Buy & Hold Compared to Other Value Managers: The Six Differences

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Buy & Hold frente a otras gestoras value: las seis diferencias
CC-BY-SA-2.0, FlickrRafael Valera and Julián Pascual, courtesy photo. Buy & Hold Compared to Other Value Managers: The Six Differences

In recent years, various management projects based on value investing have emerged in Spain. However, in a meeting with journalists this morning, Rafael Valera, CEO of Buy & Hold, pointed out the six points that distinguish their entity from the competition.

Consequently, he spoke of the application of that investment philosophy, not just to equities, but also to fixed income; the fact of being open to any investor (from 10 Euros); their low commissions (even in their class A funds they refund their commission if the investor loses money); its profitability objectives (unlike other managers seeking 15% -20%, the idea is to beat the Eurostoxx index by 2-3 points); the refusal to launch any other products beyond their three funds (fixed income, flexible mixed, and European equities, strategies that are also reflected in their 9 sicavs and in their pension fund), with the idea of channeling greater volumes of investment , as other management companies are doing – although Valera admits that when they reach levels they cannot manage, they will close the funds; and the firm commitment not to charge the cost of the analysis to investors under MiFID II.

This last decision is firm, even though regulations pertaining to this matter have not yet been transposed and the costs of the analysis are as yet unknown; and this differentiates them from other entities, such as azValor, Bankinter Gestión de Activos or Bankia Fondos, which in the past few days have announced an opposite decision. In fact, Valera explains that in recent times brokering and execution fees have been reduced to one third of their previous cost, which is something that can help achieve profitability objectives more easily. “If previously they charged 20-30 basis points for the execution and now they charge 4-5, with a portfolio rotation of 30%, the annual savings can be 12-15 basis points in the portfolio,” he explains.

But, in his opinion, even though the above does count, more than this decision on the analysis or the reduction of the execution fees, the key to achieving profitability is to invest in funds with low commissions, and they boast of having the lowest fees in Spanish value management… and even in active management (from 0.65 to 0.95 in management and a success rate of between 3% and 7%).

The entity, which has 1,200 clients, a figure they intend to “double and triple”, as with its assets (around 171 million Euros), explains that it does not seek to be a company managing billions of Euros, and that it will close the funds when the time comes and the management is complicated: although as yet they don’t have a clear figure, its president Julián Pascual pointed to 1 billion as being a high figure. All in all, Valera acknowledged that a management company like theirs “has a hard time becoming trendy”, because investors are very short-term minded and the Buy & Hold philosophy looks to the long term, to 2028, and the idea is to make money, but “with tranquility ” and without big oscillations.

Along this line of beating the indexes by 2-3 points a year (if at 10 years the index has managed to earn 259% at compound interest, the Rex Royal Blue sicav has risen 81 points higher, with dividends), Valera explains that, unlike those who seek returns of 20% and greatly concentrate their portfolios in order to do so, they are committed to diversification: “We don’t see 80% of opportunities as being very clear, we’re navigating the haze, and that is why diversification is key,” he adds.

Changes in the portfolio

For example, they don’t see the opportunities in commodities as clear, in that journey through the markets in which clear differences with other value competitors also arise. “A lot of the demand comes from China and we don’t see it clearly. In addition, the price has recovered, it’s no longer at minimums,” says Pascual. Where they do see opportunities that they have recently taken advantage of is in renewable energy and the financial and advertising sectors: in light of this, they have taken advantage of recent movements in the stock market to make changes in its portfolio, composed of 40 national and international companies. Among the most significant investments of the firm, which analyzes the entire capital structure of a company, is the purchase of shares of the Italian investment fund manager Azimut, which has very high returns on capital, a double-digit annual dividend, and a very consolidated business in Italy; with growth opportunities in emerging countries. “There are three types of managers: those of ETFs, those that provide added value (few are quoted) and a third group, in which Azimut belongs, with an average product but a large distribution capacity through a strong agency channel that receives half of the funds’ commissions – which are on average 2%, which explains their sales incentives – and opens offices in niche places, such as Turkey, Miami or Monaco.”

In addition, Buy & Hold has raised positions in the digital advertising sector (Alphabet and Facebook), as well as in agencies (Publicis and WPP). “We believe that at these prices companies have lived through all the worst predictions in the sector,” explains Pascual. He predicts similar opportunities are in wind power, where it has taken positions in Vestas and Siemens-Gamesa for its funds BH Acciones (equities) and BH Flexible (mixed fixed income and equities). “Both companies have suffered in recent months, with drops of 50%, remaining at attractive prices. In the case of Siemens-Gamesa, we see synergies not only in costs, but also in their capacity to win large tenders”, adds Pascual, who has obtained annual returns of more than 10% in the vehicles he has managed during the last 13 years.

Winning with the Catalan bond

In the fixed income part, the firm has also shown movements in the portfolio. The most prominent is the sale of subordinated bonds and CoCos of large-cap financial entities, “where we consider that prices have risen excessively,” says Valera. They have increased positions in subordinated debt of smaller banks, such as bonds issued by Cajamar, the largest Spanish rural bank. In the same way, it has bought bonds from the Galician construction company Copasa and the Portuguese Mota Engil.

The month of February ended with an annual return of 2.5% for the company’s pure fixed income fund, BH Renta Fija, when other debt funds are in losses. Among the success stories, he pointed out the purchase of bonds from the Generalitat de Catalunya in October, with which they have earned 20% in just five months, even though they represented only 5% of the portfolio. The position is not yet sold, but neither have they bought more for lack of paper. Another success story is Provident, the leading financial institution in loans and credit cards to subprime clients in the United Kingdom, of which the management company holds both bonds and shares. “We bought the bonds with yields higher than 10%, and they are currently in environments of 4% with a maturity of two years,” explains Valera. “This has meant a revaluation of more than 13% only in fixed income, while the revaluation of the shares has been 70%,” he adds. The firm still sees potential in value so it continues to maintain both positions in the portfolio.

