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US sector investment review

The US stock market is the most important, varied and vibrant in the world. We take a look at how North American funds on our Preferred List have fared of late.

| 13 min read

The US is by far the world's most important share market, accounting for around 60% of global stock market worth. It means that investors taking a 'neutral' approach to asset allocation should have about this amount in the equity component of their portfolio. Yet many UK investors do not allocate as much, and over the past decade this will have been a missed opportunity. The US tech and ecommerce giants in particular have swelled in value. Exposure to these, and the US market more broadly, have helped propel portfolio values upwards.

The US market is more than tech of course. There is a broad and diverse set of opportunities of all shapes and sizes. In fact ‘big tech’ is arguably something of a misnomer anyway with Facebook (now Meta), Netflix, Twitter, Snap and Alphabet, the parent company of Google, reclassified as ‘communication services’ companies several years ago, and Amazon classed as a consumer discretionary company. It means that only one of the infamous five FAANGs, Apple, is technically a tech stock even though they could all be thought of that way. However you choose to think of them, many of the bigger names have once again stolen the limelight over the past few months following a difficult 2022. Indeed, they were something of a safe haven from the regional banking crisis that struck in March.

With the spotlight falling on banking troubles, financials had a rocky start to the year, as did many of the more economically-sensitive areas including smaller companies. Yet many of the tech giants powered through, buoyed by some strong company results from likes of Microsoft and renewed investor focus on the burgeoning theme of artificial intelligence, which could open up new areas of profitability. To illustrate the point here are the returns from some of the top US stock in the first quarter of 2023:

‘Big tech’ stock performance Q1 2023

Alphabet Inc16%
Amazon.com24%
Apple Inc26%
Meta Platforms74%
Microsoft Corp20%
Netflix Inc17%
Nvidia Corp91%
Tesla Inc69%
Average42%

Source: Bloomberg, data to 31/03/2023

A passive approach of simply following an index, such as the S&P 500, has therefore worked well over the past year with titans like Microsoft, Apple and Meta some of the largest constituents. The passive, or ‘tracker’, funds on our Preferred List are Fidelity Index US and Vanguard S&P 500 UCITS ETF, which both offer simple and cost effective exposure – and a strong option in an area that active managers, who try and beat the index, historically struggle to outperform. This has particularly been the case over the past decade given the level of concentration in the US market. The biggest stocks in the index outperforming is a natural headwind for active managers, who tend to be underweight the behemoths.

As far as the main active strategies go, a 'value' approach focused on stocks trading at lower valuations provided strong performance in the first half of 2022. At this time the threat of higher inflation and interest rates punished more highly rated growth stocks where greater reliance is placed by investors on future, as opposed to present, earnings. The energy sector in particular did well from higher oil and gas prices. Yet over the past year that picture changed and growth strategies enjoyed a resurgence, assisted by the stock performances in the first quarter of 2023 listed above, returning to the pattern of much of the past decade. This was concentrated in the larger, profitable companies rather than the more speculative, unprofitable growth companies that captured investor imaginations following the onset of the Covid pandemic.

Overall, here's how the actively-managed funds in the North America sector on our Preferred List got on over the past year, and beforehand, with commentary on each detailed below.

Performance of US funds versus sector and index

Past performance is not a reliable indicator of future returns. Figures are shown on a % total return, bid to bid price basis with net income reinvested; Source: FE Analytics, data to 30/04/2023

Five US investment funds to consider

1. Brown Advisory US Sustainable Growth

Run by Karina Funk and David Powell, this fund’s approach prioritises sustainable and steady growth when assessing company prospects. Each company owned must have a ‘Sustainable Business Advantage’ which helps clarify the team’s thinking on how sustainability can help drive revenue growth. Holdings are on average higher quality, higher growth, and often trade at higher valuations than the benchmark average.

It has been a strong year for the fund, especially in 2023 to date as the strategy recovered well from a more difficult 2022. Around two thirds of the portfolio is invested in lower but more durable growth stocks, with the remaining third in higher octane, (20%+) earnings growers. The tilt towards more defensive, stable businesses has served the fund well amid the difficult economic backdrop and rising interest rates.

The managers have added to positions in Amazon and Nvidia and are positive on big tech more widely, believing their value to customers remains as high as ever. One interesting new purchase was private equity company Blackstone with the team impressed by commitments around climate change and investments into renewable energy.

The high conviction approach and the research-intensive nature of the fund’s process, drawing support from a pool of analysts who operate out of Brown Advisory’s Baltimore office, makes this fund a strong option in the sector. It may particularly interest investors wishing to take a responsible approach with environmental and social considerations embedded into the process.

2. Jupiter Merian North American Equity

This fund takes a systemic, quantitative approach, driven by data science, and tends to deviate less from major US equity benchmarks compared to many actively managed funds. The strategy assesses companies against five key characteristics the team believe have predictive power of future stock price movements. Its style will flex across different macroeconomic conditions, meaning it cannot be categorised as either a ‘value’ or ‘growth’ strategy, though the portfolio will have an overall tilt towards certain value and quality factors, as supported by academic evidence.

