Waverton European Funds Q3 2026

Competition for Capital

“The most common cause of low prices is pessimism, sometimes pervasive, sometimes specific to a company or industry. We want to do business in such an environment, not because we like pessimism but because we like the prices it produces.”[1]

[1] Warren Buffett, 1990 Chairman’s Letter

When you open a bottle of water in Europe you now find that the lid is attached. Indeed, this is true for all plastic containers.  Notwithstanding the risk of spilling the contents of the bottle down your front, this remains a subtle reminder of the more regulated world those under the auspices of Brussels operate in versus those in America.  A personal favourite remains the debacle over incandescent lightbulbs where a number of years ago an enterprising German engineer imported them as “heatballs” in an attempt to get around the new legislation banning them in favour of energy efficient LEDs.  His attempt was short lived.

The point is European investors have no shortage of reasons to be cautious. Regulation is one, (Meta can’t even offer its AI assistant in Europe due to privacy concerns), but there are plenty of others; and of most concern is the nasty cocktail of high energy costs and low economic growth.  Especially when compared to our American cousins.

Rising yields and uncertainty have increased the cost of capital 30-year government bond benchmark yields (%)

Source: Bloomberg, W1M

It is against this backdrop that bond yields have started to rise significantly. Not only due to energy induced inflationary risks, but also a simple law in finance of supply and demand.  There is now genuine competition for capital.  The AI boom needs financing and paying for, governments need to pay for their social security and defence programmes, and ailing infrastructure needs replacing to meet the challenges of the 21st century.  Increasing demands, and only so much liquidity to go around. Of course, governments can create liquidity, but inflation meets you on the other side.

Operating margin

Source: Bloomberg, W1M

As Capital Cycle investors, we spend an inordinate amount of time focusing on supply relative to demand in our companies and their industries.  We remain convicted that whilst there will be a never-ending supply of government debt, a well run and managed company with the emerging quality attributes we look for is much harder to produce within the bowels of a Central Bank.

In fact, due to competition for capital rising, we believe a Capital Cycle approach is of increasing importance as funding cycles often move from initial euphoria, to mania and then depression before settling down.

One area we have increasingly been allocating in is Consumer Staples.  These are unloved businesses now trading at close to trough multiples (mostly between 12-16x PE), despite having a lot going for them.

Barriers to entry are large given the distribution you need, negotiating power required with the supermarkets and the prohibitive replacement costs of manufacturing operations in current nominal terms.  We have been impressed in the number that have managed to maintain margins over the past 7 years, managing the cumulative 30% inflation [2] that we have experienced effectively.

[2] US CPI index from September 2019 to June 2026

This has been achieved not simply via massive price increases but from clever revenue management techniques like pack sizing, operational improvements, cost saving programmes and favourable mix.

The broader staples universe is unfairly categorized as an ex growth consumer dependent industry that has no pricing power, but we believe from the margins shown above this is not totally true.  The industry does not need large price rises to keep profitability up if it right sizes its cost base.  Furthermore, if it moves from capital expenditures to capital returns (buybacks) it can also take advantage of the low valuations on offer.

Take beer, which is not an obvious growth industry but is nicely consolidated.  In fact, the three largest European brewers now account for roughly 40% of the global beer revenue pool and around 50% of the profit pool.[3] Scale supports procurement, distribution and marketing, and helps to some degree ward of the declining volumes in several developed markets where younger consumers are drinking less, and brand loyalty is not universal.  These are real risks, but we believe weak demand does not automatically mean weak shareholder returns.

[3] Source: Bernstein

“We believe weak demand does not automatically mean weak shareholder returns.”

There is also a self-help opportunity in many staples businesses, which in many ways are mongrels.  Heineken entered its current simplification programme with 47 enterprise resource planning (ERP) systems and has reduced that number to about 38.[4]  Further consolidation should improve the visibility of critical operating data and make it easier to compare country performance against best practice.  This sounds prosaic, but in a decentralised global business, better information and accountability can support meaningful productivity gains.

[4] Source: Bernstein

Portfolio simplification can also create value too.  Unilever has shrunk from 5 business segments to 3, spinning off non-core assets and focusing on the decent market positions in household, personal care and beauty products.  Carlsberg has filed an IPO prospectus for its highly rated Indian business, and whether or not a transaction proceeds on attractive terms, greater transparency around valuable regional assets can sharpen capital allocation and expose value that a larger group may miss.  Pernod Ricard, the European whiskey behemoth has got a taste for this too, and is also looking at doing the same thing.  (Carlsberg is owned in the European Capital Growth Fund and Pernod Ricard in Dividend Growth).

There is a very large (digital) elephant in the room in the investing world at the moment.  We do not know the outcome of the AI trade, but our focus on supply and competition has led us to our current overweight in staples.  A key for all our investment theses are “triggers” (e.g. industry consolidation or a change in capital allocation) that we believe will unlock value.  Ours is not an “avoid tech” trade but a bottom-up portfolio derived from our process.  We expect our positions to perform in their own right as earnings growth develops, but given the extreme positioning in the market currently are also highly cognizant of the potential extra kicker should any sector rotation occur too.

As ever, we would like to continue to thank all our investors for their ongoing support.  Please get in touch with us if we can be of assistance.

Glossary:

Capital Cycle: An investment approach that focuses on how changes in supply, demand and competition can influence company profitability and investment returns.

Consumer staples: Companies that produce everyday essential goods, such as food, beverages, household products and personal care items.

Bond yield: The return an investor receives from holding a bond, usually expressed as a percentage of its value.

Operating margin: A measure of profitability showing how much revenue remains after operating costs have been deducted.

Share buyback: When a company repurchases its own shares, often as a way of returning capital to shareholders.

Price-to-Earnings (P/E) ratio: A valuation measure comparing a company's share price to its earnings, often used to assess whether a stock appears expensive or inexpensive.

Initial Public Offering (IPO): The process by which a private company offers shares to the public and becomes listed on a stock exchange.