Finding Value in the Global Equity Market

We continue to see the same drivers, which suggests that it very much remains an attractive environment and we're still likely in the early innings of a multi-year period where investors who are risk conscious and focused on paying reasonable prices versus a growth-at-any-cost mentality are set up to do quite well.

What accounts for the fund’s strong performance over the last three years?

I'd really attribute it to QV's risk-managed process – our focus on diversification and controlling valuation risk in a market environment that really hasn't been concerned with either in the last few years. We've always thought that a big part of generating good returns over the long term starts with protecting clients’ capital from the risk of loss. This is why we've really focused on managing valuation risks, owning businesses that compound at reasonable rates and have strong enough balance sheets to weather adverse environments.

So while the Global Fund actually had a hard time keeping pace with market returns in 2023 that were really driven by just a few large growth stocks, a big part of the Fund's three-year performance has more to do with the reasonable starting valuations that we had in 2021 and 2022 relative to the market and the diversity of opportunity, which really helped the fund to protect client's capital and generate a positive return in 2022, when the market was down in the mid-teens. That QV has been able to protect clients' capital in all of our different strategies over multiple periods of stressed markets is, in my opinion, a testament to our risk-managed process that helps generate consistent outcomes for our clients.

How can a fund that’s focused on value participate in the AI trend?

Our process is really bottom-up, so we don't go out to look to invest in themes and big market narratives, especially in the context of the current environment where expectations, we think, have really pushed valuations on many perceived AI winners to pretty extreme levels. We do think there continues to be a lot of uncertainty over who the eventual winners will be and what timeline attractive economics for potential beneficiaries will actually look like. This all said, though, we do hold a few reasonably valued businesses, which we've owned well before investors became enamoured by the prospects of AI that we think are actually pretty well positioned to benefit. For example, we own Alphabet, a holding since 2020. They have been building AIdriven functions into their ad and search offerings for many years now, and they're actually a clear leader in the generative AI space with their Gemini large language models.

We also own Samsung Electronics and Micron. They represent two of just three semiconductor companies which dominate the global memory chip market. Memory is the lifeblood of the digital economy. It's essential for everything from running your computer to your car to powering the build-out of the global cloud. This means it's also intensively required for AI applications, which require huge amounts of memory. For example, as new smartphones gain AI capabilities, there's expected to be a 50% increase in the capacity of DRAM memory required in each phone. As AI-powered PCs become commonplace in the next few years, the DRAM memory content is expected to double from 8 GB to 16 GB. Memory is already experiencing secular growth tailwinds, and the expansion of AI should only serve to add to Samsung’s and Micron’s tailwinds over time.

Why do you like value stocks right now?

In the fall of 2020, we felt that the differentials between highly valued growth stocks and many other parts of the market had reached such an extreme that it seemed it would be very difficult for a more value-oriented strategy such as ours not to perform well given the discounts we were finding in good quality stocks, which were out of the limelight of the major growth stocks. At the same time, it was becoming apparent that both interest rates and inflation were likely to start to rise from very low levels – factors which we felt were likely to support the earnings and valuations of depressed value stocks and likely suppress the excesses of very highly valued areas as investors began to discount a significantly higher cost of capital versus the prior decade.

Fast-forward a few years and it has been a very attractive environment for value-conscious investors relative to the broader market, and yet today we continue to see the same drivers, which suggests that it very much remains an attractive environment and we're still likely in the early innings of a multi-year period where investors who are risk-conscious and focused on paying reasonable prices versus a growth at any cost mentality are set up to do quite well.

Why this fund and why now?

The market environment today is one of historical extremes. We see it in valuation differentials between different areas with the market as well as the unusual spread between a large group of very highly valued stocks on the one side and a similar contingent of much lower valued stocks by historical standards, which look very cheap in comparison today. The historical record over the last eight or nine decades paints a pretty clear outcome for the future prospects over the next 5 or 10 years for some of these very highly priced areas of the market that really are dominating the indices today. It's not a very attractive outlook.

Within the Global Equity Fund, we've tried to remain very disciplined in terms of managing and avoiding some of these big risks we see in the market today. The fund continues to be comprised of a group of strong businesses with diversified exposures, reasonable dividend yields, good prospects for earnings growth, but unlike the broader market, the fund is attractively priced at around 14.5x earnings today – one of the largest discounts historically to the global index. We think the Global Equity Fund offers a uniquely differentiated risk-adjusted return potential in a market where almost everyone is chasing growth at any price.

Recorded February 14, 2024. For definitions of technical terms, please visit iaclarington.com/glossary and speak with your investment advisor.

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The performance data comparison presented is intended to illustrate the Fund’s historical performance as compared with historical performance of widely quoted market indices. There are various important differences that may exist between the Fund and the stated indices that may affect the performance of each. The MSCI World Index (CAD) is a free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of developed markets. The MSCI World Index (CAD) consists of 23 developed market country indices. The Fund’s market capitalization, geographic and sector exposure may differ from that of the benchmark. It is not possible to invest directly in market indices. The performance comparison is for illustrative purposes only and does not imply future performance.

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