A French Recipe for Growth
Pictet International Small Companies Fund (PTSCX ) has been a standout among funds that invest internationally. For the three years ending January 31, it has risen 26.6% on an annualized basis, versus 10% for its peers. The fund beat out most of its peers in 2000, returning 6.6% versus an average loss of 15.8% for funds that invest internationally. The fund carries an S&P three-year overall rank of 5 stars.
Managed by Robert Treich and Michael McLaughlin, the fund's research team scours its universe for the 100 best investment opportunities in developed international markets -- mainly Europe and Asia. In addition to the team's bottom-up research, each member visits 100 companies at least once a year, says Treich. The fund's 86.5% return in 1999 was driven by a lot of the same themes as in the U.S., such as information technology (IT) and related areas. But this is not an IT and technology portfolio, says Treich, who notes that the fund had good success in a wide range of industries. One place he is finding opportunities right now: France.
Continental Europe makes up more than half of the portfolio, Japan about 15%, and Asia oustide of Japan about 11%. Top holdings include A Novo, a French firm that services consumer electronics, and Omega Pharma, a distributor of pharmaceuticals in Belgium. On stock that the fund likes now is Marionnaud Parfumerie, a perfume retailer that has been consolidating the French market.
Rick Micchelli of Standard & Poor's FundAdvisor recently had the chance to speak with Treich about the fund's investing strategy. Edited excerpts from their conversation follow.
Q: How do you go about investing in the International Small Companies Fund? A:
Q: How do you go about investing in the International Small Companies Fund?
A:The portfolio is focused on the developed markets of Europe and Asia. We don't blend in emerging markets. We generally invest in companies capitalized at up to $2 billion outside of the US at the time of purchase, so we are purely focused on small caps.
Q: How would you describe your investment strategy? A:
Q: How would you describe your investment strategy?
A:It is very much a bottom-up approach. We are looking for what we refer to as the best 100 investment opportunities in our universe. Our investment process starts by taking a large universe and screening it down into something we call our research short list of about 500 companies. From there we do intensive primary research. Each member of our team will go out and see 100 companies at least once a year.
Q: How do you get down to the short list? A:
Q: How do you get down to the short list?
A:We use two perimeters: one is called price to appraised value, which is a pure measure of value based on return on equity and equity growth. The other is called profit ranking, which is based on return on capital employed and price to cash flow. This one is very good at identifying growth stocks at an early stage -- growth stocks with high return on capital before their price-to-cash-flow ratios become too high.
The appraised value measurement, on the other hand, is very good at identifying pure value in more traditional sectors of the economy such as manufacturing, retailing and so on. The implication of these two perimeters is that our portfolio will always contain a selection of growth and value stocks.
Q: Is management one of the key variables when you are researching small-cap companies? A:
Q: Is management one of the key variables when you are researching small-cap companies?
A:It is certainly something we think a lot about. When you think of a region like Europe, it is particularly important because you want to find management teams that can take the company outside its home market to become a regional leader. It is quite a challenge for say a French management team to become a leader in the German market place. They are culturally quite different.
Q: How is the portfolio broken down in terms of regions, and what are some of the larger country weightings? A:
Q: How is the portfolio broken down in terms of regions, and what are some of the larger country weightings?
A:We have 54% in continental Europe, 17% in the U.K., 15% in Japan, and 11% in Asia ex-Japan. We are about 2.9% in cash.
In Europe, the big country for us is France, where we have 23%. It is a very large overweight. We are finding some very good stock ideas there right now. In Germany we have 11%, Scandinavia about 10%, and southern Europe 5%. Smaller countries, such as Austria and Belgium are about 2.3%.
Q: What are some of your top holdings, and what do you like about them? A:
Q: What are some of your top holdings, and what do you like about them?
A:The largest position at 2.45% of the portfolio is a French company called A Novo, which services consumer electronics. If you have something in your home, like a set top box or a cell phone and it breaks, instead of the original equipment manufacturer servicing it they will contract A Novo to take care of it for you. It is outsourcing, which is quite an interesting theme in Europe.
The second largest holding is Omega Pharma at 2.3%, a distributor of pharmaceuticals in Belgium. The theme here is regionalization. Omega is the dominant player in Belgium, but Belgium is a tiny market. For them to take their business model and roll it out into new areas, like the Netherlands, is what we are looking for. The other exciting thing is that they are putting more generic products through their channel -- generic drugs. These haven't really penetrated the market as much in Europe as they have in the U.S.
Q: What about your third largest position? A:
Q: What about your third largest position?
A:It is a French company called Marionnaud Parfumerie, a perfume retailer that has basically consolidated the French market. In so doing, they have created buying power against brand owners and a very strong distribution channel. They have been tremendously successful, and will take this concept into new European markets.
Q: How do your sectors break down? A:
Q: How do your sectors break down?
A:We use our own definitions and have four big categories: corporate goods and services, i.e. everything that other companies sell to other companies, is 46%. Consumer goods and services, is 38%. Financials is 12%. Materials and commodities are only 1%. We are typically overweight in corporate and consumer and underweight financials and materials and commodities.
Q: You said you were finding some interesting stock ideas in France? Do you have a recent purchase there? A:
Q: You said you were finding some interesting stock ideas in France? Do you have a recent purchase there?
A:The latest purchase is a company called Trigano, in the leisure and equipment sector. They make things like camper vans -- not 40-foot Winnebagos since the European market is quite different. Their products are suited to the European market, and there has been a good increase in spending on leisure activities in Europe. The company is well positioned with its products and is very cheap.
Q: I am curious about your 15% weighting in Japan. Are there attractive opportunities in some small companies there in spite of the economic situation? A:
Q: I am curious about your 15% weighting in Japan. Are there attractive opportunities in some small companies there in spite of the economic situation?
A:I think so. We had 10% there at the beginning of the year, so we have increased it quite a bit. It is largely because we have found some companies in Japan that we think are quite interesting despite the economic environment.
We certainly don't have any better of an economic view than we had a few months ago. It is still a difficult situation in Japan. The political situation is difficult, too. However, we think the stocks we have bought are cheap enough, even in a very poor environment, and could perform reasonably well if there is any indication that things are going to turn up.
Q: Do you have examples of companies you own in Japan? What kind are they? A:
Q: Do you have examples of companies you own in Japan? What kind are they?
A:Our companies are more geared towards the consumer. That is the big swing factor in Japan. If the consumer comes through, then we will see some meaningful economic recovery. Consumer spending is still a very large part of their economy. We are positioned for a recovery and still think it is dangerous to underestimate the capacity of Japan to come though.
The biggest position we have is a company called Joint Corp. They are basically a condominium developer. They don't have an overinflated land bank like some of the other land companies in Japan. By Japanese standards, they have a strong management team. The company is also very cheap. We just think it is too cheap.
Q: How do you think international small companies should do going forward. Do you have a broad outlook? A:
Q: How do you think international small companies should do going forward. Do you have a broad outlook?
A:We are a bit concerned about this quarter right now, the first quarter. I think until we get the earnings reporting season out of the way there is still quite a bit of risk. There is a possibility that earnings expectations are still a little high in Europe, but we are certainly quite positive on the rest of the year with structural factors that are at work -- the flow of cash out of traditional savings and into mutual fund investments and then into equities and then eventually into small caps. This is quite a powerful trend for us. It could provide more liquidity in the small-cap market.
The ability of young companies to get venture capital funding and then list themselves is another positive development. They are all very powerful trends, and very positive for European small caps. We are quite comfortable with the outlook for Europe for the full year beyond what might be a little more difficult first quarter.