London - Eaton Vance and its affiliates seek to actively capitalize on opportunities presented by volatile investor sentiment, while ensuring that the portfolio risk profile remains appropriate for the specific strategy. The following are excerpts from a recent conversation with Aidan Farrell, Vice President, Director of Global Small Cap, Eaton Vance Global Advisors Limited.
What we are seeing: Capital markets continue to gyrate wildly with extreme daily price movements. We see this volatility persisting indefinitely as both the spread of the virus — and ensuing policy responses to stimulate and maintain functioning economies around the world — are further assessed by investors. In the meantime, investors lack clarity on business fundamentals as many companies have announced they cannot provide reasonable guidance on revenues or earnings this year due to COVID-19 uncertainties. In addition, we see companies without rock-solid balance sheets taking swift action to protect their cash/liquidity positions by drawing down credit lines, canceling dividend payments, reducing capital expenditures and cutting costs.
What we are doing: We see two imperative tasks at hand:
- Protecting portfolios from permanent loss of capital as best we can, and
- Identifying the companies we believe will survive and thrive as the world emerges from the current crisis.
To that end, we remain laser-focused on reviewing our portfolio positions. We are speaking directly with company management teams and reviewing balance sheets and liquidity of companies across our investment universe. We are examining how companies might fare under various economic scenarios, including a prolonged period without any meaningful sales. At the same time, we are assessing what companies look attractive over a multi-year horizon. As small-cap investors, we are somewhat uniquely positioned in that our opportunity set has widened on the heels of precipitous stock-price declines (i.e., shrinking market capitalizations). We are looking for high-quality businesses with the ability to increase market share in their respective markets/niches, whereas players with weaker balance sheets may flail should this environment persist. Current price levels do not reflect what we believe to be the true medium-to-long-term franchise value of these higher-quality, 'compounder' type businesses.
What we are watching: We continue to monitor the spread of the coronavirus in different parts of the world, as we believe investors will be most sensitive to a rise or fall in the number of cases. We also remain steadfast in our approach towards portfolio construction, holding solid, quality companies, remaining diversified across our holdings, while also limiting regional and sector risk. We have followed this strategy in the past and it has helped to limit exposure to potential exogenous shocks, such as the coronavirus pandemic. When combined with deep company analysis, this approach can be a powerful tool for protecting capital at risk.
Bottom line: While we have said this before, we would be remiss not to mention it again. During periods of market stress, we like to anchor to the investment philosophy embraced across our small-cap franchise, as it often is most powerful during volatile periods. We remain true to our practice of analyzing the long-term business prospects of our investments through the lenses of quality, valuation and time (QVT). Q - The quality of the companies we invest in leaves us well positioned to withstand volatile equity markets. V - Sharp downward price movements create short-term pain, but also open attractive valuation opportunities over a longer-term investment horizon. T - It's an interesting time to re-visit some quality companies on our wish list that have previously been considered too expensive.