JPMorgan European Growth & Income plc (JEGI) Earnings Call Transcript & Summary

Good morning, and welcome to the webinar update for JPMorgan European Growth & Income, also known by its ticker, JEGI. I'm Nick Allen-Perry from the Investment Trust team here at JPMorgan Asset Management. Today, I'm joined by one of the 3 portfolio managers for the Trust, Tim Lewis. On the call today, Tim will outline the team's distinctive investment approach, the drivers of returns in the portfolio over the last 12 months and also discuss the current macro environment for European equities. We will also leave time for you to ask your questions directly to the manager, which you can do via the "Ask Your Question" box at the bottom of your screens. As ever, we aim to keep this update concise until around 30 minutes. As a reminder and as the name suggests, the trust itself is a diversified portfolio of Continental European equities. It has a distinctive investment approach, combining both fundamental and quantitative research in order to build a balanced portfolio that doesn't have a bias to any one particular investment style. The results of this approach, we can see on the right-hand side with the portfolio delivering incremental outcome throughout the market cycle, whatever the prevailing market conditions may be in a repeatable, balanced and systematic way. Some of the trust's details and characteristics on the left-hand side, we can see that the assets currently at around GBP 650 million today, which does make it a constituent of the FTSE 250. The company does make full use of the advantages of the investment trust structure, firstly, by being typically geared throughout the cycle with current gearing today of around 5%. The team also has the ability to invest down the market cap spectrum. So it is a multi-cap investment vehicle. So it can be down into smaller caps and less liquid stocks. And back in 2022, the trust also adopted an enhanced income policy, which sees the trust pay a 4% dividend set on the last day of the financial year and subsequently paid in the next year in 4 equal quarterly installments. To do this, the trust can use distributable reserves, which enable the managers to invest on a total returns basis rather than having to search for higher-yielding stocks. So Tim, to bring you in at this point, as I mentioned at the start there, you do have a differentiated and distinctive investment approach. We've got a lot of people on the call today who don't know the trust that well. So I wonder if we could just start by spending a few minutes looking at your investment process and philosophy.

