CGIE: Exploring Large-Cap Growth Overseas Investment Opportunities (NYSEARCA:CGIE)

I recently began covering a number of diverse ETFs from Capital Group, the 93-year-old investment powerhouse behind American Funds®. Following a very interesting bond/stock play called Capital Group Core Balanced ETF (CGBL), which I just recommended as a BuyI plan to cover more of them 21 ETFs which have been released since February 2022. My next choice is Capital Group International Equity ETF (NYSEARCA:CGIE), which was released just under a year ago.

Coincidentally, CGIE is right behind CGBL in average total return at the end of August at 23% compared to CGBL’s top performance of 25.4%. So, I knew right off the bat that the fund had performed very well over the past year, but I wanted to dig deeper and see if it could perform as well in the year ahead and beyond. The reason is that market conditions have been generally positive over the past year, but this could change over the next 12 to 18 months amid numerous macroeconomic catalysts.

Understanding the global dynamics that drive CGIE performance

As an internationally focused ETF, CGIE bets heavily on the performance of overseas companies, with nearly 95% of its over $200 million asset base invested. On its own, many investors would consider that a big risk, especially since domestic stocks have performed quite well over the past year, not to mention the dollar’s long-standing dominance over almost every other global currency, especially euro.

I specifically cite the euro because CGIE invests two-thirds of its funds in European securities, so it’s important to be aware of the currency (USD:EUR) dynamics at play. Over the past year, the dollar has played with the euro, but has steadily lost ground, as illustrated by the chart below.

While there was a strong rally in Q1 2024 that took the USD to year-ago levels against the EUR and continued attempts to gain ground in Q2, the dollar is definitely losing its edge. Part of the reason is the ECB’s decisive interest rate cuts, the second of which took place just yesterday. And with next week bringing heightened anticipation that the US Federal Reserve will follow suit with its rate-cutting program, the greenback is clearly less attractive now than it was a year ago.

This is essentially one of the Fed’s biggest challenges. Even though the dollar has managed to maintain its relative strength against most global currencies over the past decade and a half, it has lost ground to other currencies in terms of the share of foreign reserves.

To be more specific, the emergence of non-traditional currencies such as the Chinese renminbi and the Canadian and Australian dollars have eroded the USD’s position.

Incidentally, as the image above shows, other major currencies such as the yen, pound sterling and even the euro do not seem to be responsible for this “hidden erosion”, as the IMF calls it. In the June report from which the images above were taken, the IMF says:

Surprisingly, the reduced role of the US dollar over the past two decades has not been accompanied by increases in the shares of the other “big four” currencies – the euro, the yen and the pound sterling. Rather, it was accompanied by an increase in the share of what we called non-traditional reserve currencies, including the Australian dollar, Canadian dollar, Chinese renminbi, South Korean won, Singapore dollar and Nordic currencies.

I say this is one of the Fed’s biggest challenges because investors are focused on the effect of interest rate cuts on the domestic market. Many ignore the fact that the global implications of lower interest rates could have an equally negative impact on the economy, potentially adding momentum to other domestic recessionary forces.

So why CGIE?

Against this macroeconomic background, it would make sense to invest in European securities, as the cost of borrowing is now becoming much cheaper for corporates. With prime refi rates now at 3.65%, we should be able to see a lot more investments implemented by the big companies.

And this ties directly into my CGIE investment case, as 97% of its holdings are concentrated in large-cap, growth-focused companies. More importantly, its sector allocations are likely to boost performance in the coming quarters. If you look at how the fund is allocated by sector, it’s clear that the fund is focused on growth, with two-thirds allocated to what I like to think of as the bedrock sectors of any economy: technology, financials, healthcare and industrials .

Just a quick look at a few companies in these sectors tells a compelling growth story.

Novo Nordisk A/S (NVO)

While the European pharma giant’s shares have moved sideways in Q3, that belies the huge growth it’s seen to its P&L level. Much of this pessimism seems to have come from weak earnings and revenue growth in the last reported quarter, but a more balanced look tells me that sell-side analysts have been modeling a little too much growth too early.

The wave of GLP-1 drugs coming to market in the next five years could dampen NVO’s growth on this front. However, as Seeking Alpha reported, Morningstar expects GLP-1 pioneers (or early movers) NVO and Eli Lilly ( LLY ) to hold more than a third of the total estimated $200 billion market through the beginning of the next decade.

The stock has been under pressure due to missed revenue and earnings in Q2 2024. However, there appears to be more than a little optimism heading into the final quarter, when The Street expects an EPS print of 35% on an annualized basis.

Regardless of what happens going forward, the growth element here looks very attractive over the next couple of years, with analysts expecting a 27% revenue growth rate in FY 2024, with 25% EPS growth. As such, it is an important growth stock in CGIE’s portfolio and, with a weight of 4.2%, is the industry leader.

SAP SE (SAP)

On the technology side is SAP, the $256 billion German giant that is omnipresent across multiple industries, empowering companies with its advanced suite of enterprise applications designed to increase productivity, manage risk, manage supply chain logistics, provide analytical insights and more. SAP is a mainstay in the enterprise world and the growth element is clearly visible from the stock’s sheer momentum as it has gained over 60% over the past year.

Looking at future growth prospects, The Street is clearly bullish on SAP over the next two years, with low double-digit growth rates projected for the years through fiscal 2026. Another success story in the “historical portfolio” of CGIE.

Final thoughts

These are just two of the fast-growing stocks the ETF holds, and these underlying stocks are simply a small sample of the fund’s extensive investments in growth-oriented industries. It’s time for growth again in Europe and all signs point to that inevitable conclusion, which is why I think this fund will do very well in the short to medium term.

Turning to the US domestic market, the nation is on the verge of significant financial and political volatility in the coming months, in my view.

On the one hand is the Fed’s attempt to control inflation and begin to reverse the QT cycle. This will hopefully avoid a hard landing where inflation could flare up again and undo the central bank’s efforts of the past two and a half years. This is further compounded by the fact that Europe is now returning to growth and threatening the dominance of the dollar, not to mention those non-traditional currencies that have taken their share of foreign reserves at central banks around the world.

On the other hand is the political polarity that we have seen in recent years. There are various topics that cause this uncertainty to divide, as depicted in this revealing graphic from Statista.

All of this points to the volatility to come, and political considerations are only a small part of the volatility equation. All things considered, it’s almost a certainty that markets won’t be “business as usual” for the next year to a year and a half – at least.

Frankly, though, I would never recommend betting against the US economy as a whole. This sentiment is best expressed by Gregory Daco, EY-Parthenon Chief Economist, Strategy and Transactions, Ernst & Young LLP, in a report a few weeks ago:

Despite high financial market volatility and weaker economic data, concerns about an imminent US recession are overstated. Conditions on the labor market have softened noticeably, but economic dynamics remain positive. The US economy continues to advance at a modest to moderate pace.

Honestly, I don’t know the difference between modest and moderate, but I do know that the US economy is as tough as they come. It may have withstood worse situations than the one we are in now. However, from an investment perspective, it is always better to spread your risks than to concentrate them in one market.

In such a scenario, it makes sense to explore overseas investment opportunities in addition to your core domestic holdings. As such, I recommend a Buy for Capital Group International Equity ETF primarily for its short- to medium-term capital appreciation prospects which I believe will be driven by a stronger EU economy. It should also help act as a sort of hedge against your US-domiciled holdings, which I recommend you hold on to as long as the US economy continues to show signs of strength.

Editor’s Note: This article covers one or more microcap actions. Please be aware of the risks associated with these stocks.