Pleasingly the fund exhibited less volatility than the market across the period, though overall it lagged the S&P marginally. We think it is important to consider a range of stock selection processes for the US market, which will be most investors’ largest regional equity allocation. The periods of outperformance of the strategy have historically had a low correlation to more stylistically driven portfolios, so it could appeal to those who want a diversifier within their US equity allocations that is complementary to a higher-conviction active fund.

3. Artemis US Extended Alpha

The manager looks to ‘extend’ the stock market opportunities available by supplementing a traditional portfolio with additional long, and offsetting short positions that benefit from falls in the value of a chosen investment. The market exposure in the fund can therefore vary between 85% and 115% but is typically around 100%.

The fund endured a tough year, lagging the S&P 500 by around 5%. Overall, positioning has been moderately defensive with the manager buying ‘protection’ through put options. These are more complex investments that stand to benefit if a stock or, in this case, an index falls in value. In this instance it serves to dampen portfolio volatility. At the same time, they have been adding to areas such as semiconductors and housing, where they find the combination of depressed valuations and low expectations attractive.

The fund has also undergone a managerial change with the experienced Adrian Brass joining as lead manager last year. He was previously the manager of Majedie Asset Management's US Equity fund, and before that a fund manager at Fidelity, managing US equity funds. He is supported by Will Warren (ex-lead manager) and James Dudgeon (also joining from Majedie) as co-managers. The process and approach of the fund remain largely the same with just a slight shift in the time frame they consider investment opportunities over. This has been extended to 2-3 years whereas historically it has been 1-2 years.

With a bolstered management team we retain confidence in the fund’s stock selection capabilities and the level of differentiation it can provide from its peers and the broader index. With the long/short element it has the ability to keep up in rising markets but also protect capital during periods of market stress – though this is only the case if the managers get their tactical approach right. It should also be noted that a performance fee adds to the cost of the fund if it provides market-beating returns.

4. Fidelity American Special Situations

This fund takes a contrarian, value-based approach with the managers Ashish Bhardwaj and Rosanna Burcheri aiming to uncover businesses that are unappreciated and therefore cheap. The aim is to provide a ‘margin of safety’ by buying into fundamentally sound companies below their true worth. As such the manager eschews more expensive shares and the fund has almost entirely missed the rise of ‘big tech’ over the past decade. To guard against ‘value traps’ the process aims to identify stocks with an identifiable long-term tailwind that are not part of a ‘dying’ industry.

Not holding Apple, Microsoft and Amazon has significantly hampered relative performance versus the S&P 500 over the period, although the fund did fully capture the ‘value rally’ from December 2021 into 2022, a spell in which it significantly outperformed – as we would have expected given its approach. At this point richly-valued, growth-orientated parts of the market sold off most aggressively and the team’s valuation discipline kept them out of the worst performing areas of the market.

Two broad themes of ‘healthcare costs’ and ‘energy resiliency’ have helped the fund. Within the former, drug distributor McKesson recorded strong gains over the period. Growing confidence in the business’s ability to generate consistent growth with stable margins led to strong performance. Managed care provider Elevance Health (formerly Anthem) was a notable winner too, demonstrating an ability to retain pricing power and margins.

Within ‘energy resiliency’, a position in Cheniere Energy was a top contributor. As a producer and exporter of Liquified Natural Gas (LNG), Cheniere plays a big role in the need for greater energy security globally as the largest exporter of LNG. Oilfield services company Baker Hughes and petroleum refining company Marathon Petroleum were also positive, with the position in Marathon sold towards the end of 2022 as the valuation was no longer considered attractive.

5. Premier Miton US Opportunities

Managers Nick Ford and Hugh Greives have a bias away from larger businesses and towards mid-sized US companies. Their approach results in a concentrated and differentiated portfolio that can add to risk but result in meaningful outperformance if they get their stock selection right – and underperformance if they don’t. The duo’s process centres on identifying quality companies and paying appropriate valuations, taking a more nimble and pragmatic approach wedded neither to growth nor value stocks. The fund could be a good complement to a US portfolio allocation dominated by mega-cap tech heavy trackers. It is significantly different to the S&P 500 Index and has never held the likes of Alphabet, Meta or Amazon.

Following a strong 2022 in relative terms, having avoided the more expensive stocks that derated as inflation and interest rate concerns escalated, the fund suffered owing to lack of exposure to recovering big tech names and an overweight to more economically-sensitive medium-sized companies as concerns grew that a downturn lay ahead. Exposure to US regional banks also dragged back the fund’s performance. The managers are happy to stick with this exposure for the time being believing that the rest of the banking sector does not share the weaknesses of Signature Bank, Silicon Valley Bank and First Republic, which all had specific characteristics that resulted in their failure.

However, they have identified that banks have become more risky businesses as internet banking has made deposits less stable. They reason that cash is now so easy to move online and social media has made banks more vulnerable to runs as rumours spread more quickly. As such the managers believe banks will likely face more regulations in the future which will increase expenses and capital requirements, ultimately reducing returns. Consequently, they expect to lower exposure in due course.

Nothing on this website should be construed as personal advice based on your circumstances. No news or research item is a personal recommendation to deal.

US sector investment review

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