EAM Global Small Companies Fund – Quarterly Update
Market environment*
The September quarter was marked by significant reversals and volatility, really driven by three developments that happened in the quarter.
The first was in July, we saw a massive rotation, a really a radical rotation in the US driven by the surprise CPI readings, which gave rise to a very strong performance in previously underperforming sectors and more interest rates sensitive sectors like financials and real estate.
The second development in late July – early August was the rapid appreciation of the Japanese Yen, which really sparked a tremendous volatility, rapid reversals in the Japanese stock market, and really risk-off behaviour across the globe in August
Lastly in the quarter, what we saw near the end of the quarter was a very much enhanced China stimulus program, which really gave China a strong roaring back performance, if you will. At the end of the quarter China rallied about 25 percent in U. S. dollar terms.
All in all, a very volatile quarter where we witnessed significant reversals across sectors, industries, and factors, which created a tough environment for our style.
EAM Global Small Companies Fund Performance
It’s no surprise that we struggled in the September quarter, given the significant reversals that we saw in terms of leadership from a sector perspective.
From a country perspective, and probably more importantly, a factor perspective, where in the first half of the year, momentum was the best performing factor, while in the September quarter, it was one of the worst performing factors, in fact, a negative excess return.
So given that market environment and what transpired, our portfolio – the EAM Global Small Companies Fund – was down about a percent versus the index up over a little bit over 4%. However, despite that, the year to date has been strong through September where our portfolio is up over 16 percent net of fees in the benchmark up a little bit over 9 percent, or about 700 basis points of excess return so far this year despite the tougher September quarter that we had.
From an attribution perspective in the September quarter, what detracted from our returns most prominently was our exposure to momentum. Now, that’s our persistent exposure and we believe a compensated exposure over the long term, but it did hurt our performance in the September quarter.
Along with that, our positioning relative to industries further detracted. So those are the two main culprits of our underperformance.
To give a little bit more colour on that, we underperformed really in two countries most – the US and Japan, and from a sector perspective, our overweight to information technology and our underweight to financials and real estate detracted from our returns during the quarter.
Where is the momentum now?
Currently where we’re finding the strongest momentum from a country perspective would be in the U. S. where we’ve seen our weight increase quarter over quarter in areas that we haven’t really seen in the past, so we’re finding new strong momentum in financials, capital markets, banks and real estate.
And on the other end, we’re also seeing some new trend develop in China, given what’s happened with their stimulus measures. We are being very selective in China, but we’re definitely seeing some areas that warrant research and as a result our China weights are starting to come up incrementally.
We’re still seeing strong performance and trend in India. That’s still an overweight.
On the other side, a little less of exposure and a little less trend in Japan, which has come down pretty substantially over the quarter and also a little bit less in Korea.
So those would be where we’re seeing trend and not so strong trend from a country perspective.
From an industry perspective, we’re seeing very strong early trend in financials, capital markets, like I said, real estate, banks and also consumer discretionary across the board from that perspective.
Still finding very strong momentum and we are still overweight on industrials and biotechnology.
These have been the stalwarts that we’ve seen in the portfolio, and they continue to perform as of today.
Outlook
The outlook as we see it is very strong for a global smalls universe. I think what we saw in July was the first indication that small caps have some life. And in fact, in the September quarter, we did see small cap outperform large cap for the first time in quite some time.
We feel pretty good about the beginnings of a small cap cycle perhaps. And obviously that’s driven by some macroeconomic cycles, interest rates in particular. We’ll be following what’s happening with interest rates and inflation, but I think the fact that the U S federal reserve has lowered interest rates should be a good for global small cap companies, at least tailwind.
But it always comes down to the bottom up and the selections that you’re making within the small cap universe. Obviously, we’re big believers in momentum and informed momentum. And what that allows us to do is always find an exploit trend that we see in the market.
In the case in global small cap what we’re seeing right now, the biggest opportunities are really coming into power, the energy sector. Everything from utilities to nuclear power that is going to be able to send the electricity to these data centres, which seems to be insatiable. We’re seeing very strong opportunities globally, particularly in the US with nuclear power utilities.
Industrials is another trend.
But also we’re seeing a little bit of a change in terms of AI, where we’re seeing a lot more opportunities in software, much more harnessing the power of AI and less so in hardware. As a result, semiconductor, semiconductor and capital equipment hasn’t been as strong as some other areas. In general, we are very much still within that AI trend and we’re continuing to find and exploit ideas there.
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*The text has been edited for clarity.
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