Outlook Remains Favorable for Global Essential Services
As we enter the final month of the second quarter, U.S. economic data has been somewhat mixed but is still showing signs of modest improvement. In contrast, China’s economic growth has slowed, and Europe still faces multiple challenges. Given this global economic environment, we do not expect central banks to change their stance, targeting low interest rate levels through the end of the year.
Despite global market uncertainty, essential services companies continue to offer attractive dividend opportunity. In volatile risk-off periods, the defensive attributes of these types of companies have historically outpaced the broader markets. While they may lag the broader equity market during risk-on rallies, performance during those periods has still been positive.
In our management of the Virtus Global Dividend Fund, here is our view of the four essential services sectors in which the Fund invests:
Communications – We remain underweight this sector, as fundamentals for European integrated telecommunications companies continue to be difficult. Unfavorable operating trends led a number of these companies to announce dividend cuts last year. Despite what appears to be attractive valuations, we remain cautious on European telecoms, given our desire for sustainable, growing dividends. In the U.S., telecom companies have somewhat more stable fundamentals with good cash flow generation supporting attractive dividends. However, valuations are less compelling as telecom stocks outperformed the broader market in 2012 and posted solid performance through the first quarter of 2013. We continue to overweight towers and satellite companies due to their attractive revenue growth profiles and high margins.
Utilities – Our underweight in utilities is primarily due to continued regulatory uncertainty in Europe, as well as political risk for several major European utilities, notably in Spain, Germany, and Italy. In the U.S. we are overweight regulated utilities, as we believe that state regulation generally remains favorable. We are underweight integrated utilities that have significant power price exposure. However, given a prolonged period of underperformance and more recent positive data points on power prices, we are less negative on the integrated names as a group.
Energy – We are positive on the energy sector as we see a continuation of attractive earnings and dividend growth. Our bias toward fee-based business models leads to a focus on holdings with limited commodity exposure, resulting in greater sustainable income and growth prospects. We expect that increasing shale oil and gas production will continue to underpin energy sector performance going forward.
Transportation – We remain overweight this sector; however, recent performance has been weak due to a faltering European economy, lowered growth expectations for our second-largest transportation holding, and an announced acquisition by one of our toll road companies. Toll traffic has been weak in Spain and Italy, two countries in which we have material holdings. Airport traffic has been less affected due to a lower domestic profile as international traffic is a significant driver of revenues for most of the airport operators. We are still favorable on the sector due to attractive assets, long-term contracts, and inflation protection attributes. Additionally, the majority of our transportation holdings have significant assets and operations outside of Europe.
IMPORTANT RISK CONSIDERATIONS:
The market price of equity securities may be affected by financial market, industry, or issuer-specific events. Focus on a particular style or on small or medium-sized companies may enhance that risk. Investing internationally involves additional risks such as currency, political, accounting, economic, and market risk. A fund that focuses its investments in infrastructure-related companies will be more sensitive to conditions affecting their business or operations. A fund that focuses its investments in a particular industry or sector will be more sensitive to conditions that affect that industry or sector than a non-concentrated fund.
Investors should carefully consider the investment objectives, risks, charges, and expenses of any Virtus Mutual Fund before investing. The prospectus and summary prospectus contain this and other information about the Fund. Please contact your financial representative, call 1-800-243-4361, or visit www.virtus.com to obtain a current prospectus and/or summary prospectus. You should read the prospectus and/or summary prospectus carefully before you invest or send money.
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