Hello and welcome to the Download. I'm your host, Dave Richardson, and it's always a treat when we get our old friend David Lambert on from London in the UK. David, how are you doing?

I'm very good. I'm not sure about the old, but yeah, I'm doing well. But thanks for having me.

Well, I meant it in the sense of old friend. I mean, I'm old, you're very young and, and wow, just what a career you have already. We can’t even talk about that because we're going to be projecting European markets. But if I was going to invest in anything in Europe, I'd invest in your career. You're a star.

Thank you for saying that. I'm not so sure. But it's interesting because you see how the markets move all over the place. But when I first joined 25 years ago, officially, the FTSE in the UK was around 7000, and as of now we're not far above 7000. So you get all these ups and downs and you see certain things go sideways over a long period of time. Other markets have gone up quite considerably, but it's amazing over that great period of time that you can have huge swings. And we're seeing that in the markets now in terms of markets getting back to levels that we saw around in the 2000 level. European, for instance. And I'm sort of stealing your thunder here, Dave, because I was just looking at some charts earlier, and the Euro Stoxx 50 is at a 20-year plus highs. We're not far off those 2000 highs. So although places like Europe have lagged the US considerably, they have actually done well in their own right. I was actually looking at charts as well, going back 20 years, and the US has compounded around 10.5% and outperformed everything else. But then you look at Europe, it's actually compounded over 8% per annum over the last 20 years. So it's not as if Europe's been a bad place to invest, but on a relative basis, the US has just been absolutely stellar — the US equity market. Which I think is a point that people miss; they think about Europe being sort of lagging, whereas it is, but it's not doing badly in its own right.

Well, that's really where I wanted to go today, David. This was designed to be a 2024 European preview edition of the podcast. But we're in mid-February, so as I said jokingly to you before we started, you're going to be remarkably accurate in terms of your view of the first six weeks of this year, and then we'll look forward. But I think the ultimate question around Europe, as you just suggested, is not how Europe will do on its own, but at what point does Europe start to have a period where it performs better than some of the other major markets? And I think for Canadian investors, what they would typically look at in terms of Europe and Asia and other parts of the world, they would look at it in comparison to the US and Canada, and it certainly lagged behind the US. So is this the period now where we finally start to see Europe take over, or is it still, again, good performance but not as good? And then what are the pieces you need to see Europe take over as one of the leaders in global equities?

Well, I think ultimately, probably what we need to see is more attention to valuation. Because actually, from an earnings perspective, Europe had lagged the US, for instance, from the financial crisis in 2008, but then started to catch up quite meaningfully mid 2022 and 2023. And actually, back end of 2022-2023, we saw the rest of the world start to outperform the US by quite a margin. Since then, it's given some of that back. So when we look at the earnings growth within Europe, where expectations have gone down to quite low level. So this year, the market, from a nominal perspective, the street is looking for only 5% growth, which is not huge, and I think we can beat that. But we're basing this on valuations in the UK at less than 11 times earnings; in Europe, 13 times earnings; relative to the US, which is obviously a lot higher. So from an earnings perspective, we're relatively constructive. Now, can we have the earnings growth that we're seeing being skewed by the Mag Seven? I don't know. I don't think so. But we can see decent global earnings growth from a lot of these big global corporates within Europe but starting from lower valuation. So all you need to see is a small re-rating on top of that earnings growth to get some meaningful total shareholder returns. So is it exactly the right time? I don't know. But what I would say to any investor is that clearly what we're seeing within the US market per se, in terms of the narrowness of the leadership there, is that we do need some diversification within portfolios, and to access that diversification, we need to look maybe other places than the US. Clearly, globally, Japan still looks really interesting. Europe looks interesting from a valuation perspective, but actually the earnings growth as well. So that diversification is key. Whether it's now's the time that we can outperform the US, I don't know. And a lot depends on how that narrow US market trends from here.

Yeah, and that diversification argument is always valid. But one of the things we always talk about, at least I talk about with investors, is the whole idea of buying when something is relatively undervalued. And that's what you're highlighting. I'll give you our analogy here in Canada, David. You wouldn't understand a minus-40-degree day, but what I would say is that in Canada, the best time to buy winter clothing is in April or May. The stores are clearing out the winter jackets from the previous year, so maybe even March. But you get the deep discounts in April. You want to buy your winter clothing then. You're going to go into the summer. It gets quite hot here. We'll get a 40-degree day here in Toronto. I don't need my winter jacket then. But believe me, come November, December, January of the following year, I'm going to see the value and realize the full value. And I got the jacket at 80% off. Kind of akin to you: don't buy the umbrella on the day it's raining, buy it after a couple of sunny days. Maybe you get the umbrella on a discount over there in London. But the idea that you're able to get that quality. I know this is a big thing with you and the way you like to manage money, but these are world-leading companies at a relatively inexpensive valuation, plus that diversification benefit is kind of the European story for Canadian investors, is it not?