Of course. Thanks, Nick. Good morning, everyone, and thank you for joining us to talk about JEGI. As Nick said, we want to keep this concise and leave time for Q&A. So I'll try to give an accelerated version of this. But for those that are newer to our investment approach, please do ask questions in the Q&A or come back to us later. So I think at the core of us, as we say in that investment philosophy, we believe that attractively valued, high-quality stock with positive momentum will outperform the market. And on the face of that, that doesn't feel very differentiated at all versus what other market participants are doing. I suspect that is what most people are looking. Where we think we are differentiated is both partly in how we would define some of those -- that view of value and high quality, but also, I think the discipline with which we look at potential holdings and also our existing portfolio to see where that might have changed. So if we start on this slide, first of all, we want to invest in quality business. We are company that generates good and sustainable returns on invested capital, where earnings per share translates into free cash flow, we want to invest behind management teams making sensible capital allocation decisions with a long-term view, and we want to assess the duration of all of those attributes. Is this company still going to be of high quality as it has been in 5 years from now or vice versa? But in terms of -- the valuation side is also incredibly important for us. It's very easy to identify the best quality companies in Europe. What's much harder to do is identify where the market has already discounted these prospects and where there's an opportunity still to make money. Is this already priced for perfection, in which case, there is no differentiated insight. And so we are really looking at where our research is showing us ideas that the market has incorrectly priced, either because it's underappreciated quality or that, yes, this is a really high-quality company, but it's priced for perfection. And then lastly, in terms of momentum, it's really important for us that the company's operational momentum is improving. And we want to see that the company is performing well at a company level within their sector that they're performing well as a business and also that the macro-outlook is positive. The outlook for that sector is positive. But not all the companies that we invest in will look good on all of these 3 attributes, but we hold ourselves as a portfolio to making sure we are constructed to be cheaper than the market, have better quality characteristics and to have better momentum. So if we switch to the next slide, please. How do we go about finding these opportunities? And again, a key differentiator for us, I think, is we combine quantitative research and the best of what we believe the tools that we have at our disposal with our own fundamental analysis. And we think that the combination of those 2 is a real source of our capital. So on the quantitative side, it gives us that breadth of analysis, assessing more than 1,000 companies daily in a rigorous and repeatable way. And I think very importantly, it allows us to be objective and unemotional, both about new stock opportunities. Some of those stocks that this may be scar tissue from a decade of underperformance, but this forces us to shine the light on these names to have a look at them when the signal shows better and also our own stocks that maybe have performed really well for us, but start to show us or maybe things are changing, either the valuation has got too high or the momentum is starting to slow in the business. And all of that is just to point to us where we should do that fundamental analysis. So that fundamental analysis is done by us as the 3 portfolio managers as you saw on the first slide, but also from our internal team of sector analysts that we have access to. And we think that proprietary fundamental research, both from our analysts and from us as portfolio managers combined with the quantitative tools is a really valuable office here. And then if we switch to the next slide, please. I think how do we then combine those stock insights into a balanced portfolio. And Nick mentioned at the start that as a core portfolio, our ambition is to remain balanced, and that's very important for us. And I think what's really important is when we identify these stock opportunities and we don't create incidental risks in the portfolio so that by focusing on the stock, we don't want that to lead us to having big sector tilts or tilts thematic that maybe don't even come up within sectors. And how do we do that? By being -- balancing those stock insights with appropriate risk management. That's by keeping sector active ties by -- and you see at the bottom of this slide, managing incidental risk through our proprietary risk dashboard. That allows us to identify key drivers of risk in our portfolio, includes macro-sensitivity and scenario analysis. And this has been really important for us, not because we are trying to downplay the risk in our portfolio necessarily, but rather we want to take our risk from the stock-specific insights that we are generating and not allow the incidental risk to dwarf that because we have such strong belief in our ability to find good stock in light of different plans. So if we switch to the next slide, please. I think often, these things are better explained through some stock examples. So in the first case, we've got UniCredit here. And I think UniCredit is a great example, not least because it's been our most significant single contributor to performance over the past 5 years, but also, I think I'm not sure an Italian bank is the first thing that comes to mind when people think about investing in quality businesses, and it certainly wasn't a consensus view when we were building our position in early 2022 or at April, May 2022. Why were we looking at the business then? I think even then we could start to see that it was underappreciated, improving quality in the business. So the previous CEO, Mathea has done a great job in cleaning up the loan book. And what the current CEO and the CEO at the time, Andrea [indiscernible], were then talking to us about real capital discipline, buying back shares, which teaches us the most accretive way of enhancing value for the company. Over the time as you see on the left-hand side that the return on tangible acuity had been improving kind of through both of those measures. With a big capital buffer because of the regulatory backdrop and with a new inflationary backdrop that was leading to a higher rate environment, we could see a real improving outlook for UniCredit and still a very attractive valuation. Why are we still overweight today despite the very strong performance of the stock? It's because that performance has been justified by the fundamentals. So you'll see in the middle, the stock remained very attractively valued because of that. If we switch to the next slide, please. Another example is ABB, and that's a Swiss industrial business focusing into areas of electrification and automation. And I think the quality of ABB has always been better understood. Here, where we believe we have a differentiated view is being more tolerant of that increased valuation. So in the center, you'll see what it is PE over history and how that's moved from being kind of mid- to high teens PE on a 12-month forward basis to being low to mid-20s. But we think that is very justified because of the improving quality of the business, both by focusing the business on improved return on invested capital areas and a greater capital discipline and a focus on secular growth areas, which is coming through into the growth because this business is growing a lot faster than it did in the past. And then on the right-hand side, you also see that momentum of the business, both earnings growth in absolute terms, but also continuously beating on expectations that are in the market. Nick, I think we've lost you from a sound point of view. I believe our focus was going to be going on to the results and explaining where our performance has come from. And I won't dwell too long on this, again, conscious of time, but the high-level comments are -- I've emphasized our ambition to construct a balanced portfolio that can outperform in different market environments. And so we expect our attribution then to come from lots of different areas rather than being concentrated around one theme or position. So on the left-hand side, you'll see the majority of our outperformance is coming from stock selection within sectors. So that is the -- that's represented by the yellow bars here. So in almost all cases, stock selection is driving our performance. The only exception to that rule is in banks, which has been a very homogenous sector and one that's really all done very well this year. And in that case, it's been our overweight to the banking sector, which has driven performance. And then on the right-hand side, if you'll see the top contributors, we've got representatives in that banks, materials businesses, industrial services, utilities. If you go further down the list, you'll see some consumer names, some health care names. So I think it's diversified alpha coming from lots of sources. And importantly for us, that diversification of performance is not unusual. That's what we'd expect to see in most years. I think we've lost Nick. So I'm running a solo show.