Forum to improve investments

The management company also informed of the birth of the Buy & Hold forum, an encounter with ‘influencers’ from the financial sector that seeks to contribute to improving the investment decisions of Spanish families. The investment firm plans to hold two meetings a year in this forum to share ideas, practices or success stories of value investment. The objective is “to ensure that Spanish families are able to invest increasingly better,” said Valera.

For this, in a first meeting, the Spanish management company brought together 13 leaders in the field. “This first forum gave us the opportunity to meet personally. We are all connected and we read each other in different blogs and social networks, but we have never had the opportunity to meet in a place to talk about what we are passionate about: the world of investment,” Pascual points out. The forum is a measure adopted by the management company in order to be close to Spanish families, and adds to the financial training courses that Antonio Aspas, partner of Buy & Hold, has begun to teach. The dynamics of the forums will be an informal meeting in which the guests can share their experience, their point of view, or some success stories in order to understand other perspectives. “We have realized that many of the ideas that are shared are those that our management company tries to transmit, such as how to consistently beat the European stock indexes with dividends,” adds Aspas.

The firm’s partners agree that it’s a way to know the opinions of those people with a passion for saving, and what they think of this type of investment. “Thanks to these meetings, we know what’s on their mind, what worries them, what companies they have found interesting, and we get to know them better in order to help them. We don’t want to be a management company which isolates itself in its figures or research,” says the company’s CEO.

Value Investing in Asia: “The Best Value Opportunities are When You Buy Growth Without Paying for It”

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Inversión value en Asia: “Las mejores oportunidades son aquellas en las que se compra crecimiento sin pagar por él"
CC-BY-SA-2.0, FlickrSid Choraria, courtesy photo. Value Investing in Asia: "The Best Value Opportunities are When You Buy Growth Without Paying for It"

Amiral Gestion applies its value investing philosophy to investments around the world, including Asia. Sid Choraria, head of Analysis of Amiral Research in Singapore, explains in this interview with Funds Society the peculiarities of the Asian market, in which the importance of analysis is key to reduce the information gap that exists with respect to companies in other markets. The company recently opened an office in Singapore, with a local team of seven analysts, tasked with exploring the many opportunities of a heterogeneous market, and in which the universe of listed companies will multiply in the coming years, without forgetting that the potential sources of volatility, such as China or North Korea, can be a value investor’s best friend.

When investing in Asia with a “value” approach, what particularities do you find against other regions?

The specific pecularities that global investors must appreciate are differences in corporate governance, accounting standards, market regulations, liquidity, language and culture across Asia which can create some barriers to entry for far-away foreign investors. In Asia, for instance, relying overly on reported financial statements or secondary research like sell side analysts can be a pitfall. The importance of scuttlebutt research and doing your own work is even more important in Asia. By this we mean, learning as much about a company’s ecosystem – its competitors, customers, suppliers, distributors, products, hiring processes, technology, etc which helps to bridge the information gap. The quality of people behind the Asian company is paramount – in developed markets perhaps you can go by the reported financials, but in Asia, appreciating where the incentives lie is of paramount importance as many small mid caps are majority owned by families. I like to very clearly understand what it will take for a company to go from where they are today to where they want to be.
 
Even within Asia, one cannot paint all markets with the same brush. There are many differences between each market which value investors must appreciate. In China, 80% of investors are retail investors who focus on anything but fundamentals, and this leads to speculation and short-term trading. Even institutions in China have very high portfolio turnover which means stocks will deviate far more often from intrinsic value of the business. This is a advantage for the long-term investor. As China transforms itself it is important to appreciate the nuances of state policies and government reforms, as it can make or break an investment. In parts of Asia, there is still information assymetry unlike the West – for example companies in Japan, sometimes IR documents are not available real-time in English on the website, and visiting small mid cap companies in person can help bridge this gap. India tends to be more of a GARP (growth at a reasonable price) market and investors looking for “deep value” are likely going to miss out on great businesses and compounding stories. Of course, such opportunities can emerge during periods of financial crisis. Countries like South Korea and Taiwan offer value in the traditional sense, but it´s very important to pay attention to minority shareholder friendliness, cross shareholdings, capital allocation, etc as they can differ significantly from company to company.

Are there undervalued companies to a greater extent than in other markets?

Asia is a fertile fishing ground for long-term, disciplined investors as markets and companies in the Asian region are still at more nascent stages than developed markets in the US and Europe. This creates inefficiency that value investors in Asia can systematically uncover. The size of the opportunity set is also huge, for instance below the 2 billion market cap there are an astounding 16,000 Asian companies, many of which are not actively covered in a serious manner. This universe will only multiply over the next 15-20 years, as companies go public for the first time in growth economies like China and India. So, by definition, this should afford more mispriced stocks than other regions and we see this with the valuations too on a global context. Currently our global equity fund, Sextant Autour du Monde, has a 40% exposure in Asia. Some of our best ideas come by meeting companies and competitors in the Asian small mid cap space. To build a local team, we recently opened a research office in Singapore and grown to 6-7 analysts in Asia. With Singapore being 2-4 hours by plane to most companies, we are able to kick the tyres in real-time.
 
For example, in Japan there are lots of undervalued companies to a greater extent than other markets, with more than 50% of companies with net cash balance sheets! We like companies like Toyota Industries and Daiwa Industries. In Korea, the preferred stocks trade at a significant discount, not justified relative to the common and here we like for example LG H&H. In India, there are companies that we find that present both asset value plus earnings growth, for example NESCO, which runs India’s largest private exhibition business in Mumbai. In Hong Kong, there are many cheap companies, but one needs to know the players, their reputations etc. We like HK listed companies like JNBY which is a niche fashion brand in China with strong management. Finally, Taiwan offers some of the highest dividends in the region and companies with reasonable valuations. Here we like companies like Taiwan Sakura, HiM International Music.

Many times, when investing in emerging markets (as the Asians), “growth” is the keyword and investors look for a “growth” approach. What can a “value approach” provide when investing in Asia?