That's absolutely right, Dave. And also, we need to bear in mind what we're doing here is active fund management. So this isn't a passive vehicle. So we're focusing on those businesses that are the best, that are generating superior earnings growth, that have got the ability to allocate capital globally wherever they see the best returns and the highest growth rates. So we're not just following the whole market up. So when we look at broad indices or broad European growth numbers, that's not what our companies are experiencing, because we're investing in companies that have experiences across the globe in high growth, high return regions. So again, when you see these headlines about Europe and European indices — and I talked about a few of them a minute ago — actually, what we're investing in is a very particular subset of that where we can take advantage and hopefully generate much higher returns than the broader market.

Exactly. And so if you're looking at areas of Europe right now that you're excited about. Just like in North America, you've got companies across the full spectrum, operating in all different types of businesses. But are there any areas where Europe provides something particularly exciting to look at right now? Or are there any areas that you're really excited about within European markets for this year?

Yeah, one thing I would say is that the way the markets have been chopping and changing over the last 18 months, I think it makes us prudent to be more balanced in the portfolios. So there's defensive plays, cyclical plays. We budget everything to make sure we're not overly exposed to too many styles that we don't want to be exposed to. But healthcare is really interesting within Europe. And there's two aspects of healthcare. Obviously, we've got the Novo Nordisk, the anti-obesity drug that the whole world knows about. And obviously the stock price and the earnings growth obviously know about this as well, because it's been a fantastic investment and is the largest stock within our European and our international portfolios. But actually, within healthcare as well. The other side of healthcare is some quality franchises that generate high returns that have been derated quite meaningfully over a long period of time. So we've got some more global franchises that are on 12-13 times earnings — and not some 20-plus like Novo’s — but actually generating decent earnings growth. So there's some really interesting pockets of health care that I think is interesting. The other area that's been interesting — and that's been derated quite significantly over the second half of the year on China concerns — is luxury. I know we always talk about Europe being the poster child for global luxury, and it is, and has the best businesses. But these stocks got sold off back end of last year as people worried about the impact of China and what that would do to the revenues generated there. But actually, what we've seen in the numbers earlier on this year is that actually those best companies, those quality franchises, have actually still generated good earnings growth despite the headwinds they're seeing, still maintained their margin, still maintained their pricing power. Hermès in Europe has just posted the most ridiculous set of numbers in terms of how much pricing they're putting through. And we do own a little bit of that, although it's fairly illiquid. So luxury is an area that's actually derated second half of 2023 and we think, for a long term, investment is still a great place to be, and we're seeing that coming through in the numbers. And again, people getting overly concerned about numbers when they needn't be on these quality global franchises.

Well, that's where I wanted to go to next — and I'm glad you brought up Novo Nordisk — because there's two sides to some old expressions, and one is: I'd rather be lucky than good. And then the other side of that is: you make your own luck. And I know that you've been a huge proponent of Novo Nordisk for a number of years. You've held it in the portfolio. These antidiabetic drugs that ultimately end up being weight loss drugs or being used in that way, or have the potential to grow exponentially that way, as people use them for things besides what they were originally viewed to be used for. You held the stock years ago because it was fundamental in terms of the way you value companies. That's what got you in, along with the long-term potential. And then it leads to this. So why don't you walk us through Novo Nordisk several years ago? What attracted you to the company? Because that shows your fundamental approach to investing. And then how it's turned into this even-better-than-expected investment because of how things have turned out.

Yeah, well, in a nutshell, we've held this for 15 years straight. Ultimately, what we had was an oligopolistic franchise. Effectively, only two players globally were working in the diabetes. Now, we'd done lots of work in and around human health, metabolic syndrome, but we could see that diabetes was the first global non-communicably disease pandemic. Being an oligopoly, earning high returns with very high barriers to entry, with an underlying growth profile, as a consequence, unfortunately, in the proliferation of diabetes, you could see how growth and returns — which is what you need to compound shareholder return — were going to grow over time, considerably. That was great, and that was the original thesis. But even if you go back to the 2007 report and accounts of Novo Nordisk, they talk back then about the chance and the opportunity in obesity as they started to move away from general insulin to these GLP-1, which is what Ozempic and Wegovy are, the anti-obesity drugs. So ultimately, what you've got is these high-return businesses that can generate a lot of cash, reinvest themselves into the business to make themselves better. So effectively widen that mode. Now, as it turns out, what they stumbled upon in GLP-1 was hitting the nub of metabolic syndrome. And metabolic syndrome is effectively what coalesces and brings together things like diabetes, heart disease, obesity, hypertension, Alzheimer, we believe, myopia within the eyes. We all think these are probably generally connected. Now, I ultimately think these GLP-1 will be used for other therapeutics down the line, and obesity is just another one on from diabetes. But you can see how we've stayed invested as a company like this has got a very good competitive position, exposed itself to a growing trend, and then managed to leverage itself in terms of other therapeutic areas. And ultimately, other people will try and come in, and it will turn from an injectable to a pill, a once-daily pill, a once-weekly pill. These guys know how to introduce drugs and the methodology of getting them into the human system, and to make the most of this barrier and moat around their business. So that's how we got there, and how it's still transpiring. Now, the issue for us now is that we have a business with superb earnings growth, but the valuation is a lot higher than it was. So we always have to be comfortable with what we're assuming in terms of our earnings growth, our returns outlook, to make sure we have that margin of safety, because you don't want to get caught in a great company that's at the wrong valuation. So that's always part of how we bring it back. Now, as it stands, we still like it, and we can still justify the valuation, but we're always attentive to those things. Even 15 years on, you've got to keep testing. And just because it's been there 15 years doesn't mean you have to be there tomorrow. We have to be pragmatic in these portfolio holdings.

