Morningstar’s Liana Madura recently spoke to Clas Olsson, chief investment officer of Invesco’s International Growth Investment Management Unit, about investing in Europe amid the debt crisis and seeking opportunities in Asia. Note that Olsson’s answers refer to the portfolio of Invesco’s International Growth fund, which is not available for sale in the U.K. Investors interested in Olsson’s take on European equities can explore it through the European Growth Equity fund, which he co-manages.
1. How has the debt crisis in Europe affected your investment thesis for the continent? Have you made any major changes in your portfolio in response?
In our International Growth Fund, we have been underweight the European region for a while, but it still represents about half of the portfolio (as opposed to approximately two thirds of the MSCI EAFE Growth Index). As mentioned, this is based on bottom-up company analysis rather than macro themes. So regardless of the negative macro headlines we are still able to identify plenty of stocks that we believe offer attractive Earnings-Quality-Valuations (EQV) profiles. I should also add that we have very little direct exposure to European banks with significant sovereign debt exposure; that's obviously been an area of recent investor concern.
The silver lining to all the negative headlines and market volatility is that European firms can provide some great investment opportunities. Therefore, we've actually been investing some of our cash by adding to certain existing positions as well as initiating some new holdings in other quality stocks that have been on our radar screens.
At a broader level, I should also add that Europe is the cheapest major region in the world, so valuations look interesting for long-term investors like us. In addition, there are still areas in Europe that are delivering solid growth (for example, Germany, Switzerland, and Scandinavia), often aided by robust exports. Likewise, many European companies now have very global footprints and generate sizable foreign revenues, including from the faster-growing emerging markets. Overall, we believe that Europe still offers a very large, varied economy and a large investment universe of well-managed, attractively valued, quality growth companies.
2. Despite the tragic events in March, Japan remains the second-top country of investment in Invesco International Growth’s portfolio. What long-term opportunities are you finding there?
Japan represents about 10% of the portfolio, and, as you said, it's the fund's second-largest country exposure in absolute terms, after the United Kingdom. However, on a relative basis, it is also our largest country underweight versus the benchmark--our exposure is actually only about half of the benchmark weighting. As always, this exposure is driven by bottom-up stock selection rather than by any top-down allocation decisions. The Japanese market was obviously negatively affected by the tragic events in March, but, as a whole, our stocks have performed relatively well.
With some notable exceptions (for example, Yamada Denki, the electronics retailer), we find it difficult to get too excited about the more inward-facing Japanese companies because of the well-known problems of deflation, the lack of pricing power, the older population, and the lack of political and government stability. As a result, most of our Japanese exposure is actually more export-oriented, including well-known companies such as Canon (CAJ) and Toyota (TM), and it also includes industrial companies such as Komatsu (heavy machinery) and Fanuc (a leading manufacturer of automation and robotics equipment).
3. You have a small allocation to the fast-growing emerging markets in Asia. Are you concerned about valuation levels, or do you think these growth rates are fundamentally unsustainable?
At the end of June 2011, about 7% of the portfolio our International Growth fund was invested in Asian emerging markets. Although growth there is slowing, mainly because of inflation-led interest-rate hikes, the growth numbers are still very positive. Demographic trends are also very positive long term (young populations, strong balance sheets, and a growing middle class/affluence), so we believe in the emerging-markets consumer over the long term. Many companies exhibit very good quality characteristics (such as return on equity and return on invested capital), and though valuations are not screamingly cheap, they are also not expensive when compared with historic levels and prospects. Overall, the region has definitely seen many macro- and microeconomic improvements since the days of the Asian financial crisis in the late 1990s, and we believe that it, and emerging markets in general, continue to offer attractive long-term potential.
4. You don't hedge currency risk. But do you consider currencies when making your investment decisions? Also, has the current volatility in the market made you change your investment strategy and the way you pick stocks?
We do not think we can add much value trying to call currency movements. Currencies can be extremely volatile, so it can be very difficult and risky trying to consistently predict short-term movements in exchange rates. Also, over the long term, currency movements often tend to even out. We do not hedge currencies; our core strengths lie in fundamental company analysis, so that's always our central focus. Rather than applying a broad brush approach to hedging currencies, we do take currencies into account on a stock-by-stock basis as part of our bottom-up fundamental research and stress-testing process.
Regarding the second question, absolutely not. We do not get wrapped up in the short-term macro noise that seems to distract many other investors, and we definitely don't try to time the market based on top-down predictions of specific short-term macro events. We are long-term, bottom-up, benchmark-agnostic investors, and we believe this is one of our key differentiators and has been a key driver of our competitive long-term track record.
Regardless of the environment, we remain focused on staying true to our philosophy of investing in stocks with attractive EQV profiles. Indeed, we believe that market volatility can actually provide us with opportunities to invest in high-quality growth companies at more attractive valuations.