The best value opportunities are when you buy growth without paying for the growth. What we mean is identifying a company that is able to reliably grow earnings and cash flow, without deploying much capital, so its returns are attractive, but yet is not yet fully recognized by the market. So, this is the twin engines which is growth in earnings as well as Mr. Market re-rating the multiple. Value investing is not just buying cigar butts – but identifying misunderstood stories, where the stock market has overlooked the earnings growth potential of a company. 
                                                                                                                                                                          
Moreover, our value investment process is heavily dependent on having interaction with the company particularly when it comes to small and mid caps. We have met with over 150 Asian companies in the last 12 months.Here, the key aspect is being able to meet management who can illustrate to us in a 45-minute meeting their business model and why are they good at it. To clearly understand what differentiates companies, whether price, cost structure, management, etc is key. We look for companies that are able to elucidate in a logical fashion what it would take for the company to double their sales and operating profits in a 3 year period. So, we want to understand simply what are the building blocks that need to be put in place to achieve those goals – in a clear and simple manner. As Asian economies are growing, infact, we like companies that can predictably grow earnings, but where we are paying bargain prices, i.e. not paying much at all for the growth. In general, we emphasize cash flow and balance sheet analysis in valuing a business and study at least 10 years or longer if possible to understand where the value lies. Management can produce the set of accounting earnings that they want you to see. Price to earnings ratio is probably the most abused metric in valuation.

In Europe, some “value” experts talk about opportunities in the banking and in the energy sectors. In what other sectors do you find opportunities in Asia?

Our ideas come from the bottom-up and not thematic. Therefore, we are flexible and unconstrained on the type of industries we invest in. There are some industries that just do not lead to prudent public markets investing, so I can discuss what we like to avoid. These are, generally speaking, i) industries requiring high capital intensity, ii) industries where the barriers of entry are low and iii) where there is a high degree of government regulations, since emerging markets are fraught with political risk.

Regarding Asian markets in general, ¿are you worried about the risk that China poses? ¿Are you worried about North Korea? What is the main risk you see in Asia?

In general, we do not attempt to forecast macro-economic direction or interest rates, as at least the stock market may perform very differently to what the macro suggests. This being said, countries are like companies too and we may try our best to learn as much as we can about the key factors that impact businesses we invest in. As value investors, we see volatility as a friend of a long-term investor, and indeed short-term price fluctuations allow us better opportunities, as long as the fundamentals of the company and thesis in question do not change.  

Is Asia vulnerable to the normalization of the monetary policies in the USA and Europe?

Sure. There are some areas of the market that are more expensive, and this has had to do with low interest rates, so investors have justified taking more risk in certain areas of the market to chase yield.

Do you think that markets will face higher volatility this year than in 2017?

We think so. Volatility is the best friend of value investors, and this is where some of the best opportunities arise from.

Old Mutual Sold 100% of its LatAm Operations to CMIG International

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Old Mutual vende el 100% de sus operaciones en Latinoamérica a CMIG International
Foto cedidaCourtesy photo. Old Mutual Sold 100% of its LatAm Operations to CMIG International

CMIG International, a Singapore-based holding company, has signed a contract with the South African group Old Mutual to acquire 100% of its business in Latin America. The operation, which is still pending approval by the corresponding authorities, would include, as it has transpired, the companies Old Mutual Mexico, Old Mutual Colombia and the Latin American investment adviser Aiva. It is also speculated if Old Mutual plans to sell its business in China.

The buyer, China Minsheng Investment Group International (CMIG), is a private investment holding company founded in August 2014 with 59 companies and with a registered capital of 50,000 million yuan. CMIG focuses on emerging sectors and actively promotes industrial modernization and economic transformation. The price of the transaction was not disclosed but according to international media, CMIG would have paid close to 400 million dollars in this operation.

The executive president of CMIG International, Kevin E. Lee, wanted to emphasize that “Old Mutual Latin America is a well-managed company with constant and sustained growth. It has always prioritized the interests of its clients, which is aligned with our values as a company. At CMIG International, we have a long-term commitment to strengthen and grow the company in the region. The acquisition of Old Mutual Latin America is an excellent platform for CMIG International and its entry into the regional market, which has great potential.”

In this regard, Lee added that, after carefully analyzing Old Mutual Latin America, “we are very excited about the prospect of becoming its shareholders. Our investment thesis is to find good assets, managed by exceptional teams, in such a way that we can guarantee the continuity of the business.”

According to the firm, Old Mutual’s decision to sell its business in Latin America follows a strategic review of its business, which concluded with the decision to concentrate on its operations in Africa. The presence of the firm in Latin America dates back to 1959 in Mexico, where it began to operate as a reinsurer under the Skandia brand. Subsequently, the company was established as an insurer and an operator and distributor of investment funds under the same Skandia brand; which had a very important growth in Mexico. Now this brand, recognized in the institutional field, will come back to represent the business in the region.

David Buenfil, CEO of Old Mutual for Latin America and Asia, said that “we are very proud to have an international investor of the stature of CMIG International, who believes in the growth potential of our region. This is a well-known company in Asia, and with a very good reputation. We are also very excited to know that they value our much-loved Skandia brand, and that they plan to return it to the market once the transaction is closed.”

Old Mutual Latin America includes pensions, life insurance, mutual funds, a broker-dealer, and an investment advisory with assets under management of over 13.5 billion dollars.

According to Julio César Méndez Ávalos, CEO of Old Mutual Mexico, “this is great news for all our clients, employees, advisors and strategic allies. CMIG International is a company that has valued our great potential and is committed to a continuity of our business model, as well as our human capital and management team, all our clients can rest assured with their investments and products because they will continue under the professional management that has distinguished us in these almost 25 years that we have participated in the Mexican market.”

On Trump and Tariffs

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Trump y los aranceles
Courtesy photo. On Trump and Tariffs

In late February, President Trump promoted trade policy adviser Peter Navarro to assistant to the President. As a trade policy adviser, Mr. Navarro reported directly to White House Economic Adviser Gary Cohn. It is well known that Mr. Navarro (a Harvard-trained economist who wrote a book titled Death by China) has very protectionist ideals in regards to trade, while Mr. Cohn (the former President of Goldman Sachs) is a proponent of free trade. Effectively, Mr. Cohn served as a buffer between Mr. Navarro and President Trump. However, once Mr. Navarro was placed in a position where he could advise the President directly, we felt that some more extreme trade policies were on the horizon.  

