Holly Cook: Hello and welcome to Morningstar. To talk today about his three stock picks I'm joined by James Sym, Manager of the Schroder European Alpha Plus Fund.
James, thanks for joining us.
James Sym: Thanks Holly.
Cook: So, three stock picks. Why don't you introduce us to with your first one?
Sym: I think the first stock I'd probably choose would be a financial which is I think the explicitly cheap area of the European market and let's talk about Intesa (ISP). It's an Italian bank. It's the best Italian bank, very well run, pretty profitable. It's had a fantastic crisis. So, it's emerged from the crisis with a strong balance sheet and is now able to put that to work.
They are getting incredible growth in their asset management business which is helping grow the top-line as well. So, if I look at their business plan, which I think is pretty credible and doesn't rely on interest rates going up.
Now, if that ever happen, they'd make even more money. By 2018 they are going to be paying out an 8% dividend yield. It's not so high today, it's only about 3 and a bit percent, but by 2018 it's 8%. So, we can buy that now, benefit from that dividend growth and then enjoy an 8% dividend from thereon.
Cook: So, you said this is the best Italian bank, but of course most people thinking about the Italian financial sector might well have some concern there. Is it likely to be affected by potential cyclical movements within the sector?
Sym: Well, it's a bank, so it's clearly not immune. So, we are taking that cyclical risk. The reason I say it's the best Italian bank is that because it's the strongest capitalized and the most profitable. So, if there is any turmoil, there's going to be many popolari banks, for example, that are going to suffer first. These guys should be relatively more resilient.
But the fact that there's those concerns is why it's so cheap and why we can buy with an 8% dividend yield. If no one was worried about the Italian situation, the stock wouldn't be quite so cheap.
Cook: So, it's able to perhaps smooth out some volatility that you might see as a result of the sector?
Sym: I would say so, yes, but I am taking cyclical risk with that one.
Cook: So, let's move on to your second stock then. What would that be?
Sym: Let's talk about Valeo (FR). So, this is a higher-quality business perhaps than the banks. It's a company with a five-year order book. They do the technology that goes into cars to help you save emissions. VW is very topical theme, isn't it?
So, the Valeo's technology – they do the stop-go technology, so your engine cuts out. That saves you about 16% of fuel. Regulators love that for example. They also have some camera technology to help you park and their part of the journey towards autonomous driving, that's a journey that will take 20 or 30 years but by 2030, 2040 the cars will be driving themselves and Valeo will be a beneficiary of that.
So, you can see they've got some very clever technology and they've got a big order book as well and that order book goes out for five years. So, I know pretty well what they are going to deliver. Again, it's cyclical because it's an auto supplier. So it supplies the auto industry and for that reason it's pretty cheap. So for 20% a year earnings growth, that's my forecast over the next five years, is only on about 12.5 times which is a very attractive multiple relative to the market for that type of growth because it's a bit cyclical.
So, I would expect to get back to me every year as a shareholder, I'd expect it to hold that multiple at least and I get back to me every year 20% earnings growth. So, that would be my second stock pick.
Cook: So, just to take a look at the potential risks associated with this stock, is it that cyclicality that is the main concern?
Sym: That's right. If there is a big downturn in auto sales then clearly Valeo will suffer because they supply that industry. I think that's unlikely for a couple of reasons. Firstly, interest rates are at all-time lows. So, as a consumer, we all buy cars on finance now because we much rather pay 200 quid a month than £10,000 upfront and we can do that because the interest rates are so much lower. So, as a consumer we are in a good place in terms of buying new cars.
There is also demand for cars. So, to give you an example, last year in Italy there's about 30 million cars on the road and about 1 million cars were sold. That's telling you they are replacing their cars once every 30 years, obviously, a totally unsustainable replacement rate. Cars do not last 30 years. So actually we are at the point, particularly in Europe – Valeo have a big European business, they also have a smaller Chinese business, but in Europe in particular you're getting this sort of catch-up demand from the crisis that we've had for the last six years.
Cook: Okay. Let's move on then. Last but not least, your third stock pick?
Sym: For my third stock pick I'm going to choose Wienerberger (WIE) which is Vienna brick manufacturer. The reason I'm choosing this stock is because it encapsulates what is a large chunk of my fund which is recovery potential. So, in Europe, over the last six years, as we know, we've been in a crisis and there are still stocks I can find you as an investor in my fund that haven't yet factored in that recovery.
So, Wienerberger makes bricks, bricks used to build houses. Roughly in Europe in the peak we've built 2 million homes, a woefully unsustainable number. Today we've built about 1 million homes, also a woefully unsustainable number, but unsustainably low. In Europe, we need to build around about 1.5 million houses, a 50% increase from where we are today.
When I do a very simple back of the envelope calculation for Wienerberger and what profit they might make if they sell 50% more bricks, which is very, very likely if this recovery comes through, I end up with a stock on about 3 or 4 times earnings. Obviously, it's not a brilliant business. So, it probably deserves about 10 times earnings, but it's on 3, so that's the stock where I think I can maybe make 2 to 3 times my initial investment today.
Well we've already made two times our initial investment, but I think there's plenty more to go for. So, that is a clear recovery stock within Europe and we've got several of those in the portfolio Wienerberger being one example.
Cook: Well, thanks for giving us three stocks there that are tied quite close to three interesting industries, financials, technology, and construction. Thanks for sharing those with us.
Sym: You're welcome, Holly. Thanks.
Cook: For Morningstar, I'm Holly Cook. Thanks for watching.
