Bellevue Entrepreneur Europe Small

European small and mid caps, as measured by the MSCI Europe Small Cap ex-UK, declined 4.4% in October, underperforming the broader markets (SXXR -3.3%). The global economic narrative remained generally positive, as epitomized by the US ISM services index at a two year high, and the US jobs report. In Europe, the ECB cut rates by a further 25 bps at their October meeting. The Flash PMI for the euro area remained at contraction level but improved slightly with services still in expansion and manufacturing contracting, but at softer pace (45.9 vs 45). At the time we write, ca. 50% of companies have reported Q3 numbers. 60% of Stoxx 600 companies have beaten estimates, a counterintuitive number in light of the numerous recent profit warning, hitting companies in various sectors and market capitalisations. In terms of sector performance, energy (-0.0%), financials (-0.5%) and communication services (-2.2%) performed best while real estate (-9.1%), information technology (-8.9%) and materials (-5.3%) lagged the most.

Against this backdrop, the Fund declined by 5.4% (EUR / B shares), underperforming its benchmark by 104bps. This bring the performance to 4.7% for the first nine month of 2024, a 206 bps beat vs. the benchmark.

Top performers in the month were Rovi (+9.1%), Invisio (+13.0%) and Cloetta (+6.5 %). In a surprise move, Rovi abandoned the sale of its CDMO business. The stock rebounded afer having derated 20% since May due to multiple uncertainties around both final valuation and reinvestment risk. Invisio, global specialist in advanced communication reported order intake nearly doubling yoy and 30% ahead of consensus. Invisio benefits from increased military and police investments into improved communication/hearing for critical environments. We expect the company to grow 15-20% p.a. into 2025/26. Invisio boasts ROCE of nearly 40% and is debt free. Cloetta delivered good Q3 results, with 18% EBIT growth driven by the strong performance of the pick & mix segment up 11%. The company also confirmed the greenfield plant project in the Netherlands has been put on hold, a positive decision given the sizable investment.

Top detractors in the month were Carl Zeiss (-19.0%), Arjo (-23.6%) and Ipsos (-20.1%). Carl Zeiss fell ahead of its Q4 results amid subdued China demand as reported by numerous medtech peers. Management has mitigating cost cutting opportunities while market weakness persists. We expect cautious guidance for 2024/25. Arjo shares tumbled 16% on softer Q3 earnings with a weak outlook for capital goods sales in Europe, which should be a drag on margins. We feel the company is in need of a new narrative, but unsure if the upcoming CMD will provide a credible answer. The position had been reduced ahead of the numbers and is now under review. Ipsos revised down its 2024 revenue growth guidance from 3% to 1% as H2 is proving softer than expected, impacted mainly by the US which suffered from pre-election budget freeze. The US issues should normalize in 2025, while profitability will continue to rise on the back of continuous digitization of data collection implying. P/E is <9x with an attractive risk/reward.

The European equity opportunity is slowly sinking in. At the same time, European small and mid caps benefit too as the asset class is offering an interesting entry point with valuations below their large caps peers for the first time since 2008. The massive valuation gap with European equities trading at 14x forward earnings, compared to 21x for the S&P 500 speaks for the region. What could be the triggers to a rerating? China seems less bad and we have witnessed some positive macro data. The Caixin China General Manufacturing PMI increased to 51.1 in March, the fifth straight month of growth in factory activity. Copper reached an 11-month high. Also, compared to the Fed, the European Central Bank finds itself in a less complicated situation. The business cycles of the US and Europe have decorrelated a lot in the last 6-12 months and while growth expectations rise in the US, it is the opposite in Germany and a large part of Europe. Finally the March BofA's global fund survey showed the largest increase in allocations to European equities since June 2020. After 3 consecutive years of outflows, it’s time to reconsider European small and mid caps.