In less than a month, Mr. Navarro’s influence on President Trump was plain for all to see. Furthermore, Mr. Cohn resigned from his position following his futile attempt to convince President Trump not to go through with the tariffs. The equity markets suffered an immediate pullback on the announcement of Mr. Cohn’s resignation due to fears that the US would become even more protectionist without the influence of his globalist views. Fortunately for the market, Mr. Cohn’s replacement is CNBC commentator Larry Kudlow. Before embarking on a television career, Mr. Kudlow had been the chief economist at Bear Stearns and is known for having a very globalist view on trade. We believe the market will draw comfort from the appointment of Mr. Kudlow as Economic Adviser rather than Mr. Navarro. 

This has happened before

In 2002, the administration of George W. Bush placed tariffs on steel products ranging from 15 to 30% in an effort to save the US steel industry. Back then, several steel producers had declared bankruptcy amidst a surge in steel imports. The government decided it needed to protect the companies of the steel industry for a period of three years to give time to restructure and emerge as more competitive players. Just like now, Canada and Mexico (thanks to NAFTA) were excluded from the tariffs of 2002.

Almost immediately, the European Union imposed tariffs and filed a case with the WTO. Several other countries filed similar cases and the WTO eventually ruled against the US. Following the international backlash and disappointing results for the economy, President Bush rescinded the tariffs only 18 months after their implementation.

“I don’t think it was smart policy to do it…The results were not what we anticipated in terms of its impact on the economy or jobs.”
Andrew Card Jr., White House Chief of Staff under George W. Bush

Back in 2002, one of the actions considered by the EU was to place tariffs on oranges from Florida. For those not familiar with US regional politics, Florida is considered to be a swing state and President Bush won the state (and the overall election) by the narrowest of margins in 2000. The EU does not blindly select products on which to place tariffs; it wisely chooses products produced in politically sensitive states. 

This time around, the EU is targeting Harley Davidson, which has manufacturing plants in Pennsylvania and Wisconsin, states that were important to Trump’s victory. Furthermore, Wisconsin is the home state of Speaker of the House Paul Ryan. Another product being targeted is Kentucky Bourbon which is made in the home state of Senate Majority Leader Mitch McConnell.  
The immediate economic impact seems mild but might only be the tip of the iceberg.

To be fair, steel and aluminum represent less than 2% of the country’s imports. Considering solely these two products, the overall impact to global trade should be modest. Unfortunately, these tariffs are not occurring in a vacuum and they might only be the tip of the iceberg as we await the outcome of the pending Section 301 investigation.

The investigation is focused on determining whether China’s actions relating to intellectual property and the forced transfer of technology discriminate against the US. The White House has signaled that there could be an announcement in regards to the investigation within a few weeks. Media reports are already speculating that the White House is considering imposing several new tariffs on $60 billion of Chinese products due to disagreements on intellectual property rights. 

In fact, indirect actions against China may have already started. President Trump recently ordered Broadcom to “immediately and permanently abandon” the acquisition of Qualcomm for reasons of national security. The government did not disclose the details of why it is in the interest of national security for Qualcomm to stay independent, but Wall Street analysts are speculating that there was a fear that Broadcom would cut the R&D budget at Qualcomm, allowing Chinese telecommunication equipment company Huawei take the lead in the development of 5G wireless technology.  

Column by Charles Castillo, Senior Portfolio Manager at Beta Capital Wealth Management. Crèdit Andorrà Financial Group Research.

Arcano: “Without Retrocession, the Absence of Conflict of Interest and Independence is Guaranteed, Something that Does Not Generally Happen in Private Banking”

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Arcano: “Sin retrocesiones se garantiza la ausencia de conflicto de interés y la independencia, algo que no ocurre de forma generalizada en las bancas privadas”
Wikimedia CommonsÍñigo Susaeta, courtesy photo. Arcano: "Without Retrocession, the Absence of Conflict of Interest and Independence is Guaranteed, Something that Does Not Generally Happen in Private Banking"

The market environment is still favorable but we will have to be cautious with the policies of the central banks. For 2018, Íñigo Susaeta, Managing Partner of Arcano Family Office, favors short-term assets such as floating loans, emerging local currency fixed income, inflation-linked assets and different alternative funds that can look for opportunities without depending on the directionality of the markets. In this interview with Funds Society, in addition to talking about markets, Susaeta explains the impact that MiFID II will have; it will change the distribution landscape in Spain and will promote services such as independent advice –which they offer- and the discretionary management of portfolios.

Under MiFID II, financial advice in Spain could adopt a new face. What are the main changes that the regulations will bring to the industry? Will there be a revolution in the advisory business in Spain?

MIFID II will undoubtedly lead to a change in the business of many advisors in Spain, and in Arcano’s case, and specifically in its Family Office service, it is a slap on the back for our model with which we have been leading the market for a decade and where we have always opted, as one of our differential factors, for independence and for receiving payments exclusively from our clients.

In general terms, MIFID II aims to strengthen investors’ protection and to improve the functioning of financial markets through greater transparency of prices, competition and market efficiency. Thus, for example, banks will find it more difficult to collect incentives for the sale of funds and they will have to increase the amount of funds from other management companies which they offer their clients, which is causing a change in the distribution model.

How have you prepared for the regulations? What kind of advice does Arcano offer, both from the EAFI and the family office?

In Arcano we offer independent advice. In fact, we were pioneers in incorporating this model in Spain more than a decade ago. Thus, we adapt the best practices of international multifamily offices to our firm, and time has proved us right, becoming one of the market leaders in Spain, advising over 20 HNW holdings with a combined volume exceeding 1.4 billion Euros In this regard, the adoption of MIFID II has only reinforced our model.

