Disciplined bottom-up quality growth stocks outside of the usual suspects

The US bull market is officially the longest on record since World War II surpassing the 1990, 2000 and 2007 peaks. It is hard to imagine the music won’t skip a beat in the face of rising rates, shrinking central bank balance sheets, curtailing liquidity, trade spats, wage inflation risks, and emerging market credit concerns.

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Comgest’s Global Equity team believes now is a time for caution following a disciplined valuation approach investing in bottom-up ideas with under-appreciated growth prospects and a potential to positively surprise.

The last 12 months have seen record inflows and strong performance for global and tech funds, many of which have been buoyed by both the performance of the FAANG (Facebook, Amazon, Apple, Netflix and Google) stocks, which together account for as much as 50% of the S&P500 year-to-date gains, and the BAT (Baidu, Alibaba and Tencent) stocks in China1. Comgest’s Global Equity team believes that the majority of the FAANG and BAT stocks are now over- valued on relative valuation metrics for both the level and visibility of growth on offer and, more importantly, remains cautious on their performance in the event of a major market correction.

Comgest’s Global Equity strategy (AUM $3.5bn as at 30 June 2018) has, more recently, actively sought to avoid some of these stocks owning instead the unusual suspects in the technology sector which the team believes offer better value for the growth opportunities on offer. Examples of current technology holdings include: Amadeus, a global leader in airline software which continues to see very strong growth opportunities in core and new markets; Visa, a leader in the consolidated global payment network space which continues to benefit from the secular growth in cash to cards/mobile wallets; Intuit, a leader in medium-sized enterprise resource and online US tax filing software, both of which are growing strongly from cloud adoption; lastly Microsoft, which for a long time lacked strategic purpose and direction, has found new avenues for growth in its productivity software suites via the cloud.

Hunting outside of the usual suspects is not limited to sectors but is also true of markets. The Comgest Global Equity team believes Japan has plenty of attractive undiscovered investment opportunities which may have been overlooked by most global fund managers. Not all competitor funds have investment teams based in Japan who are ideally positioned to know their stocks inside and out like Comgest.

Japanese equities have enjoyed a strong run in recent years, outperforming the MSCI World Index in three of the last five calendar years. With the improving corporate governance, higher returns on equity, and solid structural growth drivers many good investment opportunities have presented themselves. For bottom-up stock pickers like Comgest, this is part of the reason it has a near 25% exposure to Japan in its Global Equity strategy (at end June 2018). This is a differentiating point versus other global funds with Japan exposure close to that of the benchmark at 8%.

Japanese investment examples in Comgest’s Global Equity strategy include Hikari Tsushin, the leading corporate SME services and equipment company; Makita, a leader in power tools driving innovation in cordless products across professional and DIY markets; Don Quijote, the biggest discount store in Japan; Nidec, the global leader of small precision motors; and Fast Retailing, owner of the globally established Uniqlo brand.

In its relentless hunt for sustainable visible earnings growth with a potential to beat expectations (and here is the key) at more palatable valuations given excessive market levels, the team has also chosen to invest in established European-based leading global consumer staples brands such as Unilever, Heineken and L’Oreal. All these businesses have extensive exposure to the fast-growing emerging markets. Approximately 60% of sales for Unilever and Heineken currently come from emerging markets while 40% of L’Oreal sales are from new and emerging markets1.

Over 1, 3, 5 and 10 years the Comgest Growth World fund (USD Acc share class) has outperformed the MSCI AC World Index by as much as 7.2%, 2.3%, 2%, and 1.25% respectively (net of fees, as at 30 June 2018) and is ranked in the top quartile of its Morningstar category. The fund continues to outperform into 2018 returning 3.3% versus the MSCI AC World index of 2.6% (YTD, 30 June 2018).

Zak SMERCZAK October 2018

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