We are entering the final stretch of year that has been particularly volatile, though very positive in terms of returns. In addition to the already painstaking task of managing equities based on the parameters of economic climate and valuation, the impact of the pandemic has become a third factor, transforming a traditional puzzle into one with three dimensions and further complicating the decision-making process. Companies with historically defensive, top quality businesses have not played their conventional role in recent months due to the exceptional nature of the pandemic.
Specifically, in the last quarter, anxiety about the emergence of the new Omicron variant has compounded concerns about inflation, given the high cost of raw materials and supply chain disruptions, adding a new twist to sector rotation. At EDM Strategy, we remain steadfast in our principles; we do not get swept up by the momentum or the ups and downs of the market. It is our belief that this management approach explains another year of successful results, in which EDM Strategy gained +22.21%, outperforming the +18.58% obtained by the MSCI Europe NR index.
Despite the complexity of the environment, it is also at times of uncertainty and volatility that opportunities arise:
- We have been able to add to the fund companies with structurally sound businesses that have been temporarily impacted by the pandemic.
COVID-19 has introduced an additional variable, making the performance of certain traditionally resilient businesses especially unpredictable. For example, in the medical services field, companies historically immune to the economic cycle, like Smith & Nephew (orthopaedics) or Fresenius (hospitals), have been affected by the delay in elective surgeries due to the inundation of healthcare systems. Other leading mobility-related companies with ample visibility and low (or no) indebtedness, like Vinci (highways and airports) and Airbus, which enjoys its position as part of an aircraft manufacturing duopoly, have also experienced more volatility than usual. Having observed no structural impact on their businesses, which maintain their pre-pandemic attractiveness, we capitalised on this unique opportunity to add them to the fund. We are already seeing excellent returns with Airbus. Others are stores of value that should contribute very favourably in future quarters.
- Companies for which the crisis has meant a significant acceleration in growth.
Although COVID has accelerated the structural decline of some already-tenuous sectors, for others it has been a wake-up call. One clear example is the hastening toward the digital transition: the pandemic has forced consumers and businesses alike to quickly adapt to a new digital reality. This has had a positive impact on many companies, especially those in the tech sector. Tech accounts for more than 20% of EDM Strategy’s holdings and is doubtless one of the main contributors to the fund’s outstanding performance in both absolute and relative terms. Accenture, ASML, and Dassault Systèmes all maintain that we are in the midst of a massive digital transformation and innovation cycle, which will advance at an unprecedented speed after the pandemic.
- The strong grow stronger.
Companies with undisputed leadership positions and no debt have gained market share from their weaker competitors. Major luxury companies are a clear example of this. LVMH has wildly outperformed its sector and sales from its fashion and leather business (which includes Louis Vuitton and Christian Dior) already exceed 2019 figures by 38%. With its financial muscle and unarguable leadership position, it continues to open stores in prime locations, attract the best designers, and invest much more in marketing than any of its competitors. In a sector where creativity, distinction, and originality are key to sparking desire in the clientele, it is easy to see why the big brands continue to gain market share. Other companies across an array of sectors, such as DSV in logistics or Sika and Brenntag in the chemical industry, have also benefitted from their size and excellent service. In all cases, clients value their reliability and the availability of their products/services, leading them to gain market share over the competition.
Furthermore, as we discussed in the previous newsletter, it is more important than ever that all fund companies have one indispensible characteristic in this high-inflation environment: pricing power. This is essential in ensuring margins do not suffer when transferring the increased costs of logistics and raw materials to final prices.
In short, while it has been a year of tremendous challenges for active management, it has also presented major investment opportunities. We expect that in the coming quarters, thanks to vaccines and advances in effective treatments, the COVID-19 factor will recede. In the meantime, at EDM Strategy we will continue to do what we always do: focus on finding value for our clients by selecting quality companies that are industry leaders with structural growth throughout the cycle, excellent management teams, healthy balance sheets, and ample cash generation.
We believe that EDM Strategy is well poised to continue outperforming the market in the coming quarters. We maintain a well-balanced portfolio of quality companies, leaders in sectors that are attractive in the long-term with interesting valuations and all the ingredients to obtain good returns in the years to come.
Beatriz López and José Ruiz,
EDM Strategy Co-Fund Managers
