Growth factors continue to improve on a relative basis

During March 2022, the Pengana Axiom International Ethical Fund underperformed the benchmark, delivering -2.4%, versus the MSCI All-Country World Index (“Index”) which delivered -1.3%, in AUD terms.

Top Holdings (alphabetically)

Alphabet Inc

United States

Communication Services

Amazon

United States

Consumer Discretionary

Apple

United States

Information Technology

Asml Holdings

Netherlands

Information Technology

Danaher

United States

Health Care

Live Nation Entertainment Inc

United States

Communication Services

Microsoft

United States

Information Technology

ServiceNow Inc

United States

Information Technology

TE Connectivity

United States

Information Technology

Tesla Inc

United States

Consumer Discretionary

The dual issues of accelerating inflation and slowing economic growth continue to create a challenging environment for our strategy which focuses on investing in dynamically growing businesses.  Examples of headwinds include, core Eurozone CPI growth in February accelerating 40bps to +2.7% YoY; US ISM Manufacturing New Orders slowing to 53.8 in March, from 61.7 in February; and, an inverted US yield curve in late March creating further uncertainty about the trend of medium-term global economic growth. We are however encouraged by the Fund’s improved relative performance during the second half of March as the factors we seek to invest in continue to improve on a relative basis, and EPS revisions should continue to drive outperformance at this point in the economic cycle.

Our ethical filters exclude investments in energy (the strongest performing sector year to date) and certain materials sectors such as metals and mining. This has been a major headwind to index relative performance. Consumer discretionary was the Fund’s best performing sector. We  continue to hold overweight positions in information technology, consumer discretionary, and industrials.

At the stock level, TE Connectivity, AMD, and Estee Lauder were the largest relative detractors.  While TE Connectivity’s leading position in the electrification of automobiles remains very favourable, semiconductor-related bottlenecks continue to adversely affect vehicle sales and production.  As a result, we have modestly reduced exposure.  Tesla, Danaher, and Deer & Company were our top relative performers in March.  Tesla continues its production execution excellence despite various logistical challenges while demand for its industry-leading electric vehicles continues to outpace expectations.

We continued to allocate capital away from information technology, primarily semiconductors and software as leading macroeconomic indicators continue to deteriorate.  Inflation is beginning to show signs of impacting consumer goods demand globally. The Fund’s largest trim during March was Adobe Systems given concerns around near-term operating fundamentals.  Our prediction of a potentially disappointing quarterly result was accurate as management indicated seeing a slowdown in demand during the last month of the quarter (February) in Europe given geopolitical events.  After reducing the position size by 1/3 before results, we will be maintaining the current weight as expectations have been reset and recent price increase announcements should drive positive estimate revisions in 2H22.  Our biggest add was Tesla.  Production and deliveries year-to-date continue to outpace expectations and a further positive surprise is likely as new production facilities in Germany and Texas, USA ramp throughout 2022.

We initiated new positions in Canadian National Railway, Costco Wholesale, and Nutrien, a Canadian-based supplier of fertiliser. Canadian National recently announced a new CEO with a focus on improving operational performance.   Improving operations more in-line with North American peers will be the primary dynamism driver, especially when coupled with the geopolitics driving Canada’s improved positioning in global natural resource markets.  Costco Wholesale’s membership model drives pricing power in today’s inflationary environment relative to the grocery/staples peer group.  Same-store sales continue to outperformance expectations, and we expect a membership price hike to further boost sales performance over the near/medium-term. For Nutrien, the global fertiliser supply/demand fundamentals are very favourable as supply is concentrated and continued elevated crop prices will incentivise farmers to spend on fertiliser application to boost crop yields. Nutrien is also uniquely positioned on the global cost curve as North American natural gas prices remain well below prices in Europe and Asia. Most importantly, these fundamentals were in-place before the Ukraine/Russian conflict and have only become more attractive.

We exited three names during the month, American Eagle Outfitters, Home Depot, and Tencent Holdings. While American Eagle continues to show strong revenue growth, higher-than-expected supply-chain costs are creating a downward earnings estimate revision cycle that will likely last over the medium-term, warranting exiting the position. Home Depot benefited greatly during COVID as home improvement trends accelerated. As these tailwinds began to abate in mid-2021, we began to trim the position size. As we enter 2022, our forward-looking data indicates higher mortgage rates are beginning to impact the US housing market, which is closely correlated with home improvement.  We chose to exit the remaining small position. In the context of a significant underweight posture toward Chinese internet stocks, we maintained a small position in Tencent given its unique positioning at the center of digital entertainment, advertising, and cloud computing in China. During March, regulatory conditions continued to deteriorate, and poor operating results drove us to deploy out of the region.