I think -- I might hopefully be back in, obviously having a few issues, but so I'll try and get back on. But if I do drop off, I'll leave it over to you, Tim. But obviously, a good casing point when we do these live. So had you finished on performance, Tim?

Yes. I think we'll move on.

Yes. So obviously, we have seen a real change in sentiment and performance in Europe, particularly over the sort of last 12 to 18 months. I just wonder if you could outline -- I guess we've seen valuations move a lot as well and your view on the macro and why you sort of remain confident in the asset class today?

Yes, of course. If we skip on, please, and I'll come back to the valuation side of it at the moment and start with the macro. And I suppose cards on the table, of course, be aware of the European portfolio manager telling you that Europe looks incredibly attractive right now, but we do think that's true, and we're seeing that from some of our global funds being more allocated to Europe. We're certainly seeing that as an increased incoming to us from global asset allocators about the interest in Europe. And why do I think that is? I think -- firstly, I think this slide is very important on fiscal policy. So amongst European political leaders, I think there's an increased recognition that Europe must accelerate its innovation to remain globally competitive. It is an absolute imperative right now. And that recognition that there's a need to spend combined with the capacity to do so, which we see on the left-hand side, it creates a great backdrop for investing in European companies. So the past decade or in fact, 2 decades, if you look on the right-hand side. So here, we stripped out the global financial crisis and COVID periods because of abnormal levels of fiscal stimulus, but it just shows how Europe has lagged in this case, than U.S., but it's also true of China and other areas globally. We see that turning on its head, both -- and that's already started to happen, and we think will continue on into the next decade as well. And that will still go a long way to bridging the gap in growth between those regions. And I think importantly, it's because of this more conservative fiscal stance, particularly from Germany that Europe has the capacity to do that without really influencing bond markets. So German debt to GDP is roughly half of that is what we see in the U.S. And that means that the Eurozone as a whole, as we see on the right-hand side, is roughly mid-80s percentage versus the U.S., for example, at above 120%. So I think that investment-oriented nature of kind of fiscal spend is going to support economic growth and European company performance. If we skip on to the next slide, and I'll probably put the next 2 together, which is to say that underlying macro performance in Europe is actually improving already even before the change in the German debt break. And we still think there's upside to that. In this slide, we see coming from the consumer because consumers still have excess savings rates, still have a strong balance sheet position. I would hypothesize that's because just as the rest of the world came out spending, Putin invaded Ukraine and the European consumer remained within itself. But we think that, that is an opportunity for the European consumer to move back to more normal levels, which will support greater retail sales within the region. If we skip on to the next slide, you'll see that PMIs have been improving already. Service PMIs have been in expansionary phase for quite a long time now and manufacturing PMIs have seen -- have recovered and are now stabilizing at a higher level. And we see that again on the GDP growth numbers, which have kind of reaccelerated, we'd say, back to normal levels and are continually revised upwards. For example, the city economic surprise indicator is continually showing beat versus expectations for European macro. And then quickly on the last slide, just talking about that relative valuation. Open -- and I'll focus attention on the right-hand side here, maybe. Open, we are questioned around relative valuation versus the U.S. at a headline level, we think it's easier to break it down to a sector level. And the bars show where the long-term discount versus the U.S. has been. And so it's important to recognize that we expect Europe to trade at a discount to the U.S. for the foreseeable future. But the green diamonds are showing us where the discount currently is. So in almost all sectors, we are at a wider discount or a lower premium than we have been over a long-term history. And for those reasons that we've talked about before in terms of that macro trajectory, we don't believe that, that's justified in valuation.

