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Global value managers must 'dig deeper'

As markets have risen, so have P/Es, says Templeton's Peter Moeschter.

Sonita Horvitch 17 June, 2015 | 5:00PM
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Peter Moeschter, executive vice-president, Templeton Global Equity Group, at Franklin Templeton Investments Corp., says that although the global equity market has done well in the last few years and become more expensive, there is still value to be found in individual stocks. "You just have to dig a little deeper," says Moeschter, a traditional value manager.

Focusing on developed markets, Moeschter notes that there has been a steady increase in stock prices in the last number of years. This has resulted in higher price/earnings multiples in general on stocks, as corporate earnings growth in the developed world has been slow," he says. "There needs to be a continued improvement in corporate earnings over the next 12 to 24 months to support the global equity market."

At the end of May, the benchmark MSCI World Index, which represents 23 developed markets, traded at a price/earnings multiple of 19.8 times trailing earnings per share. "This is somewhat high by historic standards," says Moeschter. But this is to be expected given the historically low level of interest rates and the expectation that earnings will continue to improve."

Using MSCI country statistics, the P/E multiple for the United States at the end of May was 20.7 versus 19.3 for Europe, 17.7 for the Far East and 16 times for Australia/New Zealand, says Moeschter. (Canada's P/E multiple at 20.5 times was in line with that of the United States.)

The MSCI World Index produced a total return in U.S. dollars for the 12 months to the end of May of 6.3% and an annualized 17.7% over the three years to the end of May.

In Canadian-dollar terms, this benchmark registered a hefty 22.2% total return for the year to the end of May and an annualized 25.3% for the three years to the end of May, says Moeschter. "This significant difference in performance over the past 12 months reflects the sharp drop in the Canadian dollar over that period."

The Templeton team does not hedge currency exposure. "We have a diversified stock portfolio that reflects many currencies; also, many companies have active foreign-exchange hedging strategies." Furthermore, Moeschter says, the investment horizon of stocks in the portfolio is around five years. "Currency movements tend to wash out over that period."


Peter Moeschter

At Templeton, Moeschter is responsible for both the global and EAFE (Europe, Australasia and Far East) portfolios for institutional and retail clients.

Through its extensive research network around the world, Templeton combs the global equity market looking for bargains. Its long-established discipline is to build financial models of its target companies, looking ahead five years. The goal is to buy good companies at a substantial discount to their long-term value.

As a result of bottom-up stock selection, Moeschter's global portfolios, which hold roughly 100 names, continue to be overweight in Europe. Here the most significant holdings are in respect of companies based in the United Kingdom, France, The Netherlands and Germany.

These global portfolios are underweight in Japan. "We continue to consider that Japanese stocks are expensive," he says, "though we have found value in Japanese auto companies such as Nissan Motor Co., Ltd. and Toyota Motor Corp."

The portfolios have a "substantial weight in U.S.-headquartered companies at around 35%," says Moeschter. This compares with the U.S. weighting in the MSCI World Index of 57.4%.

In the United States, a particular emphasis is health care, says Moeschter. The global portfolios continue to have significant weightings in Gilead Sciences Inc. (GILD) and Amgen, Inc. (AMGN). "Their earnings have grown and the stocks are still reasonably valued."

Amgen Inc. Gilead Sciences Inc.
June 15 close $156.10 $118.16
52-week high/low $173.60-$114.93 $119.70-$78.83
Market cap $119.1 billion $175.3 billion
Total % return 1Y* 36.9 46.9
Total % return 3Y* 31.7 67.7
Total % return 5Y* 24.4 46.2
*As of June 15, 2015. All amounts and returns are in U.S. dollars
Source: Morningstar

Another big health-care holding is Swiss multinational Roche Holding AG. In all, says Moeschter, health care is one of the largest sector weights in the portfolio and is a substantial overweight position relative to the benchmark weight of 13.3%. "We are comfortable with our positions in these stocks."

Another significant sector weight in the portfolio is financial services, which are slightly overweight relative to the benchmark at 20.7%. There are holdings in European banks and insurers, says Moeschter. As well, in the United States, "two core holdings" are JPMorgan Chase & Co. (JPM) and Citigroup Inc. (C). "Operating earnings are coming through in the case of both European and U.S. financial institutions," says Moeschter, "There is room for increases in dividends."

At present, he says, Citigroup's dividend yield is below 1%, while JPMorgan's dividend yield is comfortably more than 2%. Telecommunications-services stocks, which have only a small weight in the benchmark at 3.2%, represent a "significant overweight position in the global portfolios," says Moeschter.

A long-standing holding in this sector is Vodafone PLC, which has an American Depository Receipt and trades on NASDAQ under the ticker VOD. Based in England, this company has some two-thirds of its business in Europe and one third in emerging markets, says Moeschter.

"The company is improving the quality of its network and is rounding out its wireless offering to include cable and traditional wire-line services." There is consolidation in the European telecom industry, he says.

"Vodafone, with significant wireless operations in most European markets, is at the forefront of this." The stock has a high dividend yield, he notes. As its network spending slows, "there should be support for a dividend increase."

In the consumer-discretionary sector, "a company that can also grow its dividend, and is expanding its operations" is Sky PLC, says Moeschter. This company provides pay-television broadcasting services in Europe. Sky has 25 million subscribers, he says, with 70% of its business in the UK and Ireland, some 20% in Italy and 10% in Germany. The latter two markets for pay TV are not as developed as the UK and Irish markets, says Moeschter. "There is considerable scope in Italy and Germany for Sky to get higher subscriber growth and sell more services to each subscriber."

Moeschter has for some time found the consumer-staples sector to be expensive. But there are exceptions, he says. A stock that he considers offers value is Germany's Metro AG. This diversified distributor operates retail stores, including supermarkets, and markets products over the Internet. Its sales are mainly in Europe.

Metro is benefitting from a slightly better trend in European consumer spending. Earlier this week, it announced a definitive agreement with Canada's Hudson's Bay Co. (HBC) under which HBC will acquire Metro's department-store group Galeria Kaufhof and its Belgian department-store chain Galeria INNO for a transaction value of 2.83 billion euros, including the assumption of certain liabilities. The transaction is expected to close by the end of the third quarter of 2015.

"Metro's prospects keep improving," says Moeschter, adding that management is unlikely to break up the entire company. "By selling off a few parts of its business," he says, "Metro can strengthen its balance sheet."

In the industrial sector, Moeschter has been taking some profits in airline stocks. "These stocks have done well." In keeping with his value discipline, he has pared back a holding in International Consolidated Airlines Group SA. This is a British-Spanish airline holding company, which includes two major airlines -- British Airways and Iberia Airlines.

"The company reduced costs during the financial crisis and is benefiting from both improved traffic and lower oil prices," says Moeschter. "The stock price already reflects a lot of the positives."

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Sonita Horvitch

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