Management’s Discussion of
Fund Performance
MARKET REVIEW
The period since October 31, 2021 has been weak for equity markets globally. Inflation was already high at the start of the period; however, at the time, central banks worldwide were largely sanguine in their view that the phenomenon would be a transitory effect of the easing of COVID-19 restrictions, though many others dissented. By December the view had begun to change and central banks worldwide embarked on a series of interest rate rises which have been gaining pace recently, which has depressed equities. Then in February, conflict broke out between Russia and Ukraine, upsetting the globalist view which businesses have adopted since the fall of the Iron Curtain after 1989, sending further shockwaves through the markets and depressing (most) valuations further.
The MSCI EAFE Index returned -23.00% (USD terms) over the 12-month period ended October 31, 2021. On a regional basis, performance was not highly differentiated with developed Asian ex-Japan markets (Australia, Hong Kong, Singapore and New Zealand), which constituted 12.26% of the Index on average over the period, the best performing, returning -20.95% (USD terms). European markets returned -22.88% (USD terms) and averaged 64.43% of the MSCI EAFE (ND) Index (the “Index”) over the period and Japan lagged slightly, returning -24.67% (USD terms) with an average weight of 22.56% of the Index.
In such a market one would expect defensive sectors, which offer comparatively stable dividend yields, earnings and cash flows, regardless of external events to perform better than cyclical and highly leveraged growth stocks, and that has proved to be the case, with sectors such as Consumer Staples, Health Care and Utilities all outperforming the benchmark, though all fell. However, Energy has been the stand out performer over the period, as already high oil and gas prices spiked following the imposition of sanctions against Russia by most developed markets in the wake of its invasion of Ukraine. However, Information Technology and Consumer Discretionary, the sectors which had led the market for several years, have fallen sharply, as has the Real Estate sector which is sensitive to interest rates.
PERFORMANCE
Harbor International Fund returned -24.19% (Retirement Class), -24.25% (Institutional Class), -24.46% (Administrative Class), and -24.53% (Investor Class) in the year ended October 31, 2022, while the Index returned -23.00%. Regionally, underperformance was largely attributable to stock selection in Europe. Performance was strong in Japan, and neutral in Pacific ex-Japan. The modest off-benchmark allocation to Emerging Markets was also a slight drag on performance. Looking to sectors, stock selection was positive in Financials and Information Technology, but weak in Health Care, Consumer Discretionary, Consumer Staples and Communication Services.
Energy names are a major feature of key contributors to performance, both positive and negative, over the period as the sector was the best performing in the index by a very large margin. As a result, the positions in Equinor of Norway and the UK’s BP contributed strongly. However, a lack of exposure to Shell and France’s TotalEnergies, weighed on returns and the sector did see some idiosyncratic stories where individual companies have not performed well. For example, shares in Saipem, the Italian oil services firm, fell substantially following a shock earnings announcement and profit warning early in the year. Under Italian law, the company was compelled to shore up its capital position and the share price plunged following the announcement of a €2 billion capital raise which was highly dilutive to existing holders.
Elsewhere, HelloFresh, the Germany-listed meal kit delivery service, has been volatile year-to-date. Although growth is expected to remain strong, an increase in investment into automated customer fulfilment centers and additional distribution capacity will put short-term pressure on margins, and the stock has de-rated alongside “growth” stocks this year. A lack of exposure to some Health Care names, notably Switzerland’s Novartis and the UK’s AstraZeneca, which have proved comparatively resilient in a falling market until recently also impacted returns. On the other hand, the position in Novo Nordisk, the Danish firm with a focus on diabetes
