Five funds to exploit low valuations in European stocks

Some of the highly rated global equity strategies we cover – GuardCap Global Equity, Dodge & Cox Worldwide Global Stock, Capital Group New Perspective or MFS Meridian Global Equity to name just a few – have an oversized exposure to Europe. Beyond the contrarian and valuation arguments, European equities also protect domestic investors from negative currency movements. So there are some solid reasons for European investors to allocate to their home market in a portfolio allocation.

Fortunately, there are plenty of ways to access the European share market. Low-cost funds and ETFs are good options, especially for investors who cannot access active management at reasonable costs. But Europe is also fertile ground for skilled active managers. Our research team covers strategies with different styles in this universe that can be combined to build a diversified portfolio. There is one common thread though: our favorite managers know the market extremely well and have the persistence for their high conviction to deliver. Below we list five of our top convictions for actively investing in European equities.

Profound value investing expertly executed

• Morningstar medalist rating: Gold (in EUR I share class)
• Morningstar People Pillar Rating: High
• Morningstar process pillar rating: above average
• Morningstar Parent Pillar Rating: Above average
• Morningstar rating: ★★★★★
• Fund size: EUR 527 million
• Morningstar Category: European Large-Cap Value Stocks

Within the value camp, Brandes European Value is one of the best active funds on the market. The strategy is led by an experienced team of value-oriented investors. A five-person standing committee makes investment decisions collectively. Each member of the team brings a wealth of experience to the table and is supported by a strong team of 22 fund managers and analysts to conduct equity research across the market capitalization spectrum.

Another strength here is the fund’s distinctive strategy, characterized by minimal adherence to benchmarks, patience and a higher allocation to under-researched small- and mid-cap stocks. They are willing to go to abandoned corners of the market to find investment opportunities. However, their deep value approach is risky and may not suit every investor. However, those with a long-term perspective and risk tolerance will find that this fund could be a great addition to their portfolio, especially if they currently lean towards growth stocks.

A hidden gem

• Morningstar Medalist Rating: Silver (in share class EUR P)
• Morningstar People Pillar Rating: above average
• Morningstar Process Pillar Rating: High
• Morningstar Parent Pillar Rating: Above average
• Morningstar rating: ★★★★★
• Fund size: EUR 963 million
• Morningstar Category: Europe Flex-Cap Equities

Magallanes European Equity is probably the lesser known name in this selection. However, this value strategy benefits from a focused team, a talented lead manager and a highly repeatable and distinctive investment process. Iván Martín is a veteran investor who built a successful career managing Iberian equity portfolios for around 15 years before founding investment boutique Magallanes in 2014. He built a small team of three itinerant analysts and a merchant who closely supports him in running the company. three strategies, where they apply the same value-focused investment philosophy.

The team invests with a long-term mindset across the market cap spectrum. Valuations are key here: once an idea is identified, the team performs thorough fundamental due diligence on a business to estimate its intrinsic value. Martín looks for financially sound, well-run, high-cash-flow companies that he believes are misunderstood by the market, while avoiding complex, over-leveraged, unproven or hyped firms. The portfolio is typically concentrated around 30 companies, and wide deviations in style, size and industry allocation relative to the index and peers are common. There is little room for stock picking mistakes and the strategy carries significant risks. But patient, risk-tolerant investors should do well. The strategy has outperformed peers and its benchmark since inception, all the more impressive given the value factor’s poor performance over the past decade.

A top team that plays to its strengths

• Morningstar Medalist Rating: Silver (on share class D2 EUR)
• Morningstar People Pillar Rating: High
• Morningstar process pillar rating: above average
• Morningstar Parent Pillar Rating: Above average
• Morningstar rating: ★★★
• Fund size: EUR 1.5 billion
• Morningstar Category: European Large Cap Growth Stocks

BlackRock’s European equities desk went through a period of volatility from 2017 to 2019, but we believe it is now back to full strength. The team manages strategies with different styles from Growth to Value. BGF European is at the growth end of the fund range, although it is not a pure growth equity play, with room for opportunistic bets at times. Its lead manager, Stefan Gries, is a capable and very knowledgeable portfolio manager. He is well supported by BlackRock’s more than 20 core European equity teams, which is one of the most well-equipped and of the highest quality in this market segment.

