2013 Q4 Commentary
Wednesday, January 15, 2014
Ativo Capital is a registered investment advisor focused on delivering top quartile performance and exceptional service to institutional clients. We follow a rules-based process that combines quantitative methodologies with a fundamental overlay to build long-only, high active share portfolios. We invest globally, with an emphasis on international markets. Central to our approach is a proprietary model that scores stocks based on our assessment of their intrinsic value, price momentum and other important factors.
Encouraging economic news out of Europe and easy monetary policy from major central banks helped drive stock prices higher. Data suggested that U.K. GDP growth could accelerate to an annual pace of 4% in the fourth quarter, Spain came out of recession, and German consumer confidence rose to a six-year high. The European Central Bank (ECB) cut its key policy rate to a record low of 0.25% to support the region’s recovery and counter the threat of deflation. The Bank of England and Bank of Japan maintained their asset-purchase programs, and the Federal Reserve held off tapering its bond buying until 2014. In emerging markets, stocks in India posted strong gains amid optimism about new central bank leadership and the upcoming national election. Chinese stocks also performed well, rallying on the government’s announcement of a series of economic and social reforms. However, emerging market returns were limited by losses in a handful of countries, including Turkey and Brazil whose current account deficits continued to weigh on investor sentiment.
As we enter 2014, the euro zone is recovering, and the ECB has indicated more rate cuts could be on the way. Japan is raising its consumption tax in April, but the Bank of Japan has expressed its willingness to ease policy further to compensate for any fiscal drag. Economic growth in developed countries, including the United States, should be supportive of international equities. We also think the reforms unveiled by the Chinese government could be a big positive for the global economy and stock markets, particularly emerging markets. That said, even with very attractive valuations in certain areas, there are several reasons why we believe emerging market equities may continue to lag their developed peers over the short term. These include investor concerns about Fed tapering, the uncertain outcome of elections in Brazil, and political instability in Thailand and Turkey.
Performance and Positioning
In the fourth quarter, Ativo International Developed, Ativo International All Country ex US, Ativo International Emerging, and Ativo International ADR outperformed their respective benchmarks. Our multi-factor model worked well, largely because of the strong predictive ability of the Price Momentum and Operating Momentum factors.
Price Momentum is poised for a reversal, so we are closely watching the portfolios’ exposure to this factor. We expect the Valuation factor to be a key source of alpha in the months ahead, as central bank policies and economic outlooks become more solidified and investors renew their focus on company fundamentals. We think the Low Volatility factor (which is designed to be uncorrelated with traditional measures of volatility, such as beta) might not be a strong predictor of stock prices over the near term. The international markets are exiting a highly volatile period, and the volatility premium may decline.
– International Developed
– International All Country ex US
– International Emerging
– International ADR
Ativo International Developed
Ativo’s International Developed strategy outperformed the MSCI EAFE + Canada Index during the fourth quarter by 2.01%, net of fees. The outperformance was driven by stock selection; however, regional and sector weightings also added value. Stock selection was positive in every region but Japan and strongest in Europe ex EMU. There was also broad strength in stock selection among sectors, led by Industrials, Financials, and Consumer Discretionary. Stock selection in Health Care and Technology subtracted a modest amount from relative return. Regional and sector exposures that benefited results versus the Index included an overweight in EMU, an overweight in Technology, and an underweight in Materials. The Materials sector posted a relatively subdued gain after rising nearly 14% in the third quarter.
We reduced the portfolio’s overweight in Technology during the quarter and reduced its underweight in Financials. On December 31, the largest overweights were in the EMU region and the Consumer Discretionary sector, and the largest underweights were in Japan and Materials. Based on the model’s results, we anticipate increasing exposure to Japan, Industrials, and European banks. Assets in the International Developed strategy totaled $244.7 million at quarter-end, and Active Share was 85.92%.
Ativo International All Country ex US
We reduced exposure to the EMU region during the quarter, although this remained the biggest regional overweight in the portfolio on December 31. The biggest underweights continued to be Japan and Latin America. From a sector perspective, Consumer Discretionary was the largest overweight at quarter-end, and Materials was the largest underweight. Based on the stock rankings generated by our model, the portfolio’s exposure to Japan, Industrials, and European banks is likely to increase. Assets in the International All Country ex US strategy totaled $200.0 million on December 31, and Active Share was 89.03%.
Ativo’s International Emerging strategy outperformed the MSCI Emerging Markets Index by 2.37% in the fourth quarter, net of fees. The outperformance was due to a combination of stock selection and regional and sector exposures. From a regional perspective, Asia ex Japan had the largest positive impact on results versus the Index due to stock selection. Latin America was the second-largest relative contributor, helped by both stock selection and an underweight. In terms of sectors, the portfolio’s positioning in Consumer Discretionary and Technology added the most value. Stock selection drove the relative strength in Consumer Discretionary, while stock selection and an overweight were beneficial in Technology. The main source of relative weakness was stock selection in Financials, which was driven by a significant overweight in REITs. REITs, which are sensitive to interest rates, began to perform poorly last spring when the Fed first started talking about tapering, and they continued to lag this quarter.
During the quarter, we reduced the portfolio’s REIT exposure and will likely continue to reduce it as we enter the new year. We increased our overweight in Health Care, primarily by adding Indian pharmaceutical stocks. The largest overweights on December 31 were in emerging Asia and Utilities; the largest underweights were in Latin America and Financials. Assets in the International Emerging strategy totaled $57.0 million at quarter-end, and Active Share was 85.90%.
There were no major changes to the portfolio during the quarter, as our stocks are performing according to the model’s expectations. The few sales that were made included Giant Interactive, which we sold on the news it was being acquired, and Stantec, a Canadian engineering firm whose valuation appeared expensive following a long run-up in the stock. Constellium, a Dutch industrial company, was a new addition to the portfolio. Assets in the ADR strategy totaled $64.1 million on December 31, and Active Share was 91.30%.
1) Past performance is not indicative of future results.
2) Returns include the reinvestment of income.