Great. Thank you, Tim. So I suppose combining that macro outlook with your distinctive investment process, what's the current positioning and how does the portfolio look today?

Yes. So if we skip on again, please. I think as I mentioned, we've got fairly tight sector positioning. So it can sometimes not show a full picture other than to show the balance that we're trying to put through. For example, we see a compelling valuation opportunity in pharma names right now. That's spread across some well-known names, which include stocks like Novartis and Roche, but also in other areas of the value chain within pharma, such as Sandoz, which is a generics and biosimilar manufacturer or Lonza, which is a CDMO, so contract manufacturing for some of these larger and indeed smaller pharma and biotech names. The next one there, commercial and professional services. So these are -- the majority of this is 2 small cap names, which are industrial services names, Spie and Bilfinger, who are very leveraged to that improving macro European environment and fiscal stimulus in Europe. We're still positive on European banks. We believe the story now turns to loan growth, and that still sees upside to market expectations based on loan growth. And then on the other side, those are areas of financial services where we are less positive on. That includes some of the exchange businesses, which are more under pressure from their software tools because of AI kind of changes that are happening in the market and new competitive pressures. And also, we balance that pharma exposure with kind of other defensive areas, whether they be health care equipment, where we think valuations are very high still, more exposed to discretionary consumer or in the household and food, beverage and tobacco, other consumer staple areas that are more exposed to consumer and potentially falling inflation. If we skip on to the next slide, again, conscious of time, I won't dwell too much on this, but again, to show the balance and in the yellow bars to show the style characteristics, cheaper than the market. In one term we use higher quality than the market and with better earnings revisions as a proxy for better momentum than the markets. And then maybe on the last slide, finally, and then we can switch to Q&A because I'm conscious of time, Nick. I would kind of leave it with a couple of key messages that what does JEGI offer to investors? Firstly, it's exposure to an improving Europe. So just as we would look at a company, we can think of Europe as a region where we still have an attractive relative valuation. We think it's underappreciated in its quality, and we're seeing improving momentum. That momentum is coming from a macro fundamental momentum, but it's also coming from increased flows into the region from global asset allocators looking to diversify. Secondly, it's a balanced investment process that has applied consistently. And we think that allows us to deliver consistent excess returns despite challenging market conditions. So we believe that balance is essential all the time, but especially so now when we're in a period of enhanced geopolitical, enhanced policy, enhanced technological uncertainty. And then finally, I would say that income component, which you touched on earlier, Nick, is having that attractive yield without having to compromise on access to the best investment opportunities in Europe wherever they come from.

Perfect. Thank you, Tim. So we do have lots of questions and not a huge amount of time. So I will try and battle through these as quickly as possible in no particular order, I'm just throwing that to you. A few questions just on defense. Could you just touch on your view on defense stocks today, please?

Sure. And I'll go for the quick fire answers. We are 1% -- around 1% underweight defense as a kind of group as a whole. We do have holdings in CFG, a recent IPO and [indiscernible] because we saw a better valuation opportunity. And I would classify defense as having long-term structural growth opportunities. I think that's clear, but we think that the valuation is already there. And so we've looked at other areas to benefit from fiscal stimulus spend, like I mentioned, Spie and Bilfinger rather than directly into defense.

