12 October 2020
September 2020 - Healthy stock picking benefits diversified equity strategies - Systematic Fund Manager's Comments
The global equity market stalled in September after having posted five months of consecutive positive return. Uncertainties linked to further fiscal stimulus and the presidential election in the US, the acceleration in new Covid-19 infection cases, and discussions related to EU/UK trade deal fuelled a risk assessment of portfolios by investors.
Besides the Technology sector retreat, which was widely expected to happen at some point considering its exponential rise, it was more interesting to observe that stocks with weak fundamentals largely underperformed the market. Among the reasons why stocks exhibiting pre-existing fragility lagged the market, the increase in Covid-19 infection cases was certainly the catalyst. However, when we analyse the dynamic of these names through the lens of the below metrics, the market action was more than justified:
- Free Cash Flow
- Earnings Estimates
- Book Value
Our systematic equity strategies focused on Europe were able to capture strong alpha in both long and short books. The below chart highlights the underperformance of stocks held in the short strategies of RAM Long/Short European Equities versus the market.
Short Selections in RAM Long/Short European Equities vs MSCI Europe TRN
Source: Bloomberg, RAM AI, as of 30.09.2020
With long selections also being able to generate positive alpha, RAM Long/Short European Equities (I EUR) closed the month comfortably up, evidencing its uncorrelated virtue within a portfolio context.
RAM Long/Short European Equities (I EUR) vs MSCI Europe TR
Source: Bloomberg, RAM AI, as of 30.09.2020
The high dispersion in the market continues to be a source of opportunities for diversified equity solutions from a strategy and market capitalisation perspective. The September move represents a harbinger of what could happen if stock picking takes a center stage over an extended period.
Finally, we have filtered the European equity market to analyse companies having over EUR 150 million market capitalisation with low credit metrics (Net Debt/Equity >100%, Cash Coverage <1, Liability/Asset Ratio > 60%). There are 226 companies, with most of them having their bonds rated High Yield. The average default probability (as calculated by Bloomberg) is at 1.0% for these companies, which seems to be rather optimistic given the weak fundamentals for these companies and the political/macro uncertainties.
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