Based on current global political conversations and events, what impacts do you anticipate on trade and foreign companies?
George Evans, CIO Equities: For roughly the past 70 years, since WWII, economic globalization and liberalization have trended upward, creating the general assumption that the trend would continue perpetually. Now, rising populism in many electorates throughout the world – especially the developed world – are challenging that assumption. The fact that it is in question will stir market volatility as investors consider the potential effects of a fundamental shift.
How do you anticipate international equities will grow this year?
Evans: We expect – in fact, we are already seeing – an uptrend in GDP growth throughout most of the world. Companies domiciled in Europe have the benefit of a weak euro and pound. They can look forward to translation gains on some of their earnings and to enhanced competitiveness. In our opinion, earnings momentum for European companies is good, liquidity in Europe is good, valuations are good, and European stocks do not appear at all over-owned so technical factors are good. Japanese companies are getting better at the margin, with more emphasis on shareholder value, and some of the more interesting companies can benefit from yen weakness too.
What do you expect to see in terms of market reaction to Brexit policies being enacted within the next few weeks and months?
Evans: Uncertainty over the UK negotiating stance and the EU reaction to it will engender a heightened level of market volatility. Market participants will cluster around investments that they believe will benefit from a good outcome and/or will be hurt least by a bad outcome and they will likely see-saw between the two as they follow the news flow. This is likely to continue for the next two years as the negotiations unfold. Quite often in situations such as this, the early reactions of the market tend to be broad-brushed in nature. Therefore, reactions to the downside may provide good entry points to quality companies that typically carry higher valuations.
U.S. equities have outperformed international equities in recent history. Why should investors continue to hold a meaningful allocation to an international equity fund?
Evans: We are in the longest period of U.S. outperformance as measured by the S&P 500 Index vs. international markets as measured by the MSCI EAFE Index since the MSCI EAFE Index was established in December 1969. Given the nature of markets, in my opinion, another period of EAFE outperformance is inevitable. Timing that change, however, is impossible. Attempting to time it is also expensive. For example, when looking at the annualized performance of the MSCI EAFE since its inception, missing only the best six months – just 1% of the period – cost investors nearly 2% a year, or 124% over the whole period. Missing five of the 46 years-not even 11% of the period – caused investors to actually lose money.
Clearly, trying to time equity markets is self-defeating. While it is hard to say when international equities will begin to outperform, I am absolutely certain in my opinion that they will in the future. Helping to support this is relative valuations. The U.S. looks richly valued compared to other large geographies in the world. In addition, a strong U.S. dollar will eventually weigh on earnings momentum in the U.S. whereas, the weaker euro, pound and yen may provide a boost to European and Japanese companies by increasing the price competitiveness of their goods and services abroad.
Many active funds underperformed the MSCI ACWI ex U.S. Index in 2016. Why should investors continue to invest in active funds in the international space?
Evans: 2016 was an anomaly for passive outperforming active in the Morningstar Foreign Large Growth category. In 2016, the MSCI ACWI ex U.S. Index fell into the 4th percentile of the peer group. That was the first time in the last 10 calendar year periods that it fell into the top decile; it has fallen into the bottom half of the peer group the majority of the last 10 calendar year periods. It is clear to see that active management is critical in the international space when looking at the longer term rankings of the index.
Over the last 5- and 10-year periods ending December 31, 2016, the MSCI ACWI ex U.S. Index fell into the 79th percentile and 69th percentile of the Morningstar Foreign Large Growth peer group, respectively. That suggests that even a mediocre fund has historically outperformed the benchmark over the long term. It is also worth noting that the average manager has not only outperformed the benchmark over the last 5- and 10-year periods, also has done so with less risk.
For comparison reasons, when looking at the International Growth Fund’s Y Shares for those same 5-and 10-year periods, the Fund fell into the 15th percentile and 1st percentile of the peer group, respectively.1 This is a space where active management has historically outperformed passive and we believe it will continue in the future.
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1 Morningstar ranking is for Class Y shares and ranking may include more than one share class of funds in the category, including other share classes of this Fund. Ranking is based on total return as of 12/31/16, without considering sales charges. Different share classes may have different expenses and performance characteristics. Fund rankings are subject to change monthly. The fund’s total-return percentile rank is relative to all funds that are in the Foreign Large Growth Funds Category. The highest (or most favorable) percentile rank is 1 and the lowest (or least favorable) percentile rank is 100. The top performing fund in a category will always receive a rank of 1. For the last 5- and 10-year periods, respectively, the Fund was ranked among 260 and 182 funds in the Foreign Large Growth category for the time period ended 12/31/16. Index percentile rankings are hypothetical based on net return.↩
The S&P 500® Index is a capitalization-weighted index of 500 stocks intended to be a representative sample of leading companies in leading industries within the U.S. economy. Index includes reinvestment of dividends but does not include fees, expenses, or taxes. The index is unmanaged and cannot be purchased directly by investors. Index performance is shown for illustrative purposes only and does not predict or depict performance of the Fund. Past performance does not guarantee future results.
The MSCI EAFE Index is a free float‐adjusted market capitalization index that is designed to measure the equity market performance of developed markets, excluding the US & Canada. The MSCI EAFE Index consists of the following 21 developed market country indexes:Australia, Austria, Belgium, Denmark, Finland, France, Germany, Hong Kong, Ireland, Israel, Italy, Japan, the Netherlands, New Zealand, Norway, Portugal, Singapore, Spain, Sweden, Switzerland, and the United Kingdom. The index is unmanaged and cannot be purchased directly by investors. Index performance is shown for illustrative purposes only and does not predict or depict performance of the Fund. Past performance does not guarantee future results.
The MSCIACWI ex-U.S. Index is designed to measure the equity market performance of developed and emerging markets and excludes the U.S. The index is unmanaged and cannot be purchased directly by investors. Index performance is shown for illustrative purposes only and does not predict or depict the performance of the Fund. Past performance does not guarantee future results.
Foreign investments may be volatile and involve additional expenses and special risks, including currency fluctuations, foreign taxes, regulatory and geopolitical risks. Emerging and developing market investments may be especially volatile. Eurozone investments may be subject to volatility and liquidity issues. Investments in securities of growth companies may be volatile. Mid-sized company stock is typically more volatile than that of larger company stock. It may take a substantial period of time to realize a gain on an investment in a mid-sized company, if any gain is realized at all. Diversification does not guarantee profit or protect against loss.