% gain on a gross basis (in USD terms), outperforming the MSCI ACW Index by c.9 percentage points.
From a sector perspective, as a pure quality growth strategy, our overweight in Technology and Consumer Discretionary contributed positively to performance, as has our lack of exposure to Energy or Banks, sectors that significantly underperformed so far this year. Conversely, our overweight in Healthcare detracted from performance.
At the stock selection level, whilst Technology stocks were important contributors, strong stock specific performance has been delivered across all sectors we invest in, except healthcare.
In Technology, we have significant exposure to some of the AI and semiconductor related stocks that have been leading the market rally, namely Nvidia, Microsoft and ASML. In Consumer, the luxury goods companies performed strongly overall, notably Ferrari, Moncler and L’Oréal. This has been supported by a recovery in Chinese consumers. Elsewhere, Industrial holdings Atlas Copco delivered quarterly results that significantly beat market expectations. The company has high exposure to several attractive structural growth end-markets such as EV, semiconductor and infrastructure, and is starting to benefit from the green transition.
Our healthcare exposure contributed negatively, in part as the market shifted away from defensives towards more cyclical exposure. Some stock specific news also led to negative share price reactions. However we believe these concerns are short term in nature, and do not change our conviction in the stocks. Notably, the share price of Illumina has been weak. The global leader in gene sequencing has faced ongoing legal challenges to its acquisition of Grail, a cancer blood test developer. In June, its CEO Francis DeSouza resigned shortly after a long-standing proxy battle came to a conclusion. On this basis we see an increased probability that Grail gets divested, regardless of the legal outcome of the appeals. This should refocus the market on the attractive core sequencing business of the company, as it enters an exciting new product cycle with its Novaseq X tool.
In terms of portfolio activity, we purchased several high conviction stock candidates as attractive entry points emerged.
These include Pernod Ricard, which we bought in February. Pernod Ricard is the World No.1 for premium spirit and No.2 in the Wine and Spirit industry1, and is well placed to benefit from the premiumisation trend, and supportive trends in emerging market consumers.
In April, we purchased Adyen, a leading global payment company whose growth is supported by multiple structural trends such as frictionless payment, omni channel commerce and platform economy.
And finally, we bought Estee Lauder in June, a global leader and diversified player in the luxury beauty market, after a sharp fall in the share price following a profit warning. Estee Lauder is a high conviction name with meaningful China exposure. We believe more upside has emerged, amidst short term market concerns related to de-stocking and channel issues.
On the other side, and as way of funding sources, we existed several positions for different reasons:
We sold our sub-scale position in Dr. Martens in the first quarter. Kerry was sold to fund a top up in Croda, as we believe the latter is better positioned in the ingredient space. In addition, we exited AIA, as we see limited scope for the company to accelerate or even sustain the new business growth it delivered in the last decade, and better opportunities can be found elsewhere.
We believe markets are likely to remain volatile over the second half of this year, given the uncertainties around range of outcomes that are being forecast in terms of inflation, monetary policy and economic scenarios.
On the inflation front, whilst inflation rates are easing, they are in our view likely to remain sticky and longer lasting, with wage inflation continuing to be the focal point. We should however continue to see an easing to the inflationary pressures in the second half of the year, in large part related to the elevated base effects of last year.
Monetary policies are therefore unlikely to pivot until sometime in 2024. The Fed might be closer to peaking, with a smaller rate hike announced in the May meeting, and a “hawkish pause” in June, although expectations of rate cuts in H2 have now disappeared, with consensus now joining our belief that the Fed will not be pivoting until sometime in 2024. The uncertain outcome on the monetary policies front is what will drive an ongoing bull-bear debate across asset classes, and within markets. In any case, we are now closer to the end of the interest rate hiking cycle, which should in itself be supportive for Quality and Growth styles within equities in our view.
On the macroeconomic cycle, the unexpected and sudden China reopening has been leading to a sharp rebound in the Chinese leading indicators, both on the manufacturing and the services side initially, although the more recent figures have shown a loss of momentum on the manufacturing side. We expect the Chinese leading indicators to continue to show a supportive picture in the months to come, notably on the Services side, even if the recovery will likely be uneven. With China being the second largest economy globally, the recovery also has the potential to be somewhat supportive for the global Services PMIs, which have been improving, notably for Europe, which is more cyclically exposed to China than the US.
The China recovery is supporting our central scenario of sharp slowdown rather than recession at the Global and US levels for now; we maintain our probability of 65-70% of such scenario, with a 30-35% probability of recession. Europe should also be more supported by the Chinese recovery, although at this stage, we maintain our core scenario of stagflation at 65-70% for the region. We acknowledge that there is potentially a rising risk of recession in the US, if credit conditions remain tighter for an extended period, which could put a dampener on economic activity. We believe that risk of recession is more elevated in 2024 than 2023.
That said, corporate earnings are heading into a recession this year, and we anticipate further downgrades to estimates across most markets, although consensus has now moved closer to our top down estimates.
In the face of macro uncertainties, we believe our strategy provides investors exposure to select companies with an attractive growth profile over the medium term.
Thank you very much for listening, and we hope to see you again next quarter.