Artemis Funds (Lux) – US Select update

Strong performance over the quarter

During the second quarter of 2023 the fund returned 13.2% (in US dollar terms) while the S&P 500 Index returned 8.7%. 

April marked the start of the first-quarter earnings season which gave us an update on how our companies are navigating the unpredictable economic environment. Earnings were somewhat better than expected, but the fallout from the collapse of Silicon Valley Bank did lead to tighter capital controls for smaller regional banks, causing loan growth to slow. As we moved through the quarter, the economic outlook shifted from expecting a potential rate cut by year end, to acknowledging that there would be further rate increases still to come. 

Stocks recover from the aftermath of Covid

Covid and the response to it had an extremely dislocating impact on almost every business. As we built a portfolio during last year, acknowledging higher inflation and interest rates than we had originally expected, we focused very much on bottom-up drivers for the individual stocks we bought. Recovery from the severe Covid disruption formed a significant part of the investment case for a number of stocks we invested in. While we were early (or in other words wrong) in making some of these investments, it was reassuring to see that some of those recoveries started to show through during the most recent earnings reports.

During the second quarter some of our stock picks started to show fundamental improvement which led them to outperform the market. What was particularly reassuring about this quarter was the balance of where our strong stockpicking came from. In a period when the headlines were fixated on big tech, it was reassuring that three of our top four stocks were not related to AI but rather to housing and infrastructure recovery. In addition, within our top 10 relative outperformers we had a utility (Constellation Energy), an automobile salvage business (Co-part) and a pharmaceutical distribution company (McKesson).

Technology leads the way

Specifically on technology, our holdings in Amazon, Meta Platforms, Oracle and Nvidia all added to our performance. While our first-quarter performance was hurt by not holding Nvidia for much of the quarter we did buy the stock and are now overweight. Importantly, we bought the stock ahead of their blowout earnings report for the first quarter, when the potential of their AI business became more apparent. Meta Platforms also reported good numbers, largely due to its application of artificial intelligence to its advertising business, which successfully drove higher engagement by their users, which drives more advertising dollars. 

Amazon has been a significant laggard since Covid. The company added too much capacity, reducing returns in their retail business. At the same time, it experienced a slowdown in demand in the cloud business, AWS. Amazon, along with Microsoft, had warned that growth of its cloud business would slow as customers grew into the capacity they had previously purchased. However in their first-quarter reports both Microsoft and Amazon indicated that the slowdown would be shorter than they had expected originally.

Positive housing data boosts building material stocks

Our building products positions – Eagle Materials, Builders FirstSource and Vulcan Materials – performed well. Housing data, especially new home starts, continues to surprise to the upside despite stubbornly high mortgage rates. We think that high rates have led to a major slowdown in existing home sales: homeowners are unwilling to move and swap a low mortgage rate for a meaningfully higher mortgage rate, and as a result, demand for new homes has increased.  At Eagle Materials, this should correspond to higher demand for wallboard. Builders FirstSource should see the benefit from higher starts quickly: they sell products that are used early in the construction phase (such as trusses and sidings). Vulcan Materials is also a beneficiary of an improving US housing market, and should, along with Eagle Materials, enjoy long term tailwinds from the recently passed federal infrastructure bill. 

We continue to look for opportunities for recovery in companies and industries that have seen more extreme dislocation in their typical cycles than we would have seen without the impact of the pandemic. An example of this is Avantor, a life sciences company that is currently facing ‘tough comparisons’ following elevated customer spending during the pandemic. Business trends have not yet inflected positively - but we remain confident in the opportunity and see a lot of value in the stock. 

Buying CSX, Moody's and Dexcom

Over the quarter, we initiated new positions in CSX (a railroad) Moody’s (a credit rating agency) and Dexcom (a medical devices company). 

We think that freight volumes are likely to improve from depressed levels at CSX, and, with improving service performance the company should start to be able to deliver better earnings growth. 

In the case of Moody’s, we thought that short-term concerns about trends in debt issuance (driven by rapidly increasing interest rates and recession fears), offered an attractive entry point into an extremely high-quality company operating in a disciplined oligopoly. At some point we think the market will start to look through near term concerns and focus once again on the long-term quality and durability of the Moody’s business model. 

Dexcom has market-leading technology in glucose monitoring for diabetics. Medicare recently approved a new indication which significantly expands Dexcom’s addressable market. In addition, it has launched a new, upgraded version of its device, and a lower cost version for international markets. We felt that the stock was not reflecting all of these tailwinds, which we see as drivers of growth for years to come.