There is a major issue in MIFID II that I would like to point out: the collection of retrocession fees. since its foundation, Arcano has considered the non-collection of third party retrocessions in the provision of its services to clients as a fundamental aspect for the development of its Wealth Advisory services. It is our company’s philosophy, and we believe that the absence of conflict of interest and independence is guaranteed in this way, something that we think does not generally happen in private banking.

Will MIFID II provide an impulse to discretionary portfolio management, or to advisory activities?

We believe that to both, and it is an area that Arcano is already developing through its IICs manager. In fact, if we look at the implicit costs that banks apply to some of their services, many clients will opt for other alternatives, giving an impulse to both discretionary management and independent advice.”

What growth rates has the family office shown in recent years and what objectives do you set for the next ones?

As I pointed out, Arcano has become one of the market leaders in Spain with over 20 families or HNW holdings with a total volume of more than 1.4 billion Euros. Our goal is to continue to have the trust of those great holdings, which increasingly need value and quality services, with a 360-degree approach like the one we offer at Arcano, which is completely independent and customized.

Your portfolio construction model already holds a 10 year track record… what are its key factors and how has it evolved?

It is a very different risk-based asset allocation model, based on principles applied by some large institutional investors such as Bridgewater or the sovereign fund of Norway, among others. It seeks greater robustness in the different market scenarios by distributing the total risk of the portfolio into four factors: inflation, interest rates, credit and growth.

We believe that the real diversification it offers will be fundamental in the most uncertain and volatile environment that we will live through in the medium term. Even in the most stable context of the last seven years, if we look at the profitability obtained by the sicav managing entities that manage over 100 million Euros, Arcano would be the second in the ranking with an annualized return of 4.4% in its moderate profile portfolio.

As well, your group has provided room for alternative management … is including these vehicles in the portfolios now a key factor?

In a market context such as the current one, with low interest rates, it makes more sense than ever to have part of the portfolio in alternative assets, including illiquid ones such as private equity or real estate funds, among others. However, it is important to have a global vision of the assets and their objectives and assess which weight is the most appropriate to include these assets in the portfolio, as well as selecting the best managers and products.

In Arcano’s case, however, it should be remembered that the advisory activity of large holdings is completely separate from the management activity of our management company’s alternative products.

Looking ahead to this year, do you expect more volatility? What assets do you favor?

The stock market cycle which began in 2009 is the second longest in history, which invites to proceed with a certain amount of prudence, also taking into account that central banks will jointly begin to withdraw liquidity from the markets by the end of this year. A rally in real rates faster or deeper than expected could lead to a repricing of risk assets. In this market moment, we favor short-term assets such as floating loans, emerging local currency fixed income, inflation-linked assets and different alternative funds that can seek opportunities without depending on the directionality of the markets.

What if a Tourist Attraction Could Also be a Great Investment?

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¿Y si una atracción turística a parte de ofrecer ocio y diversión fuera una extraordinaria inversión?
Wikimedia CommonsPhoto: Straco corporation. What if a Tourist Attraction Could Also be a Great Investment?

One of the most frequent questions we are asked as Fund managers is from where we get our investment ideas.  While most of us will use a screening tool to filter down companies from the investable universe (up to 17,000 stocks across the globe from which to choose!) we also use other sources: direct observation, forums, webinars, and other fund manager’s portfolios, to name a few.  My latest investment idea came to me after remembering a recent exchange I had with a close group of friends.

For a number of years now, my friends and I make an effort and force ourselves to meet up for dinner every Thursday.  No matter the occasion, we use it as an excuse to stay in touch with one and other at least once every week.  A couple of months ago, it was one of the couple’s turn to host and; as always, we found ourselves hearing about their latest holiday to yet another exotic location.  They travel quite extensively and are never short of a story having visited Angel’s Fall in Venezuela, Indonesia and its Komodo Dragons, Bora Bora’s remote beaches in French Polynesia and the Gobi desert with a short stay in St Petersburg beforehand.  Their stories are generally told through videos.  This is not always by everyone’s choice but we can hardly say no to them once they begin playing them!  On this occasion, they were telling us about Singapore, the Marina Bay Sands Skypark, its botanical gardens and the city’s iconic Ferris wheel, the Singapore Flyer. I then began wondering who owned and managed such a unique tourist attraction and much like the iconic London Eye, Mickey’s Fun Wheel in the U.S., the Riesenrad in Vienna and the Zhengzhou Ferris wheel in China… were the companies behind them good investment opportunities?  A week later and after some additional research in the industry, I landed upon Straco Corporation.

Investment Idea- STRACO CORPORATION (STCO)

Straco Corp. is a leading leisure listed company that develops and manages tourism-related assets mainly in Singapore and China.  Their businesses include: the Singapore Flyer (SF), Shanghai Ocean Aquarium (SOA), Underwater World Xiamen (UWX), The Lixing Cable Service (LLC) in China, among others.  Straco was founded in 2002 and was listed in the Singapore stock exchange from February 2004.  The company’s market capitalization is EUR 453m, a share price of around SGD 0.86 and a total turnover close to SGD 130m (EUR 80m).  

What sets Straco Corporation apart and why does this company fall into Global Quality Edge Fund’s investment philosophy?

Straight-forward and easy-to-understand business – Almost all its revenue comes from ticket sales to their tourist attractions, while their costs are mainly those associated to upkeep and maintenance of their assets and their employee’s salary (35% of total costs)

Operating Leverage – Managing tourist-related assets will involve up to 80% of fixed costs of total costs, which translates into a high operating leverage and in turn, high margins and profitability.

Pricing power – Straco is able to increase prices to their tourist’s attractions by 10 to 15% every 2 to 3 years without having an impact on final demand. From Chart 1, we can how the operating gross margin has grown over the past few years (93% correlation), proving the company’s pricing power advantage.

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Barriers to entry – The strategic geographic sites in Singapore and China plus the difficulty in obtaining licensing permissions to build and run tourist attractions at a very high cost are all good indicators of high entry barriers for would-be competitors.

Assets shielded from competition – Straco has built a lot of goodwill and strong relationships with the local authorities and governments in China and Singapore that have helped and advised the leisure company locate the ideal sites for its tourist attractions.  Straco’s business is highly regulated and any new ventures would be hard to deliver without these.  