The team’s stock research drives Gries’ search for companies that score well on management quality, growth investments and return on capital. The approach is implemented with conviction, as reflected by the high concentration of the portfolio in the top-10 and Gries’ willingness to make bold moves, which translates into dynamic sector allocations. Under his watch, the fund achieved commendable results, even after taking into account the higher risks presented by this approach. Investors looking to gain exposure to European stocks ex-UK can look at BGF Continental Europe Flex, run by Gries’ teammate Giles Rothbarth. We have an equally high view on this strategy, played out in a similar fashion.

Experts in quality improvement

• Morningstar Medalist Rating: Silver (on share class EUR Z)
• Morningstar People Pillar Rating: High
• Morningstar Process Pillar Rating: High
• Morningstar Parent Pillar Rating: Above average
• Morningstar rating: ★★★★★
• Fund size: EUR 6.3 billion
• Morningstar Category: European Large Cap Growth Stocks

Investors looking for a purer growth approach than BGF European can look no further than Comgest Growth Europe. Very few can match the expertise this team has built in the European equity market over time. The team’s six most experienced members oversee investment decisions across the firm’s range of European large-cap funds, but all ten members contribute to equity research. All share a strong investment philosophy that has remained unchanged since the strategy was launched in 1991.

They look for 30 to 35 quality companies capable of growing their earnings per share independent of the business cycle. These companies tend to be dominant players, well managed and financially sound. Stocks belonging to the most cyclical sectors, including financials and energy, are therefore deliberately excluded. The investment horizon is clearly oriented towards the long term. With such an approach, the fund inevitably goes through periods of underperformance, especially when markets favor lower quality and cheaper stocks. But the strategy’s long-term track record is admirable and a testament to the team’s superior skills.

The strategy is increasingly approaching its maximum capacity as the firm’s core European equity mandates recently reached €13bn (£10.9bn) of assets under management. We are monitoring liquidity and any potential adverse changes in portfolio structure, but Comgest’s responsible capacity management in the past is reassuring. The team also runs a Europe ex UK variant of the strategy – Comgest Growth Europe ex UK – which we like just as much.

A well-executed approach with a sustainability angle

• Morningstar Medalist Rating: Silver (on share class EUR C Acc)
• Morningstar People Pillar Rating: above average
• Morningstar Process Pillar Rating: High
• Morningstar Parent Pillar rating: average
• Morningstar rating: ★★★★★
• Fund size: EUR 350 million
• Morningstar Category: European Large Cap Blend

This strategy offers a more combined approach compared to the other four strategies discussed in this article. However, this is not a lukewarm fund. John William Olsen has been the lead manager and has been leading the strategy since 2014. He is well supported by a team of nine and although we have seen some turnover in recent years, we like the current set-up of the team. The distinctive feature is the manager’s focus on owning a small number of companies that the team knows extremely well. The number of holdings usually varies between 25 and 35 and the turnover is very low. It uses fundamental work to look for composers—companies with big moats, sustainable business models, and competitive advantages—that give a quality bias. A key decision was to ‘Paris align’ the product in 2021 by identifying companies with a significant plan to reduce carbon emissions with science-based targets; this is based on the increasing influence of sustainability factors in this process.

Evaluation evaluation is also a cornerstone of the approach. This results in a balanced portfolio with quality features but at reasonable valuations. The strategy’s valuations are well below growth players such as Comgest Europe Growth and BGF European. Performance has been strong through Olsen’s tenure and across different market environments. This is a plus for investors who don’t want to put up with the style-related short-term underperformance that other funds listed in this article may experience to a greater degree.