The managers of BlackRock Greater Europe (BRGE) aim to offer investors a portfolio of high-quality companies across developed and emerging Europe.
The manager, Stefan Gries, aims to identify the strongest ideas in developed Europe generated by BlackRock’s European research team of 18 analysts. As we discuss under the Portfolio section, this involves searching for high-quality companies with unique franchises and sustainable cash flows. Stefan is supported by co-manager Sam Vecht, who focusses on ideas in developing Europe. Typically, this area will make up between 5% and 10% of the total NAV, and it currently sits towards the top end of this range (10%). The two managers decide together when ideas in developing Europe are good enough to get into the portfolio, but developing Europe holdings tend to be shorter-term, more opportunistic plays.
Since Stefan took over the portfolio in June 2017 he has made a point of concentrating the portfolio, which now has just 42 holdings, with the top ten making up over 50% of total NAV. Under his tenure, the performance has been exceptional, with NAV total returns of 37.4%, in comparison to 8.5% from the benchmark FTSE World Europe ex UK. Equally the returns are impressive when compared to the IA and AIC sector returns, as we discuss in the Performance section. In fact, the trust is the strongest performing in the sector since Stefan’s appointment, with an annualised alpha of c. 8.4%.
The trust consistently trades at one of the narrowest discounts in the sector, currently trading at a discount of 3.9%, narrower than the sector average (c. 10.4%), illustrating the popular demand for the trust.
BRGE is a standout trust for investors looking for long-term European exposure. Since Stefan has taken over, BRGE has been the strongest performer in the sector, with Stefan delivering annualised alpha against the benchmark of over 8%. We think this outperformance has been possible due to the increasingly concentrated high-conviction approach Stefan has been taking. Also, strong stock-picking has been responsible for the vast majority of the strong excess returns over the past year. One advantage Stefan has when it comes to picking stocks is the extensive resources of BlackRock, with a dedicated and established team of 18 analysts and portfolio managers working on developed European equities and a further seven on developing Europe.
Investors should be aware that a more concentrated approach can lead to greater volatility of returns in the short term. This has been illustrated over 2020, and the current cyclical nature of the investments has led to high levels of beta over the past three years. However, Stefan does attempt to balance the risk of growthier names by including more defensive, high-quality stocks that also fulfil his investment criteria. Alongside this, he also works with BlackRock RQA teams to ensure that any portfolio risk is deliberate and well diversified.
Currently the trust is trading at a discount of 7.3%. Although this is narrow relative to peers, it is wide relative to its one-year average and in our opinion offers an attractive entry point at this level.
|Best performance in the peer group since Stefan took over the portfolio||Potential for short-term volatility given long-term investment horizon|
|High-conviction portfolio but with diverse source of revenues||The discount to NAV is narrow relative to peers|
|Signs of sentiment towards Europe improving with significant policy support||Gearing can exacerbate downside as well as amplify upside|
Stefan Gries and Sam Vecht run the portfolio of BRGE, aiming to generate capital growth from a stable of European companies across developed and emerging Europe.
Stefan has control of the majority of the portfolio, running the developed Europe portion of the trust which makes up c. 90% of the total NAV. Typically the developing Europe allocation of the portfolio, primarily managed by Sam, ranges between 5% and 10% of the NAV. The developing Europe portion of the portfolio is used opportunistically and with a value bias, providing balance to the growth focus of the developed Europe stocks. Stefan and Sam will have detailed conversations surrounding opportunities in the area, and these conversations will determine the total allocation.
Stefan places the greatest emphasis on the sustainability of cash returns and also the uniqueness of the franchise. As we see in the Performance section, this is likely to be one of the reasons the trust has held up so well relative to the benchmark and peers. He has a long-term investment view, and looks to always ask himself whether he would be happy to hold the company for a minimum of three to five years. He believes this helps him to avoid the distraction of short-term market movements and remain focussed on the long-term winners in industries.
Stefan has a highly disciplined approach to investing, focussing around three steps. Idea generation is the first step of the process, and this is where BRGE is able to take advantage of BlackRock’s extensive resources. The well-established team is made up of 18 dedicated analysts, each utilising multiple channels to create a detailed overview of industries and companies. This includes meeting with companies and using external research sources.
Following this initial stage, the team will then conduct detailed company analysis, searching for four key characteristics:
- Quality management with a record of value creation
- Some unique aspect, for example the brand or product
- High and predictable return on capital, with a strong free cash flow
- The capacity to invest in future growth
The final step of the process involves creating financial models and templates for the analysed companies to ensure consistency going forward, and further company meetings are conducted to enable a better understanding of the dynamics of the target company’s market.