Strong experience and knowledge in the business – Mr. Wu Hsioh Kwang is the current CEO of Straco since March 2003 and has worked in the business in China since 1980, allowing him to leverage all his experience, knowledge and relationships to successfully run the day to day business.

Mr. Wu is also is chairman of the culture, education and community affairs committee at the Singapore Chinese Chamber of Commerce and vice-chairman of tourism and leisure for the Chinese business group at the Singapore Business Federation.  As a philanthropist, he donated $2m to University of California, Berkeley to aide overseas Chinese students.

Interest alignment between company management and stockholders – About 55% of Straco stock is owned between Mr. Wu and his wife, proving a clear interest alignment between investors and senior management.  This investment is structured through Straco Holding PTE.

Efficient capital management – Due to the nature of the business, Straco has been generating enough cash flow allowing the company to steadily increase dividends across the years, as well as repurchase shares whenever senior management perceives its stock is being undervalued.

Strong solvency – Total gross debt is only SGD 103m, including all off-balance sheet operating leases which add up to about SGD 50m.  If we take the company’s SGD 185m in cash, Straco’s net cash flow totals SGD 86m. It was only in the first few years that the company had debt on its balance sheet to finance the initial constructions of its tourist attractions.

Strong organic growth and potential for inorganic growth – During the last 5 to 10 years, total sales have grown at an annual compound rate above 20% with only 1 inorganic growth element after the company acquired the Singapore Flyer in deal worth up to SGD 117m for a 90% stake in 2014, using cash and debt.  Straco’s strong cash position would allow it to purchase other tourist assets to take on debt up to 2x EBITDA (SGD 160m) without compromising its balance sheet.  Mr. Wu (CEO) recently said in their 2016 annual report that “We [Straco] remain on the lookout for good projects to build or acquire, and continue to assess potential tourism investments, but until we come across the rare opportunity that is a true step forward in terms of quality, scale and potential returns, we will remain prudent in matters of cash management”

Reinvesting profits and high ROIC – Pay-out dividend rate is below 50%, allowing the company to have a strong cash position to invest in new assets or repurchase shares.  Straco is therefore not capital intensive with a low CAPEX (Capital Expenditure) and null strain on cash.  The company is able to maintain high-levels of return on invested capital (ROIC) at a sustained rate above 30%.

Management compensation – Approximately 45% of the CEO’s salary is made up of variable compensation in the shape of bonus and stock options, tied to long term business performance.

Neutral or negative cash-cycle – Straco does not need to finance its cash flow needs, as most of its ticket sales are paid in cash and suppliers are paid off within 85 days.

Low analyst coverage – The leisure company is covered only by 4 local broker analysts which is the best way to obtain information about the company is by speaking directly to its management.

Low percentage of institutional investors – We like the fact that institutional investors only represent less than 10% ownership in the company, currently hovering around 6%.  This directly translates Straco into a not-so-well-known company and increases the chances of it trading at a discount due to the limited information that can be found on the company.

Strong and sustainable competitive advantages – Straco’s competitive advantage exists in the form of a unique and regulated (intangible) asset and the strategic sites where they were built. As mentioned previously, the company faces very few if not no challenging competitors, as a result of the company’s exclusive and iconic assets that are difficult to replicate. The initial investment for a new tourist attraction would be incredibly high and pre-approval from local authorities and the government would be needed in order to operate a new project under the appropriate licenses.

The sites where the tourist attractions are located are also exclusive, offering unparalleled views of Singapore and Chinese cities in central locations making them the perfect place for first-time sightseers to visit.  This naturally protects and guarantees the company’s on-going ticket sales.

If a new site were to open, like Disneyland Shanghai did in June 2016, we do see this being a matter of concern and direct competition for Straco’s Shanghai Ocean Aquarium, as it would present itself as an opportunity to bring even more tourists to the city.

Share repurchasing announcement – On 28th April 2017, Straco announced a new share repurchase programme, authorizing a share buyback worth up to a maximum of 86.03m shares, equivalent to 10% of all shares outstanding.  Until 14th December 2017, the company had had only repurchased 0.1% of the total amount, leading us to believe that share repurchasing is a strong support for the company’s equity listing.

How do we value Straco Corporation?

The main business drivers of this leisure company can be narrowed down to 2: 1) Strong tourist traffic and 2) High consumer spending.  Stats from the China National Tourist office reveal that local tourism has been growing at 10% in the last five years accounting for almost 70% of 

China’s total tourism.  This industry makes up for 10% of China’s GDP while consumer spending is 65%, when measured for the first nine months of 2017.

A study called “Discover China’s Emerging Middle class” claims the sprawling urban middle class in China is set to reach 365m people by 2020 which widely supports the local positive trend seen in domestic tourism.  The China National Tourist office also sees a rise from international visitors that would reach 137.1million travelers by 2020 if current growth rates remain high.  In Singapore, the Singapore Tourism Board foresees a 1-3% growth in tourists coming from abroad to not only visit the island city-state but also from tourism drawn in by Indonesia and China that continue to register double digit rise in the number of visits.

Straco’s annual report breaks down the number of tourists they register each year at all their attractions:

Enlarge

In Chart 2, we can see how stable the business is and how almost every year it’s been able to increase the number of visitors to their sites.  Even during the last financial crisis, Straco maintained a net influx of tourists and its compound annual growth rate for the last 10 years has been above 10%.

In terms of reporting, Straco divides up its business in 3 segments: 1) Aquariums, 2) Giant Observation Wheels 3) others.  The aquariums represent approximately 70% of Total Sales and 82% of their Operating Income, while the Observation Wheels account for 29% and 16%, respectively.

Shanghai Ocean Aquarium and Underwater World Xiamen are among the Aquarium assets of the company.   Even though food and drink are sold at the parks, these do not make up as much of the Total Sales compared to the entry ticket sales.  This average at CNY 160 (EUR 20) for the Shanghai aquarium, CNY 130 (EUR 17) for Xiamen and CNY 200 (EUR 25) for the Singapore Flyer. 

