- The international economy is in rough shape with Europe, China, and emerging markets struggling.
- But Jim Nelson’s EuroPac International Value Fund has continued its dominant stretch.
- Here are Nelson’s secrets to successfully investing in foreign stocks.
Although the economic outlook for the US is grim, it’s far rosier than what’s happening overseas.
Europe appears destined to enter a recession, Chinese markets are melting down as President Xi Jinping further consolidates power, and emerging markets remain in turmoil.
Amid that chaos, foreign stocks have suffered. Last decade was a disappointing one for international stocks relative to their US peers, and the 2020s haven’t been much better so far.
In fact, Morningstar’s foreign index and foreign large value category are headed for their worst years in over a decade barring a miraculous rally, with both down about 20% in 2022.
But investors would only have half the losses if they instead got global equity exposure through the EuroPac International Value Fund (EPIVX). The fund has retreated just 10% this year, good enough for a top 3% performance compared to similar funds, according to Morningstar. Even more impressive is that the fund ranks in the top 1% on a three-year basis and top 3% over the past five years.
Jim Nelson, who’s overseen the fund since its inception in 2010, can’t simply run for cover during potentially disastrous economic environments like this one. His responsibility is to give investors diversification away from US assets and exposure to foreign stocks in case they rally.
Still, Nelson is highly cautious now as multi-decade-high inflation continues to weigh on the global economy with no end in sight, leading central banks across the globe to keep monetary policy restrictive.
“I think there’s still a lot of adjustments downward that need to be made in asset prices,” Nelson told Insider in a recent interview. “So our view on the economy in general is that it makes sense to continue to position defensively and to hold larger-than-normal cash balances.”
Keys to successful stock-picking from a top fund manager
In theory, individual investors could replicate Nelson’s strong performance. The fund manager handpicks stocks instead of using an algorithm, and once he finds 40 to 50 names that are a good fit for the fund, he said he usually holds them for two to three years, which limits his tax liability.
Nelson told Insider about his investing process for finding winning stocks in foreign markets.
First, Nelson clearly defines what he’s looking for. For the EuroPac International Value Fund, he focuses on high-quality businesses that are trading below fair value. That’s a tough task, given that many discounted companies have poor fundamentals and are therefore cheap for a reason.
Quality companies are often described as having high, stable earnings and a low debt burden. But Nelson goes a step beyond that and looks at a firm’s management team. He studies how they’re allocating funds through metrics like return on capital and return on equity, and he also studies their commitment, including their leadership turnover rate and level of share ownership.
To determine if a stock is undervalued, Nelson compares its valuation to that of its peers. If a company is one to two standard deviations below its five-year average price-to-earnings (P/E) ratio or comparable industry-specific metric, that will likely get him to consider buying shares.
If a foreign stock meets both these criteria, Nelson may add it to his shopping list. Once he decides to invest he typically sticks with a stock for years, even if it’s unloved by the market.
“These are businesses that we would have a lot of confidence buying, even if the entire market was not liking them at the time for whatever reason,” Nelson said. “Maybe they missed a sales number, maybe they’re facing tougher competition, maybe they’ve had some bad trial data for a drug that’s coming out or something like that.”
Nelson continued: “Those are great opportunities for us to get into these stocks at a discount because we have a fair degree of confidence in their ability to work through those issues and succeed over the long run based on the work that we’ve already done.”
While capital appreciation is the main goal of Nelson’s fund, its investors also benefit from its 1.8% dividend yield, which exceeds its 1.75% expense ratio. The abnormally high yield is a byproduct of the fund’s international focus and value tilt, Nelson said.
Allocating money to top-performing sectors is also vital, Nelson said. His value-oriented approach led him to load up on once-beaten-down energy stocks and steer clear entirely from technology names — a move that has paid off handsomely this year.
Similarly, being exposed to the right markets can be the difference between leading and lagging. There are some enticing opportunities in emerging markets, Nelson said, but as of June 30, most of his fund’s assets were in countries like Great Britain, Canada, Germany, and France.
That’s for good reason, as Nelson said that the next big buying opportunity will be in Europe. It’s not time to strike yet, the portfolio manager said, but once stocks fall one to two standard deviations below their long-term averages, he’ll be ready to get ahead of the eventual rebound.
“We’re just waiting for the market to overshoot, essentially,” Nelson said. “I think that there are a large number of stocks in Europe that are trading at very respectable valuations right now where you could make a case to purchase them.”
Nelson continued: “However, given the macro environment and the fact that they could go into a deep recession, I think stocks could potentially go down more. The market always tends to overshoot, and I think that’s likely in this case. So we’re just waiting and watching for now.”