The end result is a portfolio of typically between 30 and 50 holdings, currently 42. The trust has a tilt towards growth companies, which make up 55.6% of the portfolio. This is the second highest of any trust in the sector, where the average is 41.8%. The trust also has significant exposure to large-cap companies, which make up close to 75% of the portfolio, relative to peers at 68%. Stefan has high conviction in his holdings, and the top ten make up 53.3% of the total NAV. This is again the second most in the sector, only behind Alexander Darwall’s European Opportunities Trust.
top ten holdings
||% of nav
|NOVO NORDISK A/S
|ASML HOLDING NV
|LONZA GROUP AG
|ROYAL UNIBREW A/S
|DSV PANALPINA A/S
Source: BlackRock, May 2020
As we discuss above, the team’s stock selection is bottom-up; however, some macro views around sectors and industries are formed from the insights they gain from their meetings with company management. Their analysis helps them to look at which areas they believe might be impacted by technological advancements, or to see whether their business model is sustainable. As can be seen below, the trust’s largest sectoral positions currently come from technology (23.9%), healthcare (21.2%) and industrials (18.7%).
Alongside splitting the portfolio on a sector basis, Stefan also finds it beneficial to split it based on four key themes that run throughout. The first, pricing power, includes companies that have strong brands with well-executed marketing and which are backed by strong management teams. This theme includes companies such as Ferrari and ASML. The second theme, medtech, illustrates how Stefan uses bottom-up analysis to form a bigger picture of an industry. This sector offers companies with strong earnings growth which he expects to persist over many years, including the likes of Lonza and Straumann. The third theme, defensive elements, aims to try to lessen volatility within the portfolio. This theme includes the likes of RELX and SAP, which are extremely high-quality, large-cap companies. The final theme is companies with structural growth opportunities. This includes companies that offer products or services with strong demand and visibility on a multi-year basis. Many of these companies should benefit positively from the long-term impact of technology, such as Sika Group and Hexagon.
The trust also has the capacity to invest up to 25% of overall risk allocation in companies in developing Europe, though typically this will range between 5 to 10%. Sam Vecht, who also runs BlackRock Frontiers Investment Trust, is responsible for providing the ideas in this region, drawing on the research of BlackRock’s emerging Europe analysts. Stefan and Sam have regular conversations about developing Europe, and investments are opportunistic. As such, these holdings will have a much higher turnover that the rest of the portfolio, with Sam taking advantage of shorter-term market movements. A good example of this was Sberbank in 2019. The company was the trust’s top-performing position for FY19, after Stefan and Sam invested on the belief that the earnings revision cycle was underestimated by the market. Following easing of sanctions towards Russia and realisation of improving earnings, the stock rallied. Once it reached what they believed to be the correct valuation, they exited the position.
As we discuss in the Performance section, the ability to tactically adjust exposure to opportunities in emerging Europe is important as the region’s markets have been hit harder by the pandemic than developed Europe.
Gearing is used flexibly, and the managers are able to gear up to 15% of NAV. Stefan admits that he does not try to time the market, instead seeing gearing as an extension of his conviction in the opportunity set.
Over the past year exposure has ranged between c. 3% cash and 12% geared, at an average of 4.4% geared. Currently gearing sits at 8.5%, and it increased dramatically in April, as can be seen below. This has been a reflection of the new opportunities the managers have been finding at attractive valuations during the pandemic, as well as a reflection of them adding to current positions.
Stefan Gries took over the main management role in June 2017. Since then, BRGE has generated NAV total returns of 37.4%, in comparison to 8.5% from the benchmark FTSE World Europe ex UK. Equally the returns are impressive when compared to the IA and AIC sector returns of 5.7% and 13.8% respectively. In fact, the trust is the strongest performing in the sector, with an annualised alpha of c. 8.4%. The high-conviction, concentrated nature of the portfolio can lead to higher volatility than that seen in the reference market, particularly when gearing is actively used. The portfolio is also presently more cyclical in nature with the beta of the trust at c. 1.11, which is also the highest in the sector.
NAV TOTAL RETURNS SINCE MANAGER TOOK OVER
This strong performance has continued more recently. Over the past year to 19/06/2020, the trust has generated NAV returns of 13.4%, in comparison to 5%, 2.2% and -1.2% from the AIC peer group, IA peer group and benchmark respectively. Owing to Stefan’s concentrated approach the trust has proven slightly more volatile than the market, and as such the beta (1.11) is again higher than that of peers.
Over this period some of the strongest contributors have included the likes of Lonza Group and Novo Nordisk. Lonza, a long-term holding in the portfolio, is a Swiss multinational chemicals and biotechnology company, and its business has been considerably less impacted by COVID-19 than that of others. This is due to the fact that Lonza has multi-year production capacity contracts to pharmaceutical companies, ensuring earnings resilience and strong visibility. Novo Nordisk equally has resilient demand through its global diabetes franchise.
