Brown Advisory Ethical Selection Q3 2023 commentary
| Instruments traded | Stocks |
| Asset classes | U.S. Stocks |
| Investment style | Fundamental analysis focused on ethical, social and governance (ESG) |
| Quarterly return | -1.31% (net of fees) |
Market overview
The Brown Advisory Ethical Selection strategy leverages Brown Advisory’s proprietary fundamental and environmental, social and governance (ESG) research to pursue attractive returns that align with our investors’ values. The twin aims of our portfolio construction process are to exclude companies that have controversial business involvement and poor ESG risk management, and to isolate stock selection as a key driver of performance relative to the market. We conduct fundamental business analysis and ESG research and combine this with objective portfolio analysis. The result is a portfolio that seeks outperformance relative to our benchmark, while staying within the confines of a socially responsible investment universe.
During the third quarter of 2023, the strategy outperformed its benchmark, the Russell 3000 Index, by roughly 230bps, led by our holdings in Financials and Industrials. We outperformed despite being underweight in the energy sector, which was by far the strongest sector in the benchmark during a challenging period.
Stocks broadly peaked in late July, driven by healthy earnings and positive economic data, despite the Fed’s aggressive inflation stance. Later in the quarter, the 10-year U.S. Treasury yield rapidly climbed to its highest level since 2007 (and by nearly a full percentage point between July and early October), which caused the market to retreat from its highs as the quarter progressed.
As cooler temperatures prevail later this year, so may a period of negative earnings estimate revisions. It’s very difficult to predict whether a hard-landing recession is coming our way or a gentler, kinder version. We are seeing personal savings levels in decline, credit card balances at record levels, credit card interest rates approaching an almost unfathomable 25%, mortgage rates approaching 8%, and both oil prices and the U.S. dollar near their highs for the year. We avoid trying to make economic predictions, but it’s hard to imagine the U.S. stock market generating 13% earnings growth in 2024. And yet, that is what consensus estimates assume currently.
A period of declining corporate earnings revisions is never “welcomed,” but it may be needed to start a new economic cycle, and to convince the Fed to adopt more dovish policies. At that point, investors may finally venture outside the mega-cap tech names that have dominated equity returns this year. We will strive to maintain a portfolio of investments that carry a very limited risk of permanent loss of capital as well as the potential for strong upside into the next economic cycle.
There are always more unknowns than knowns when attempting to predict macro factors, and the current environment remains a bit of a conundrum, given ongoing strength in the labour market. Through it all, our multi-year investment horizon and quality business bias remain unchanged as we navigate these uncertain waters.
Portfolio performance (net of fees)
| July | 4.68% |
| August | -0.81% |
| September | -4.96% |
| Since inception (March 2019) | 53.42% |
Third Quarter Top Five Contributors to Return - 2023
- Alphabet (GOOGL) had a strong quarter after releasing several GenAI products, including Bard, its answer to ChatGPT. The market is now realiing that Google is a leader in AI that had some early marketing mistakes. Recent cloud checks have been positive on Google's Cloud AI products.
- KKR (KKR) performed well as the company reported a strong 2Q23, with fundraising a particular bright spot.
- Intuit (INTU) - After a weaker 3Q23 report, stemming from fewer IRS returns driving slower TurboTax growth, Intuit reported strong 4Q23 results. Intuit continues to outperform significantly in their SMB segment, while driving margin expansion, and momentum appears to be sustained as the company issued FY24 guidance.
- Carrier Global Corp’s (CARR) strong performance was driven by a better-than-feared Q2, as the company continues to "perform while transforming". There is line of sight into the portfolio transformation timing, and the business continues to perform well fundamentally.
- Assurant (AIZ) posted a solid quarter, driven by attractive gains within housing. Investors were also very pleased to hear the company had recommenced its buyback.
Third Quarter Bottom Five Contributors to Return – 2023
- Dynatrace (DT) reported in-line to slightly better results during the period but didn't increase their growth outlook for FY24. While this disappointed investors, we see no change to our long-term thesis about the company.
- Nomad Foods (NOMD) continues to struggle with share losses to private label as price gaps have widened after private label did not take price to the same extent as Nomad to offset inflation. Nomad is increasing promotion and advertising in order to close price gaps and increase market share, though the street remains skeptical of the success of these actions heading into the important holiday period.
- Marvell Technology (MRVL) pulled back ~10% in Q3 after a strong first half as cyclical recovery pushed out in a couple of key end-markets (storage, fibre channel) and other end-markets (industrial, enterprise networking) slowed.
- American Tower Corporation (AMT) was down in Q3 along with the rest of the public tower stocks, as investors became concerned about higher-for-longer interest rates and a slowing 5G build in the US.
- Microsoft Corporation (MSFT) reported strong results to finish its fiscal year, but shares sold off as management sought to caution investors that the financial opportunity for GenAI will take a number of years to develop.
Changes to the portfolio throughout the quarter
QTD Additions/Deletions
The portfolio took advantage of some temporary weakness to initiate a position in Apple. Schwab was eliminated from the portfolio, given concerns around their balance sheet positioning and earnings trajectory.