And I remember listening to you many, many years ago around this approach and the idea that these companies are so focused on reinvesting and innovating. We say this every time we have you on. The whole idea that innovation is only technology, a technology stock with a new computer chip or something. But innovation is everywhere, in every business. So whether you're a Hermès and you can figure out how to get somebody to buy a purse for $50,000, or you're a pharmaceutical company that solves one riddle by working diligently on solving a different riddle, that continuous investment and innovation ultimately pays off. And that's a hallmark of some of these great European companies that you focus on.

Yeah, and that's it. And ultimately, if you're in a position to be a business where you can generate those levels of return — i.e. you're not just earning your cost of capital — you have that ability to invest back in yourself. If we take Volkswagen — and auto manufacturers is a bit of a difficult business to be in — but you can understand to a degree why these companies were trying to cut corners because it was a tough business and it is a tough business. So they don't have the opportunity to innovate. They're always running to stand still. So if you can find these businesses that can innovate, then that's half the battle. Now, clearly, you do have to keep tabs and the capital allocation is sensible and not just throwing spaghetti at the wall and seeing what sticks, but that's half the battle in terms of finding these winners for the next 5, 10, 15 or 20 years.

Is that the going out and meeting with these companies and having those relationships? I wouldn't say relationships — you got to keep it at arm's length, obviously. But having a constant dialog and understanding what they're doing and why they're doing it.

Exactly. That's it. I mean, capital allocation is key and holding management to account over a table in terms of things they told you last year, six months ago, or what they've said previously and making sure they're doing what they're saying, and does it align with the way we think a business should be run? Who are we to tell them how to run a business? But we can sort of say, this is the things we look for, this is what we like to see. And absolutely, because you can keep testing your assumptions and that's what it's all about. Testing our assumptions. Are they doing what they said and retesting to make sure that we're happy with the investment case over a long period of time?

Now, again, you're focused on very much company specific versus regional specific. However, the macro backdrop, the macroeconomic backdrop for Europe does look a little bit better than the US and Canada with respect to inflation. That you're a little bit ahead of us in terms of inflation. You've come through a bit of a slowdown, in advance of where we're slowing down, and thus interest rates could drop. And we just saw this morning, just before we started taping, the inflation report, the CPI report out of the US, which was a little bit hotter than expected, or maybe quite a bit hotter than expected. And you've seen what's happened with yields and the market is selling off a little bit today. It's had a nice run, so it's not all that surprising. But Europe is a little bit ahead of the rest of the world in that cycle. And even though again, you're not looking at those macro trends, but still those companies can benefit from that background environment, can they not?

Absolutely, Dave, absolutely. I mean, yeah, we are seeing economic surprises turning upwards slightly. I would say the inflation data can remain choppy for a period of time. We'll get some good readings, some poor readings. But yeah, we've done a good job. Then in the UK, the labor market came in a little bit hotter today. But isn’t that a good thing, because of the cost-of-living crisis? So we are juggling all these things. But actually, interestingly, in the most recent earnings season, we see sentiment improving. Anecdotally, if we can track on the transcripts how management talk about slowdowns or improvements — and we can do that sort of thing with AI now — we are seeing a tick-up in sentiment as well at the corporate level. You're right, we're seeing early signs of leading indicators turning, economic surprises picking up, people becoming less concerned. So yeah, spring is coming, and you can see a few twigs and some blossoms coming, and all this with the background of low valuation. So we're moderately hopeful, particularly given where we are on the expectations for earnings. I think we're reasonably well anchored. The market isn't too hot. Sometimes the market starts a year too high. We're quietly optimistic in terms of the way things are turning for Europe. But we want to see more concrete data coming through and we will listen to the corporates, as you say, then, mostly to see what they're seeing on the ground.

Well, you've got me excited about Europe. Maybe I'll hop on a plane in a couple of weeks and come over and visit you. I don't know if I had that trip planned already, but now I've got to get over there. I'm looking forward to seeing you and everybody over in London. And since we've both done such a good job without any chemical help — keeping ourselves in better shape; we're a little leaner than we used to be — maybe we can go and enjoy one of those sausage rolls at the Ginger Pig and a grainy beverage.

That sounds fantastic. I look forward to it, Dave.

Excellent. Thanks, David. Always great to catch up and we'll see you soon.

Cheers. Take care.