ClearBridge Select Strategy Q3 2022 Portfolio Manager Review

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By Aram Green

Stay close to home to grow

Market Overview

After a strong rally from June to mid-summer, stock markets rallied again following Fed Chairman Powell’s harsh and aggressive comments in Jackson Hole. June market lows failed to hold and another record of hot inflation in mid-September pushed markets to new cycle lows. Investor confidence is struggling to get through a period of high inflation, while rising rates and an end to the pandemic-induced consumer binge are having a piercing effect on consumption globally.

The benchmark Russell 3000 index finished 4.5% lower on the quarter and is down 24.6% year-to-date. Unlike earlier in the year, growth stocks held up better than their value counterparts, while smaller-caps outperformed larger companies. The Russell 2500 Growth Index focused on small and mid-caps fell 0.1% during the quarter, while the Russell Midcap Growth Index was 0.7% lower.

In the third quarter, the performance of several of these smaller-cap, growth-oriented companies in the consumer discretionary and information technology (IT) sectors helped the ClearBridge Select strategy outperform the benchmark. These included Latin American e-commerce market MercadoLibre, which rebounded from June lows after posting another strong quarter of 40% growth with rising levels of profitability, as well as footwear retailer Crocs. The development of the electric vehicle (EV) market is a secular innovation that we are aiming for and here we saw strong contributions from ON Semiconductor, which designs semiconductor components for power management with end markets in industry and electronics engaged in EVs, in addition to leading electric vehicle manufacturer Tesla.

WillScot, which falls into the evolving opportunity segment of the portfolio that includes companies with specific drivers toward operational improvement, continued to execute its merger with Mobile Mini driving value-added sales in a more resilient business model and generating abundant free cash flow. .

The vast majority of recent performance headwinds have been in health care. The main detractors Syneos Health, Horizon Therapeutics and Surgery Partners were affected by different problems. Syneos, a leading contract research organization, experienced a slowdown in winning new business from pharmaceutical clients; Horizon saw weaker sales trends for one of its key drugs, Tepezza for thyroid eye disease, while Surgery Partners sold on concerns that increased summer vacations for doctors would lead to fewer patient procedures combined with a good amount of leverage on your balance sheet.

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Our performance in health care was disappointing as we believed this lower multiples area of ​​the portfolio would be more defensive, with the businesses more insulated from the macro issues plaguing the broader economy. We continue to own all three stocks due to fairly attractive valuations.

portfolio positioning

We made limited changes to the portfolio in the third quarter. The new purchases included embryonic positions in various fast producers, MongoDB and Clear Secure, whose valuations have come in quite dramatically. MongoDB is a company that we followed for many years prior to its IPO in 2017. The stock looks very attractive trading at a third of its recent peak in November 2021. The company’s database software is growing rapidly and taking part in a global market of more than $50 billion.

Clear Secure is using its innovative biometric technology to improve the way consumers pass through airport security. We believe its subscription-based model, which contributes to better airport performance, should prove more resilient to travel trends during a recession with more company-specific growth drivers in the years to come, including new avenues to monetize its unique identification systems. We cut our position in Expedia and transferred that income to Clear Secure.

We continue to trim some of the consumer exposed areas of the strategy with the sale of website tools., gaming software developer Unity Software and theme park operator Six Flags Entertainment and a portion of discount retailer Burlington Stores. Meanwhile, we added to the software names Snowflake, which is rapidly gaining share in cloud data management, and Everbridge, an improved growth story under new management.

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It seems like every day another headline pops up detailing a historic move or level in some key macro or industry stat. All of this translates in the short term into more rate hikes, more pain ahead and more patience required before investors feel comfortable buying risky assets. As a result, we believe this is an excellent time to raise high-conviction stocks whose businesses are likely to benefit from company-specific drivers and whose valuations have already compressed in a turbulent stock market.

We are at a point in the business cycle characterized by shrinking money supply, quantitative tightening, and a reversal of risk taking. The US economy is holding up better than other regions and US multinationals, which earn a large percentage of sales abroad, will come under pressure from both lower international consumption and higher earnings conversion. weak foreign currency. Given that 40% of S&P 500 Index earnings come from international economies, we believe there is a strong case for owning small-cap, secular-growth domestic companies.

The Strategy’s relative performance was better in the third quarter than at the beginning of the year, but we have a lot more ground to make up after a difficult first half. We believe the portfolio is well positioned for short-term volatility while keeping in mind the long-term goal of outperformance over a full market cycle.

Portfolio Highlights

The ClearBridge Select strategy outperformed its benchmark during the third quarter. In absolute terms, the Strategy registered losses in eight of the 10 sectors in which it was invested (out of a total of 11 sectors). The main contributor was the consumer discretionary sector, while the main detractors were the IT and healthcare sectors.

Relative to the benchmark, overall sector allocation added to performance, but was partially offset by negative stock selection effects. In particular, an underweight in the communication services sector, the Strategy’s cash position, as well as stock selection in the consumer discretionary, industrials and consumer staples sectors boosted returns. Conversely, stock selection in the health care and financials sectors and an overweight in real estate detracted from performance.

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In individual stocks, the main contributors were positions in WillScot Mobile Mini, MercadoLibre, Crocs, ON Semiconductor and Tesla. The main detractors were Syneos Health, ServiceNow, SBA Communications, Match Group and Clarivate (convertible preferred shares).

Past performance is not a guarantee of future results. Copyright © 2022 ClearBridge Investments. All opinions and data included in this commentary are as of the date of publication and are subject to change. The opinions and views expressed in this document are those of the author and may differ from those of other portfolio managers or the company as a whole, and are not intended as a forecast of future events, a guarantee of future results, or advice. investment. This information should not be used as the sole basis for making any investment decision. Statistics have been obtained from sources believed to be reliable, but the accuracy or completeness of this information cannot be guaranteed. Neither ClearBridge Investments, LLC nor its information providers are responsible for any damages or losses arising from the use of this information.

Performance Source: Internal. Reference source: Russell Investments. Frank Russell Company (“Russell”) is the source and owner of the trademarks, service marks and copyrights relating to the Russell Indices. Russell® is a trademark of the Frank Russell Company. Neither Russell nor its licensors accept any responsibility for errors or omissions in the Russell Indices and/or Russell Ratings or the underlying data and neither party may rely on the Russell Indices and/or Russell Ratings and/or the underlying data contained therein. in this communication. No other distribution of Russell Data is permitted without the express written consent of Russell. Russell does not promote, sponsor or endorse the content of this communication.

Performance Source: Internal. Reference source: Standard & Poor’s.

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Publisher’s note: The bullet points in this article were chosen by the editors of Seeking Alpha.

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