Artemis Funds (Lux) – US Extended Alpha update

Source for all information: Artemis as at 31 March 2024, unless otherwise stated.

Markets sprinted out of the blocks in January and continued their strong run throughout the quarter with the S&P 500 returning 11.6%. Within this strong performance were 22 new all-time highs for the index with it being only the eighth time since 1950 that we have had back-to-back quarters of 10% or more.

Strength of the index was supported once again by technology shares, in particular Nvidia which achieved an over 80% return (in US dollars) over the three-month period, taking its market cap to over $2trn. It is worth mentioning that we saw a broader contribution to returns than in 2023, with 10 out of 11 sectors being positive during the quarter¹.

The strength of the index during the quarter contrasts with the more complicated macroeconomic backdrop. The general resilience of the US economy continued to confound pessimists with jobs data still strong in the face of higher rates. Toward the end of the period there was also a spike in oil prices. All this prompted the Federal Reserve to signal a more cautious stance, delaying the expected rate cuts.

Performance

The fund returned 16.5% in US dollar terms, outperforming the S&P 500 index's return of 11.6%.

Importantly, this was driven by stock selection contributions from a broad range of sectors including technology and consumer discretionary and to a lesser extent the industrials and communication services. On the negative side, no sectors detracted meaningfully.

On the positive side

Meta’s Q4 results silenced those fearing a deceleration, with guidance for the 22% organic revenue growth seen in Q4 to accelerate in Q1. This was being driven by steady performance from the core Facebook and Instagram sites, supplemented by material incremental contribution from initiatives like Reels, Threads and business Click to Message. These were very impressive results and led to big upgrades to earnings.

The underweight in Apple and Tesla contributed meaningfully. Our negative view on Apple is driven by what we see as a company that has meagre growth prospects, over-reliant on one product, the iPhone. It is therefore sensitive to a softening in demand which of late has come from China, where Apple is experiencing an increase in competition from the likes of Huawei, as well as a general hostility towards Western companies. Despite the fundamental performance of Apple stalling, the company still holds a lofty valuation of around 26x P/E. Tesla weakened over the reporting period, due to softening demand from increased competition in Chinese electric vehicle producers.

Constellation Energy (nuclear power generating utility) gave a substantial upgrade to long-term guidance as it sees the benefit from the Biden's pricing subsidies, and a tight power market as electric vehicles put increasing strain on electricity infrastructure. This stock has rerated substantially from the days when it was relatively unknown and we took our position, and so we have taken a large proportion of the profit to recycle into other attractive areas of the market.

In addition to the above, our holdings in Micron (semiconductors), Progressive (insurance), ICON (lifesciences), Saia (transportation), and Western Digital (technology hardware) all performed well on the back of improving results.

On the negative side

The majority of detractors can be categorised into two groups. The first were either caused by underweights, for example Eli Lilly and Berkshire Hathaway. And the second is where we held positions that had a flat to marginally negative share price in a strong market, such as PG&E, Baker Hughes, and Lamb Weston.

Humana was really the only big detractor which struggled from a fundamental perspective over the quarter. The company provides healthcare insurance to retirees under the Medicare advantage program. It revealed very weak operating results which will take some time to correct through controlling expenses and raising prices. We reduced our position following the news.

Short positions

On the short side, we were quite active in opening new positions in a range of stocks from hotels, through to data services, utilities, office furniture and auto retail. Several of these had been positions in the past, which we are returning to after their shares have rebounded to once again unattractive valuations and potentially dangerous growth expectations. We covered several shorts, both to take profits after having met our price targets, or due to a change to fundamentals.

Activity

We bought notable new positions in US Foods and American Eagle. US Foods is a distributor of food to restaurants, similar to existing holding Performance Foods. We like this sector, where the dominant three players are poised to take increasing share as their scale and technology platforms distance them from their small competitors. This leads to persistent double-digit profit growth (before capital allocation) which we believe is highly undervalued at the current 14x 2025 earnings, compared to much higher multiples seen in the past.

We also bought Occidental Petroleum, the north American low-cost producer with exposure predominantly to the Permian Basin, as well as a chemicals and midstream business. Importantly, it has made substantial investment into a broad range of areas relating to Carbon Capture and Storage which are likely to prove valuable in the long term

We reduced many of our strong performers during the quarter. This included Meta, Nvidia, Lam Research, Blackstone, Eagle Materials and Amazon, all of which we still find attractive but with more moderate upside versus downside than before.

Outlook – Attractive opportunities in a range of stocks…

At the time of writing, the fund has net exposure² of 96%, consisting of 116% on the long book, and 20% shorts. In addition, we have a 1% S&P 500 index put option short position³.

Most of the fund is invested in ‘discounted compounders’ – stocks that can deliver sustainable long-term growth across different types of economic environments. These operate in areas ranging from food distribution, payments, insurance brokerage, auto insurance, health insurance and financial exchanges. We have a range of shorts in lower-growth companies where we find the fundamentals and valuations to be unattractive from healthcare through to telecoms. On the cyclicals side we have long positions in transport, housing and life sciences where we see depressed fundamentals and attractive valuations. Set against this we have cyclical shorts against many later-cycle stocks where we see elevated profit levels, and high risk of disappointment.