Correction: An earlier version of this article misquoted manager Wendy Trevisani saying Thornburg International Value Fund did not invest directly in Europe. The fund does have a significant portion of assets allocated in Europe.
Defense companies that are ratcheting down their earnings in the wake of looming budget cuts in 2013 are attractive and certain European companies doing business in the U.S. hold more interest than U.S. companies, according to fund managers at the annual Thornburg Investment Management press luncheon at the 21 Club in Manhattan recently.
In the emerging markets arena, Thornburg's strategy is to avoid countries, currencies and companies issuing shares at rock bottom prices as a result of debt overload or trade deficits.
Among the featured portfolio managers at the conference were Wendy Trevisani and Lei Wang, both managers of the Thornburg International Value Fund, and Lewis Kaufman, manager of the Thornburg Developing World Fund. Connor Wilson, an associate manager for Thornburg Investment Management, promoted a white paper he wrote called Eyes Wide Open: Responses to the Increased Complexity of Global Investing.
According to the Investment Company Institute, $470 billion was withdrawn from equity funds from 2007 to 2011 while $150 billion went into global equity funds.
"We invest in European companies that do business in the U.S. when their valuation is attractive. Valuation is an important consideration because with good valuations you get a better risk-adjusted return long term as well as increased profitability. Some of these European companies that do business in the U.S, such as Louis Vuitton, Volkswagen, Adidas and Toyota, are more attractive than U.S. companies," said Wilson.
Kaufman used the term "capital impairment" at the conference, which he used to mean destroying a capital base. "Companies, currencies or countries that fall into the capital impairment category have a trade deficit or have too much debt and have issued shares at their lowest prices. We avoid these companies," said Kaufman.
Thornburg is trending towards U.S. companies that are global, reflecting the fact that 51 percent more of revenues underlying the Dow Jones Industrial Index originated abroad compared with five years ago.
"Both McDonald's and Yum! Brands (Taco Bell, KFC) report 70 percent of their sales outside of the U.S. More of McDonald's revenues come from Europe than the U.S. and more of Yum! Brands revenues come from China than the U.S. These are truly global companies, despite being domiciled in the U.S.," said Wilson.
For both downside protection and total returns over the long run, Wilson's paper reports that globally diversified portfolios have outperformed domestic ones. According to GersteinFisher Research Center, global portfolios outperformed domestic ones 96 percent of the time from 2001 to 2011 at an average of 2.4 percent on an annualized basis.
"We're getting U.S. exposure from European companies," said Trevisani, who co-manages the Thornburg International Value Fund along with Bill Fries and Wang. The fund has returned 7.96 percent since inception with European companies that include Adidas, Nestle, LVMH Moet Hennessy Louis Vuitton and Toyota.
Companies that have a defense division, such as Oshkosh Corp. (OSK), have caught Wilson's eye for the new year.
"Many defense companies are assuming budget cuts will occur and are preparing by making operational changes, lowering earnings forecasts and giving alternate guidance. This preparation for the worst shows mature and restrained thinking by management, which is attractive," Wilson told Financial Advisor magazine.
Because of the failure of the super committee to agree on a deficit reduction plan, the 2011 Budget Control Act is slated to automatically cut about $500 billion from the defense budget on top of the already agreed-upon $487 billion in reductions. Without action from Washington, on January 2 the U.S. defense budget could undergo cuts totaling an estimated $1 trillion over a decade.
A truck manufacturer, Oshkosh represents 4.2 percent of the Thornburg Global Opportunities Fund's top ten holdings along with Google at 4.9 percent, Microsoft at 3.6 percent and Brasil Foods at 3.9 percent.
"Oshkosh management released guidance for their defense budget with a bias to the downside. But if the worst-case scenario of budget cuts doesn't play out, there could be an upside, including higher sales and higher earnings," said Wilson.