Thank you. We've had a few questions that are sort of similar just around flows into Europe and sort of fund flows. One, just around -- is it creating any dislocations that you can benefit from? And do you sort of see U.S. investors returning to invest in Europe basis of relative valuations and perhaps perceptions around geopolitics as well?

Yes. In terms of dislocations across sectors, I'm not sure we necessarily see that. But certainly, that second point -- sorry, we probably are seeing more of an interest in kind of domestic Europe, and we've seen the performance of that. And by that, I mean, domestically exposed European names rather than more globally exposed. And yes, I think often with these things, especially large institutional shareholders, it can take quite a long time to do that. And we are definitely seeing more interest from around the globe, both from an opportunity on relative valuation and also on the diversification where most people have found themselves following a decade or more of U.S. outperformance to be probably -- have an asset allocation that is different to what they expected.

Great. Thanks, Tim. There's probably more of a company level question, which maybe I'll take and chip in Tim, if there's anything I miss, just around the discount policy. So the trust does have a hard discount policy of seeking to spend 10%, which has a demonstrated track record of doing. Obviously, as you've seen the performance of the trust and also sentiment towards Europe improve, we haven't used the discount control mechanism for some time. So the last buyback was in May 2025, and the Board bought back at a 5% discount at that point. And indeed, this year, we've actually been in a position to issue some shares from treasury at the start of this year, which is encouraging. So a hard discount policy, which has been robustly followed, but it hasn't needed to be used too much in the last 6 to 12 months. But -- and in fact, when they have done, it's been done tighter. Tim, just a question around IPOs. Have you participated? And do you look at them? There have been a number of IPOs in Europe this year, I believe.

Yes, we're definitely starting to see a pickup in activity. We look at everything beyond -- everything that's of a reasonable size. And we think having a dedicated small and mid-cap team and the tools we have is helpful for that coverage. We have only taken part in one this year as far as I can remember, which is that defense name CSG, which is a Dutch-listed defense company, where we saw can sometimes happen around IPOs, a good relative valuation opportunity versus the rest of the...

Great. Thank you, Tim. I'm definitely having a few issues in my Zoom. So we are -- I'll throw on one question. If I disappear, I might leave it to you to close out, so just perhaps bear that in mind. Just on your current small cap weighting, is that where more of your domestic focused part of the portfolio is? And what's your weighting at the moment?

Yes, that's a good interpretation of it. I think we have around 13% off benchmark, which tends to be all small cap because we don't go off benchmark into other regions. And they tend to be more domestically focused. And so partly, that's driven by our view of being larger beneficiaries of an improving European macro. And then there's always a level -- there's always idiosyncratic opportunities within European and small cap. So that's -- we're at a higher number than we've maybe been over the long run, but we've always had exposure to European small cap because we find so many good opportunities.

At the top of the call around -- outlined the income policy that the trust follows and you don't have to go and chase high-yielding stocks necessarily in order to provide an attractive level of income. But what is the organic income in the portfolio currently being generated?

Yes. So I know that it is 3.1%, but I only know that because we often get this question, I always check it before coming because as you say, we are kind of agnostic to that number. So we're lucky that Europe is a relatively high-yielding market, but we don't chase after that income yield. If it's -- we are completely agnostic whether that's 2.6% or 4.3%, it's not really important to us. We're looking at the total shareholder return opportunity that we see at any point in time.

Great. I might -- given it's on the half hour and having a few technical issues, I might draw the call to a close. There is a couple more questions, but we'll come back to those over e-mail following the call. Just a quick thank you, Tim, for your time this morning and particularly a big thank you to the audience. A lot of interest in the call, perhaps unsurprisingly given the improvement towards Europe and also the performance of the trust. So very encouraging to see that. So thank you for taking the time to join the update with us this morning. There will be a really short feedback survey, which will pop up on your screens. We do really appreciate you taking 30 seconds to complete these as it really does help us improve and evolve these calls over time. But with that, I will say thank you and enjoy your weekends.

Thanks, everyone.