When it’s late in the asset-price cycle, it can be hard to find opportunities.
For Ellen Lee, portfolio manager with Causeway Capital Management in Los Angeles, there were “few areas of undervaluation,” even after markets dipped last month. (As of March 12, both the S&P 500 and S&P/TSX had recovered from early February lows but have yet to reach late-January levels.)
Still, during a mid-February interview, Lee revealed where she was looking. She pointed to the utilities sector where, she said, there are “more opportunities as there are fears of rising rates.”
“Because these companies have been defensive safe havens for investors for the prolonged period where we [have] had very low interest rates, there’s been a significant sell-off for the market in this sector,” says Lee, whose firm co-manages the Renaissance International Equity Private Pool.
At its March meeting, the Bank of Canada chose to hold on rates amid trade uncertainty and experts have called for a dovish BoC outlook for 2018, but the U.S. Federal Reserve is expected to hike three times.
So where there are opportunities in the space depends largely on central bank outlooks, Lee says. “There’s been a bifurcation of how the market has treated utilities: in the U.S., as there are fears of rising rates, utilities have actually outperformed the rest of the market as they’re seen to be more defensive.”
Elsewhere, “utilities have really underperformed,” she adds. In February, she was looking at regions such as Europe, in particular the U.K. and Spain, where there’s “regulatory uncertainty coming up.”
In the U.K., Labour Party leader Jeremy Corbyn is shaking things up as the official opposition to Conservative Prime Minister Theresa May’s minority government. Says Lee: “[H]e has promised that he would try to nationalize a lot of companies, including rail, mail, water and some parts of utilities.”
“Though this is a low-probability event,” she says, it has spooked investors and offers an opportunity to look at U.K. companies like National Grid, which she said was attractive from an investment perspective.
Over the last 12 months up to mid-February, the company’s stock dropped from nearly 1,090 pounds to below 800 pounds.
In Spain, “the [Ministry of Energy, Tourism and Digital Agenda] recently has talked about tweaking the regulatory framework, which is not due for modification until the end of the decade,” says Lee. “That news provided a lot of volatility” and, as such, opportunity.
As the oil price has recovered, so too has the energy sector. As of March 12, WTI oil was around US$61, compared to below US$50 a year ago, while Brent crude was around US$64, compared to just north of US$50 a year ago.
However, even though “there’s been recovery of oil-related equities across the globe,” says Lee, “investors have been really fleeing toward large-cap integrated [companies].” They’re choosing these over the higher-beta oil names, such as the exploration and production (E&P) and oil-services companies, that are domiciled in North America, she says.
To capture mis-pricings, she said in February she was busy making projections for and comparing companies in that space, “based on similar oil-price environments.”
For example, she said, “we can see that for a company like Chevron, the market is ruling to discount [a] US$55-to-US$65 oil price in the valuation, whereas on the mid-cap E&P space, investors are reluctant to put in those kinds of assumptions—there has been de-rating of [the latter] companies.”
But, “at the end of the day, these are all commodities companies where there isn’t much competitive advantage between one versus another.”
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