Threadneedle: Outlook for US Equities

Cormac Weldon, Head of US Equities, Threadneedle UK: Threadneedle's US equity team has developed a successful approach to managing money that has allowed it to attract significant asset flows in the past two years. Based in London, the team's $7bn under management makes it a key staging post for US management teams visiting Europe. The team is well-staffed throughout the UK and US business day, providing full coverage during trading hours combined with the perspective and time to reflect afforded by a UK location.

A proven approach

The team has built an enviable performance record based on fundamental research, the sharing of information and high conviction investing. Ideas are exchanged between the regional equity teams via global sector groups, and further input comes from the fixed income department in the form of economic forecasts for each of the major markets. The team actively flexes its investment style to ensure that portfolios are optimally positioned for the prevailing market conditions. This has allowed the funds to outperform throughout the violent style rotations of the past two years, incorporating phases of growth leadership in 2007, the defensive focus of 2008 and the value-led rally of 2009.

Comprehensive product range

We offer three principal US equity strategies to investors: the American Fund is a mainstream long-only product with around 75 stocks; the American Select Fund is a more concentrated portfolio with roughly 60 high conviction positions; and the American Extended Alpha Fund is a "130/30" strategy employing limited leverage and shorting to deliver potentially superior risk-adjusted returns. All three of these funds have excellent performance records. We are pleased to be able to offer the American Select Fund in OEIC and SICAV structure; the others are currently available in OEIC form.

Fundamental investors

Bottom-up stock selection is typically the biggest driver of performance. No attempt is made to monitor every stock in the market but the team conducts upwards of 500 company meetings each year, with research focused on the most significant opportunities to add alpha. Debate and challenge are encouraged, with the benefits of new ideas or research angles regularly discussed. Target prices provide a financial reality to the research and help to quantify upside and downside risk. An independent risk team monitors all portfolios, with daily risk reports highlighting the positions that are contributing most to the funds' tracking errors.

Market background

Recent data has shown that the global economy is past its worst, but consumer deleveraging and high levels of government debt will ensure that the recovery will be gradual and that growth will remain below trend for some time. The significant excess capacity that is evident in the system will limit the potential for inflation, allowing central banks to pursue highly accommodative policies throughout 2010. In the meantime, muted demand has created significant excess cash on companies' balances sheets and, with financial uncertainty clearing, we expect some of this capital to be deployed in the months to come in the form of share buybacks, capital expenditure and M&A activity.

Cost cutting can continue

The success with which corporate America has managed to navigate the recession has once again exceeded commentators' expectations, with the past two quarters seeing much better than expected earnings numbers as a result of aggressive cost reduction. We believe that there is scope for cost cutting to deliver further gains in the coming quarters, with top-line growth also returning in some areas. This provides the potential for further earnings surprises. In this context the market is benefiting from reasonable valuations and improving fundamentals.

Portfolios now more balanced

We have succeeded in moving portfolios from a defensive footing to more of a balanced stance over the past six months, increasing exposure to value stocks and cyclical parts of the market. The extreme valuation spreads between defensive and cyclical sectors and between higher and lower quality stocks that we saw in early 2009 have now narrowed. However, spreads can contract further over the next few months and there is still scope to add alpha through stock selection in a wide range of sectors.

Sector strategy

Our two key sector overweights are in financials and technology. The technology sector is particularly well-prepared for the sluggish economic conditions we are seeing, as many of today's leading companies have already successfully managed themselves through the bursting of the dot com bubble. Meanwhile, we are finding many good bottom-up opportunities in financials, for example in stocks where the market is failing to appreciate the value of certain underlying assets. Among the principal underweights are utilities, consumer staples and energy. In the last of these sectors we see limited opportunities to generate alpha among the oil majors. We prefer to deploy capital in the smaller, higher beta names. Indeed, on a beta-adjusted basis many portfolios are overweight in energy.

Summary

Threadneedle is a proven manager of US equities offering a comprehensive range of products to a diverse group of investors. Our flexible style has allowed us to deliver strong performance through a period of intense market rotation. We are constructive on the outlook for the stock market, believing that we are past the worst in the economic cycle and that further cost cutting and a recovery in top line growth can result in further upside earnings surprises. We are confident in our continued ability to create alpha through fundamental research and high conviction stock selection.