Invesco’s Surplice Mulls Machinery Stocks After Slump Overdone

John Surplice, who manages Invesco Ltd. (IVZ)’s $1.1 billion Pan-European Equity Fund, said the drop in industrial stocks to the lowest levels since April 2009 is providing investment opportunities in capital goods companies.

A lot of industrial products have had unrealistic expectations for margins in light of the recent economic indicators, said Surplice, who declined to discuss individual stocks. Investors in capital goods companies often target companies like mining-drill maker Sandvik AB. (SAND) Surplice’s holdings includes Swiss drugmaker Novartis AG (NOVN), filings show.

“The ongoing correction in capital goods should throw up some opportunities over the next months,” Surplice, a former chartered accountant at PricewaterhouseCoopers LLP, said in a phone interview from Henley, England on Aug. 3.

Since July 11, makers of industrial goods in the Stoxx Europe 600 index that have reported earnings accounted for the biggest number of disappointments, with 26 of 50 companies lagging behind analysts’ projections, Bloomberg data show. European services and manufacturing growth weakened in July to the slowest pace in almost two years, adding to signs the euro region’s recovery is losing momentum.

Europe’s export-led recovery is faltering as leaders struggle to contain the region’s worsening debt crisis as global demand weakens. U.K., Australian and Russian manufacturing contracted last month, while China’s output growth slowed.

Being Picky

Surplice, who joined Invesco in 1995, says that it’s still possible for an investor to outperform the market by being choosy.

“You have to look at the single stock,” said Surplice. The economics graduate from Edinburgh University buys companies primarily on their own prospects, with their main indicators being the valuation and discounted outlook. “A lot of capital goods is still risky and the risk reward not favorable.”

The fund holds 70 stocks, with the biggest investment being Novartis, according to an Invesco filing on June 30. Surplice’s 791.6 million-euro ($1.1 billion) fund has beaten 75 percent of its peers on a year-to-date basis, according to Bloomberg data.

Surplice has already invested in industrial companies that benefit from the later stages of economic growth. Bilfinger Berger AG is well positioned to benefit from demand for specialized repairs, maintenance and the modernization of industrial plants, the fund manager said.

Surplice also invested in Rentokil Initial Plc (RTO), the world’s largest pest-control company, and G4S Plc (GFS), the world’s largest publicly traded provider of security services.

Risk Reward

Industrial stocks are the second biggest sector of Surplice’s fund after financial-related stocks as of June 30, with an exposure of 21.6 percent. Geographically, the 20-year- old fund had its biggest weighting in the U.K. with 31.6 percent, followed by the Netherlands, France, Germany and Switzerland.

“This business is all about finding the most attractive risk reward,” Surplice said, adding that companies in the commercial and professional services sector will perform better as we progress through to the later stages of the economic cycle.

In civil aerospace, valuations fail to reflect the improving financial dynamics that increased air traffic will deliver in terms of new aircraft deliveries and spare parts, which are high margin activities, according to Surplice.

Safran SA (SAF) is among aerospace companies that have reported higher first-half profit, buoyed by a recovery in global aviation. The company, with General Electric Co. (GE), builds engines for Boeing Co. (BA)’s 737 and Airbus SA’s A320, and is counting on surging demand for a new engine that improves fuel efficiency. Safran, Europe’s second-largest maker of aircraft motors, will benefit from an improvement in hedge rates and operating leverage, as well as the consolidation of some acquisitions, which will boost earnings per share.

To contact the reporter on this story: Sabine Pirone in London at spirone@bloomberg.net.

To contact the editor responsible for this story: Benedikt Kammel at bkammel@bloomberg.net

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