GMO Q4 Letter: Country And Stock SelectionVW Staff
The International Active EAFE Strategy outperformed the MSCI EAFE index by 1.5 percentage points in the fourth quarter; the strategy gained 7.2% net of fees and benchmark rose 5.7%. Country and stock selection were both positive. The strategy beat its benchmark by 1.3 percentage points for the year 2013, returning +24.1%.
Outlook: A Stock Picker’s Market
Current valuations in the global equity markets reveal no large factor or group of stocks that appears substantially cheaper than another. There is a dearth of valuation dispersion between geographies, between industries, or between styles such as small and large. As a result of the relative lack of thematic valuation opportunity, alpha will have to be delivered via good old-fashioned stock picking. But, while average valuations between countries, sectors, and factors are in a relatively tight band, the valuation dispersion of stocks within those buckets is still fairly wide, meaning there are still plenty of inefficiencies and mispriced companies to provide excess profits.
In fact, we believe there are particularly cheap stocks in Europe, Japan, and Emerging Asia. In Europe, value still resides in companies geared to a domestic recovery. We believe industrials, materials, and financials that have significant business exposure to the European
economy represent a compelling opportunity. Many of these companies are in the midst of restructuring, cutting costs, and reducing leverage. Companies that are able to achieve breakeven or even positive cash flow on currently depressed revenue levels should reward investors if the European recovery becomes more robust.
The European economy remains the thing to watch. While a recovery in Europe is clearly being discounted by the equity markets, growth is anticipated to be modest. Anything better would certainly be a surprise and markets should rally correspondingly. The upcoming Asset Quality Review by the ECB could be a source of good news if it reveals solid balance sheets in the banking sector. Healthy capital positions combined with nascent underlying loan demand will be the true signs of a sustainable recovery in Europe.
Full PDF See here: GMO 4Q13