To breakdown Straco total turnover worth SGD 130m, we assume an average ticket price of CNY 170 which will incorporate already a 25% discount rate (for either children, pensioners, disabled visitors, etc.) and multiply the average price by the number of visitors that were recorded until September last year: 5.05 visits.   The slight drop in 2016 which is then maintained and carried over to 2017 was owed to the lower number of tourists at Underwater World Xiamen (UWX) due to newly imposed tourism restrictions by local authorities.  We do not see this as a threat to the aquarium’s business as the company recently announced it was planning to off-set the drop in numbers by extending the hours in which the park remained open.

By now, you may know that Global Quality Edge Fund does not rely on consensus estimates as part of the investment decision process.  What we do is calculate a normalized operating margin with sufficient enough history that encompasses a full economic cycle.  In Straco’s case, we arrived at a 45% normalized operating margin, under our conservative view, which contrasts from the 52.2% actual reported by the company.   If we apply a 30% fiscal rate, our NOPAT (Net Operating Profit After Tax would result in SGD 40m over the last twelve month sales of SGD 127m.  We then move on to the Free Cash Flow and remind ourselves that the cash position of the company is neutral or negative, investments represent around 2.5% of Total Sales and the company allocates around 1.5% of Total Sales to stock option payments. From our view point, it’s an expense and therefore we subtract it.  This leaves us with a final normalized Free Cash Flow of SGD 52m, meaning the cash conversion rate is greater than 100%. Remarkable!

If we continue with our assumptions and calculate Straco’s Total Net Cash at SGD 86m, the total number of shares outstanding is SGD 865m (4m convertible shares due to stock options) and applying a last twelve month price to earnings multiple (PE) of 15x, our intrinsic value for Straco’s share price is SGD 0.96/share, 12% higher than its current price.  It is important to note that this intrinsic value of SGD 0.96 does not assume any future growth, nor does it take into account price increases or a premium on top of its multiple due to the high quality business they run.   If we were to adjust our calculation and incorporate our previous observations on growth, pricing power and premium, our theoretical value would be of SGD 126, with a safety margin of almost 50% of today’s current price of SGD 0.86.  Our floor value in the event of an economic recession (unlikely under the current conditions in the far east but still possible) is of SGD 0.65, in other words, a 25% drop from current levels, at which point we would increase our stake and allocation in our fund. 

Which are Straco’s main risks?

A more relaxed stance in their pricing power in future years, exposure to terror attacks, competing companies building more tourist attractions in surrounding areas, unexpected maintenance costs that could lead to disruptions in service or technical faults that could put guests at risk.

Are there any red flags?

We have not found any relevant accounting red flag.  We only have to bear in mind that tourist attractions have a strong seasonal component to them, especially around the 3rd quarter of the year where more than half of Total Sales are booked.

How was the company’s last quarterly result 3Q17?

Mr Wu told investors in his last earnings call for the 3rd quarter of 2017, “We are satisfied with the overall performance for the year-to-date as our attractions, other than UWX, registered positive growth. UWX’s performance had been impacted by falling visitor numbers, which dropped more than 30% in 3Q due to the further restriction on visitor 2 numbers to Gulangyu by the local authorities, as well as tight traffic control in Xiamen city in view of the 2017 BRICS Summit held in September”.

In conclusion, we see Straco Corporation as an extraordinary company with clear and sustainable competitive advantages, a unique set of assets, sound capital management, experienced Senior management, committed to their investors and trading at a discount 15x below profits or 8x EBITDA.

Column by Quim Abril, founder and portfolio manager of Global Quality Edge Fund

 

PORTFOLIO MANAGER’S NOTE: I wrote this report by myself and expressed only my opinion. This report is not a recommendation to buy or sell. Directly or indirectly, the portfolio manager has a position in the assets mentioned here.

 

Global Debt

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La deuda global
Courtesy photo. Global Debt

On 9 February, President Trump signed a two-year budget deal that funds the US federal government up to 23 March and suspends the debt ceiling for one year. The agreement averts another government shutdown, which has now happened nine times since 1990. The solution has been a boost to spending that adds to the growing deficit in order to finance operations and governmental agencies.

The above is just an example of how debt is increasing. In January 2018, the Institute of International Finance (IIF) calculated that in the third quarter of 2017, the debt of households, businesses, banks and governments all over the world soared to a record total of €193.3 trillion. With this figure, the debt-to-GDP ratio is 318%. Broken down by economies, 74% of the debt corresponds to developed countries and the remaining 26% belongs to emerging economies. And in terms of sectors, the distribution is as follows: Households 18.70%; non-financial corporates 29.53%; financial sector 24.82%; and governments 26.95%.

There is a growing trend over the last few years, and the expansive monetary policies of the main central banks (that have brought interest rates down to zero or lower) has a lot to do with it. It has allowed for cheap financing, which has been exploited mainly by businesses, and investors, in the context of excess liquidity and a low default rate, have taken on these new issues, which have generally been very oversubscribed.

As for the public deficit, how can it be reduced? Let us examine some of the main options:

  1. Increase revenue through increased taxes and reduced spending. For example, by eliminating benefits. Governments do not like the sound of this option due to the political cost involved. Some countries may have room to manoeuvre when it comes to implementing expansive fiscal policies, as is the case in the US, but these policies mean added pressure on the debt and the sustainability of public finances.
  2. Reduce interest rates which reduce financial cost. Up until now, this has been the case, but it could come to an end, because it seems that several of the main central banks are currently moving in synch towards toughening monetary policies. An increase in interest rates could hinder the solvency of those more indebted governments. For example, in China, where there a high level of debt with regards to the real estate sector and shadow banking and there is a risk that it will end up affecting sovereign solvency. Or Japan, with a government debt-to-GDP ratio of 223.8% (estimated total debt is 400%). With 10-year rates below 0.10% and savers who are continuously repurchasing the maturities, Japan so far does not seem to be causing too much concern.
  3. Generate inflation. Central banks’ prime objective. Even if it remains low, the chance of surprise increased inflation is higher than in previous years, particularly within the context of more dynamic economic expansion that influences an acceleration in salary growth.
  4. Economic growth is the most desirable scenario. Without a doubt, this is the healthiest option, which allows for an increase in tax revenue and, therefore, a reduction in debt and an increase in financial sustainability. In this regard, the positive outlook of international institutions like the IMF and the OECD, or the early data from business confidence indicators, which are often at all-time highs, allows us to believe that economic growth will contribute to this necessary debt reduction.
  5. But if everything fails, in the event that we are unable to meet obligations, we are faced with the dreaded default, but we hope that debt is used prudently and that it does not reach this extreme.

