Which Stocks Did Managers Buy in October's Sell-Off?

By David Brenchley - Morningstar

20 November, 2018

Black Friday may be slated for the last working day of this week, but it seems to get longer and earlier each year, as retailers desperately battle for consumers’ business. But for some stock pickers, the time to pick up bargains came even earlier than November.

After an indifferent start to the year where the US was the only market to deliver meaningful gains, global stock markets were hit for six once the notoriously tricky to navigate October begun.

The Morningstar US Market returned 9.1% in US dollar terms in the first nine months of 2018, but has given up almost all of those gains in the quarter to 19 November, losing -8.14%.

While Morningstar Emerging Markets in USD terms have performed better in Q4, with a loss of 5%, than in the first three quarters (-10%), all other major markets have struggled recently. Morningstar UK is down 7% so far, compared with -2.06% January to the end of September, and Europe down 7.3%, compared with -1.6% in the first nine months of the year.

On Europe in general – but these comments apply across most regions, too – Chris Hiorns, manager of the EdenTree European Amity fund, says the sell-off was caused by a combination of weak economic data from Europe and China and escalating geopolitical concerns surrounding Trump’s trade wars, Italy’s budget stand-off with the EU and ongoing Brexit negotiations.

As a result, growth sectors sold off sharply. Within this universe, Hiorns thinks the IT sell-off, particularly in semi-conductors, was justified given they were trading on very high multiples.

“However, the sell-off in industrials and consumer discretionary sectors was too indiscriminate, pricing in a severe economic slowdown on many value companies which were already trading on low multiples.”

Below, we highlight some companies that professional investors believe fell to attractive valuations during the sell-off and have either initiated a new position in or topped up their exposure.

Starbucks (SBUX)

While many managers just topped up holdings, for others the correction was a chance to snap up shares in companies they had been watching for a long time. For Freddie Lait, for example, it gave him an opportunity to make Starbucks the first new position in his Latitude Horizon fund in two years.

After a big run up back in 2015, when it appreciated almost 50%, the coffee chain’s share price had gone sideways for the past two-and-a-half years. That was until Q4 numbers disappointed in June and the stock fell 15%.

By early October, it had slightly recovered to $58 – still a four-month high – before falling another 5%. That’s when Lait took the plunge and bought.

For a stock to become better value, the share price does not have to fall dramatically, explains Lait. In the case of Starbucks, “the operating performance was improving dramatically, and the stock was falling slightly. That’s as good as a stock falling a lot and the business staying the same”.

In fact, the manager says he prefers the former, “because it gives you momentum when you buy into it”. In Q4 to date, Starbucks is up 20% to trade at a record high $67.

Facebook (FB)

Facebook has been a divisive stock for fund managers, with many selling out in the past year but others continuing to be positive on the prospects of growth.

Simon Edelsten, manager of the Mid Wynd International Investment Trust (MWY), was in the former camp. He sold the stock in December 2017 at around $182 and watched it fall to as low as $152 by March.

After that, it climbed back to an all-time high of $217 before plunging 40% to $130 today. And Edelsten has taken advantage and added Facebook back to his portfolio.

“We think the company has further to go in making its site more customer friendly, but while Facebook matures, Instagram and WhatsApp continue to grow,” he explains.

Smurfit Kappa (SKG)

Hiorns has been busy topping up his exposure to companies servicing the automotive sector, but looking throughout the value chain rather than at the obvious – chip makers and car manufacturers.

“There is a current soft patch in the European economy, mostly driven by the short-term impact of new emissions standards on the automotive industry, which should give way to a recovery in economic growth, business and consumer confidence,” he explains.

One UK company he likes on this theme is FTSE 100 firm Smurfit Kappa, which is a paper packaging manufacturer. Since the start of September, shares are down a third to an 18-month low of £21.31. They now trade on a forward price/earnings multiple of 9.4 times and yield 3.6%.

“Smurfit Kappa is well placed to benefit from the rise in e-commerce driving parcel volumes,” says Hiorns.

Diversified Oil & Gas (DGOC)

Many of the larger names were predictably vulnerable in the sell-off due to rising US Treasury yields prompting investors to reassess their risk-free rate assumptions and demand more for riskier assets.

But, as Jon Hudson, co-manager of the Premier UK Growth fund, notes, “babies always get thrown out with the bathwater in a stock market correction”, meaning opportunities crop up in parts of the market they maybe shouldn’t.

Hudson’s fund bought into AIM-listed Diversified Oil & Gas after the stock fell 15% from 124.5p in early October to what turned out to be a bottom midway through the month at 105.5p. They have bounced since to trade today at 111p, but still offer a compelling forward yield of 9%.

The firm floated on the junior market in February 2017 with an offer price of 65p. DGOC is predominantly a conventional gas producer in America’s Appalachian basin with operations in Pennsylvania, Ohio and West Virginia.

Hudson says it’s grown rapidly by acquiring assets from shale operators keen to focus on fracking. “US gas prices are on the rise due to storage levels being at a 15-year low as we enter the key winter heating season,” he adds.

Michelin (ML)

French tyre manufacturer Michelin, meanwhile, has been under pressure all year. After shares hit an all-time high of €130 in early January, they had sunk a third to as low as €85 by late October.

At around this point, the stock was trading on a forward PE of 9.1 times and offering a dividend yield of over 4%.

Continuing his theme, Hiorns says the firm “provides a relatively defensive exposure to the automotive sector, with the majority of sales coming from replacement tyres”.

Schneider Electric (SU)

Schneider makes industrial machinery and produces power distribution and automation systems for a number of industries. One of those is the automotive sector, where it provides electric car charging points, starter motors and other products.

It’s another that hit an all-time high share price earlier this year – €78 in late May – but has been under pressure since. The share price slipped a quarter to €58 a month ago, providing an entry point at 14.3 times forward earnings with a 3.6% yield.

“Schneider Electric is well positioned to benefit from increased spending on the green grid as we move more towards renewable generation and electric vehicles,” adds Hiorns.