Market overview
- Despite a rally in the final days of the second quarter, most stock markets around the globe finished the volatile period with negative returns.
- The major news of the quarter was the UK vote to leave the European Union (EU). The initial shock of this unexpected outcome prompted a sharp decline in global equity prices as many investors moved from stocks to government bonds, driving government bond yields to record lows.
- Currency volatility also increased sharply with investors selling the British pound and seeking cover in currencies perceived to be safer, including the Japanese yen and the US dollar.
Performance highlights
- Invesco European Growth Fund (Trades, Portfolio) Class A shares at net asset value (NAV) declined in the second quarter, underperforming its benchmark index. (Please see the investment results table on page 2 for fund and index performance.)
- Meaningful underweights in the consumer staples and health care sectors drove relative results.
Contributors to performance
- A high single-digit cash position, in a volatile market environment, added to relative results. As a reminder, cash is a by-product of the investment team’s bottom-up stock selection process, not the result of any top-down or risk management allocation decision.
- Holdings in Russia delivered a double-digit return, adding to both absolute and relative results.
- Russian bank Sberbank PAO (MIC:SBERP, Financial) was the fund’s top individual contributor, delivering strong first quarter results with a return on equity (ROE) in the high teens, particularly impressive given Russia’s still-poor macroeconomic situation. However, the economy appears to be stabilizing and Sberbank stock rose from the deeply oversold levels of 2015. Many analysts are now upgrading their earnings estimates for the bank, which in our view, remains attractively valued given its very dominant franchise in Russia.
Detractors from performance
- Underweights in the consumer staples and health care sectors, both positive in a negative quarter, were the largest detractors from relative results. Stock selection in the materials sector detracted as well.
- Geographically, fund holdings in Switzerland, the UK and Sweden declined during the quarter, detracting from absolute and relative results. An overweight in the UK market was also disadvantageous.
- Sky PLC (LSE:SKY, Financial), a UK-based media and broadcasting firm, was the portfolio’s largest individual detractor. The stock underperformed due to concerns about inflation going into the anticipated Bundesliga rights auction and Brexit’s potential negative impact on UK consumers. We remain positive on Sky’s long-term business given a strong management team with a track record of cost control during weaker environments.
Positioning and outlook
- Though the UK’s vote to leave the EU caught many investors off guard, the European Growth team was prepared to take action. Before the vote, we diligently reviewed existing holdings and potential investment candidates creating a “watch list” in anticipation of market dislocation that would likely result from a Brexit decision.
- During the quarter, we added several new stocks, including UK-based recruiting and human resource services company Hays PLC (LSE:HAS, Financial) and Switzerland-based technology company OC Oerlikon Corp. AG (XSWX:OERL, Financial) (0.86% of total net assets). We sold Anheuser-Busch InBev SA/NV, Kuoni Reisen Holding AG and Prosafe SE (all 0.00% of total net assets).
- The general outlook for the balance of 2016 remains mixed with added uncertainties from Brexit’s short- and long-term implications. Consequently, we believe global equity volatility may remain elevated during the second half of the year.
- The European Central Bank maintains its expanded quantitative-easing asset purchases. It has also indicated it is ready to provide further stimulus to support markets in the wake of Brexit, given uncertainty about the timing and nature of the UK exit, political and economic impacts and broader ramifications for Europe.