It has taken us almost a decade to get over the last financial crisis caused by excessive leveraging. The combined action of the main central banks has played a fundamental role in restoring normality to economic activity. However, if history repeats itself, will they have enough margin to apply the same policies? Investors must be very aware of the indebtedness variable when selecting investments and demanding adequate return on each risk they assume.

At the time of writing, global public debt according to https://www.nationaldebtclocks.org/ is at $69,623,405,723,931. I suggest you visit the website and check the current figure.
 
Column by Josep Maria Pon of Crèdit Andorrà Financial Group Research.

Mariano Belinky, New Head at Santander Asset Management

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Mariano Belinky, nuevo responsable de Santander Asset Management
Foto cedidaMariano Belinky, courtesy photo. Mariano Belinky, New Head at Santander Asset Management

Banco Santander appointed Mariano Belinky as Head of Santander Asset Management (‘SAM’). Belinky joins SAM from Santander InnoVentures, the Bank’s $200 million fintech investment fund, which he has led successfully for the past three years.

Before joining Santander InnoVentures, Mariano Belinky was an Associate Principal at McKinsey where he advised global banks and asset managers across Europe and the Americas. He also worked in the research technology team at Bridgewater Associates in the United States, and as a trader in equity derivatives markets in his native Buenos Aires. He holds a bachelor’s degree in computer science and philosophy from New York University.

Víctor Matarranz, Head of Wealth Management, which comprises private banking and asset management, said: “By combining Santander’s experience and expertise in asset management with the Group’s technological capabilities, we can transform the services we offer our clients. Mariano has an outstanding track record in driving innovation and delivering for customers and I am confident he will help Santander Asset Management achieve its full potential.”

Santander Asset Management has a history spanning more than 45 years and a presence in 11 countries in Europe and Latin America. It manages €182 billion in assets across all types of investment vehicles, from mutual and pension funds to discretionary portfolios and alternative investments. SAM’s investment solutions include bespoke Latin American and European fixed income and equity mandates. The company employs more than 700 professionals around the world.

Belinky replaces Juan Manuel San Román who is leaving the Group for personal reasons. Victor Matarranz said, “I’d like to thank Juanma for his service to the Group and his support during the transition.”

Manuel Silva will continue to head the Santander Innoventures investment team and Mario Aransay will continue to lead portfolio partnerships for the fund.

Exan Capital Starts the Year Buying a 144 Million Trophy Property

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Exan Capital comienza el año con la adquisición de un edificio representativo en Washington por más de 140 millones de dólares
Foto cedidaCourtesy photo. Exan Capital Starts the Year Buying a 144 Million Trophy Property

900 G Street NW, a trophy 112,635-square- foot office building in the East End submarket of Washington, DC, has new owners. The property sold for $144 million to an affiliate of Masaveu Real Estate US that was advised by EXAN Capital. The strategic acquisition of 900 G will grow Masaveu’s footprint in the U.S. with a portfolio value of more than $720 million. ASB completed the transaction on behalf of the Allegiance Fund, its $6.2 billion core investment vehicle that owned the property.

ASB developed 900 G Street in partnership with MRP Realty and subsequently acquired MRP’s interest after the project reached stabilization in 2016. The property is now 95% leased to high profile and blue-chip legal and government affairs tenants including Simpson Thacher, Swiss RE, Rio Tinto, Herman Miller, Truth Initiative, and BMW.

The project was designed by Gensler and earned NAIOP’s award for Best Urban Office Building up to 150,000 square feet in 2016.

Larry Braithwaite, Senior Vice President and Portfolio Manager of ASB’s Allegiance Fund, said: “We saw a strategic, and somewhat unique, opportunity to take advantage of domestic and international capital demand for new Class A product after successfully leasing up this one of a kind trophy project.” “Given current supply/demand dynamics in the market, and the strong interest in assets of this caliber, the sale facilitated our plan for prudently managing the Fund’s overall portfolio,” Braithwaite said.

At about about $1,270/sf, This is a record per-foot price for a Washington office building. Last June, Norges Bank Investment of Norway and Oxford Properties of Toronto paid $1,180/sf, or $151 million, for the 128,000-sf building at 900 16th Street NW from a JBG Cos. partnership in a deal handled by JLL.

Quaero Capital and Tiburon Partners Join Forces

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Quaero Capital llega a un acuerdo para fusionarse con Tiburon Partners
Pixabay CC0 Public DomainJamesQube. Quaero Capital and Tiburon Partners Join Forces

M&A’s are off to a good start of the year. QUAERO CAPITAL and London based Asian fund management specialist Tiburon Partners have announced that, subject to FCA and FINMA approval, they will join forces.

The tie-up, under the QUAERO CAPITAL brand, will form a single business managing more than USD 2.3 billion.

In line with the shared boutique philosophy the combined business will remain 100% employee owned and continue to focus on highly concentrated, actively managed, value strategies.

QUAERO CAPITAL CEO Jean Keller said, “We are delighted to be joining forces with another excellent value specialist as our skills and expertise are wholly complementary. We are also excited to have a substantial presence in London – one of the key centres for investment talent in the world.”

Tiburon Partners’s senior partner Rupert Kimber said, “QUAERO CAPITAL’s managers think and work like us. They have a similar investment approach based on value orientated, concentrated portfolios. So, naturally, we are keen to partner with a firm which shares our philosophy, and can take our offering more widely around Europe.“