At the other end of the spectrum, the trust has missed out on relative performance by not holding large index stocks such as Nestlé, Novartis and Roche. These companies have been highly sought after during the pandemic as investors look for high-quality, defensive companies. In the portfolio, travel-related Safran and Amadeus IT Group have been the largest detractors. Overall, stock selection has contributed most to excess returns while sector allocation has also been a positive factor.
As we discuss in the Portfolio section, the developing Europe portion of the portfolio remains a smaller percentage of NAV, used tactically as a reflection of Stefan and Sam’s views on the opportunities there. Over the past year having a large exposure to developing Europe may have hindered performance as the currencies have come under pressure throughout the pandemic. During this period the FTSE Emerging Europe has lost double that of the developed market (c. -8%).
The key focus for the managers is growth of capital, and dividends are a result of the investment process and not a specific objective. However, BRGE does have a progressive dividend policy in place, with the annual distribution increasing each year since the trust was launched in 2004.
At the current price, the shares yield 1.4%. This compares to the sector average yield of 2.6%. In FY18 dividend was fully covered by earnings (a payout of 5.75p from earnings of 5.95p); however, the most recent (FY19) dividend partially used reserves. In FY 2019 the total dividend for the year to 5.85p, an increase of 1.7% from the previous year. The 2019 dividend was c. 0.8x covered by revenue reserves. In the half-year report for 2020, the board warned that a number of the underlying companies within the trust could come under pressure to cut their dividend due to the impact of COVID-19. In our view a dividend cut or more extensive use of the revenue reserves therefore seems likely.
The same team have managed BRGE since 2008, when a group of managers from Scottish Widows moved to BlackRock. Vincent Devlin handed over the reins to Stefan Gries in June 2017.
Stefan also has responsibility for an open-ended fund (BlackRock Continental European Fund, with £615m of assets) and a long/short alternative UCITS strategy (BlackRock European Absolute Return Fund, with assets of £1.4bn).
Stefan started his career in 2005 as European equity analyst and portfolio assistant at Scottish Widows Investment Partnership. He joined BlackRock’s European equity team in 2008 and is part of the consumer research pod. Sam Vecht acts as co-manager, with responsibility for stocks in developing Europe. Sam is co-head of the BlackRock global emerging-markets team and a co-manager of BlackRock Frontiers Investment Trust. Recently he was also appointed co-manager of BlackRock Latin American Investment Trust.
Stefan and Sam are also supported by a vast European equity team. Within this team there are 17 portfolio managers/sector analysts, one data scientist, two graduates, six product strategists and four core portfolio managers. Alongside this team, there are a further seven developing Europe analysts. Having such a large team is vital to the in-depth investment approach, and a differentiating factor relative to some peers.
BRGE consistently trades at a narrower discount to the sector average. Over the past three years BRGE has traded at an average discount of 4.4%. As one might anticipate, 2020 has seen the widest discount (c. 14%) over this three-year period as the coronavirus pandemic led discounts to widen across the investment-companies universe. Currently the trust is trading at a discount of c. 3.9%, considerably narrower than the sector average of 10.4%. We believe that this illustrates the demand investors have for the trust, even in uncertain conditions.
The trust has a six-monthly tender option; however, the narrow discount has meant that the board has chosen not to implement it since November 2018, when only 1.2% of shares in issue were tendered at a discount of 2%. This represented a significantly undersubscribed take-up, given the prescribed maximum was 20%.
The board is also happy to buy back shares should the discount begin to widen materially; however, few shares have been bought back over 2020.
BlackRock Greater Europe has an ongoing charges figure of 1.08%, which includes a management fee of 0.85%. This compares with the peer-group average of 0.89% (according to JPMorgan Cazenove statistics). The trust does not, however, charge a performance fee.
The KID RIY for the trust is 1.49%, compared to a sector average of 1.29%. It is worth noting that calculation methodologies can vary.
BlackRock defines ESG integration as the practice of incorporating material environmental, social and governance (ESG) information into investment decisions in order to enhance risk-adjusted returns.
For the team at BlackRock, ESG information forms a part of any investment process as it offers an additional dimension for risks and returns. As such, Stefan and Sam use ESG information when conducting research and due diligence on new investments, and again when monitoring investments in a portfolio. It is worth noting, however, that this does not make BRGE an ESG fund, and ESG is not the sole consideration for investment decisions. Instead, the managers use a variety of economic and financial indicators, including ESG issues, to make investment decisions.