Investor Briefing - Davis Advisors (PAN-Tribal)
One of our preferred global shares managers is Davis Advisors from the US, whom we access for clients via the "PAN-Tribal Global Equity Fund". For a fund that had outperformed for many years, it experienced surprisingly tough 3rd and 4th quarter last year. We have spent some time liaising with the managers to understand what happened in markets and their own fund, what they're holding, changes made, their view of what the future should hold etc. Having done so, we come away with continued confidence in their team, their processes and investment philosophies. At the same time, it has been constructive in underlining how much sentiment and fear (about issues such as trade wars and a slowdown in China) affected markets over recent months and what a wide divergence emerged at times between price as a reflection of sentiment and value as a reflection of fundamentals.
Conversely, in late December and January, much of this was reversed, reflected in the chart below, showing that the PAN Tribal Global Equity Fund was up around 13%, more than any other equivalent fund. Interesting stuff.
Following is a link to a recent audio recording with the senior managers at Davis Advisors. Below is also a summary thereof...
Summary:
· Our meaningful bias to select Emerging Markets companies (particularly China, 30% of the portfolio) has hurt performance as the US/China trade war has played out and fears of a Chinese economic slowdown have increased. Our Chinese holdings are all domestic consumer facing and largely immune to the impacts of a trade war - however sentiment has seen a broad sell off of Chinese equities regardless.
· To put some additional context on the fund presently - the forward PE is sitting around 11.2x versus the benchmark of 13.8x. The 5 years earnings per share (EPS) history of the companies in our portfolio has shown approx 25% growth relative to the benchmark of 13.5% - and we feel strongly these businesses are primed for continued growth going forward.
· The portfolio, in our view, is 'spring-loaded' for recovery once a catalyst drives global investors back to a focus on business fundamentals rather than macro-driven sentiment.
· We have, of course, also added some new names into the portfolio over recent months - as we take advantage of some beaten up names and stocks on sale
Market background:
· We think selectivity is going to matter greatly because there are areas of the economy and of the market that are stretched very thin. However, we think overall, valuations look fairly attractive and fundamentals look fairly good.
· Looking at past declines on average about 19% decline during expansionary periods like we just had in 2018, there have been six of those since the early '80s. But six out of those six, the next six months after that, on average, the S&P was up 25 percent. If you have a big correction while earnings and the economy are growing, you have a much cheaper and more attractive market at the start of the year.
· We think negative news is more priced, particularly in the companies that we own, which we think look very attractive.
Technical details of companies we own
· The valuation on a forward basis, the PE for the Davis global strategy is 11.2x, versus the MSCI ACWI is 13.8x.
· The EPS growth rate on our portfolio is 25%, versus MSCI ACWI is 13.5%.
· Out of our top 10 holdings, four of them have net cash, five of them have reduced their leverage in the last 5 years, only one has increased its leverage, and that was United Technologies as part of an acquisition.
· We have reduced risk and are getting a below average valuation, and above average growth rate relative to the market. That sets us up very well going forward, and of course there is individual risks with any of these companies, but when we look at the portfolio overall you have to be optimistic given that starting point.
Risky areas in the Market.
· People feel safe in what protected them in the last downturn, so they rush into stocks that have low volatility -- consumer companies, health care companies, utilities. When we look at valuations, on average, the top of the low vol index are trading at around 22x earnings; they have increased their debt around 40 percent over the last five years, and grew at 1 -- or 1.5 percent over that period.
· What we have learned in the past is that, when these companies begin to cut dividends, with the stock trading at 22 times earnings, with no growth and record margins and high debt, it is a dangerous combination and appears to be a micro-bubble.
Chinese economy:
· China was a big contributor and the U.S.-China trade concerns was also a big driver of their underperformance even though our thoughts are that the actual impact on a company is results is low.
· China has been shifting and transitioning towards a consumer-led economy it is about 37 to 38% of GDP today. In contrast, in the United States it is about 66 to 67%; Europe is about 55% of the GDP.
· As the trade war is hurting both economies, however, the negations taking place appears relatively positive, and our expectation is it will be resolved, and there so it is a short-term, not a long-term issue.
· The key takeaway however, is that we don’t invest in a country like China or even in a market like the Chinese market or the Chinese economy; we are investing in individual companies.
· Stock prices have fallen meaningfully; in some cases, 30 or 40% in just a few months. And so, that has really improved the risk-reward or the expected returns of our Chinese holdings.
Representative China holdings:
New Oriental
· New Oriental Education is an example of a company that has seen its stock price decline due to trade concerns but that will not be affected by U.S. tariffs in our view, which is why we added to the position in 2018.
· It is the largest provider of private education services in China, but comprise only 3% of the total market share, and therefore have strong growth prospects. As a percentage of income, Chinese parents spend more than four times as much as U.S. parents on their children is education. This spending is driven by a need to bridge the gap between low public spending on education and extremely competitive university admission rates in China.
· For example, the admission rate for the top 50 U.S. universities is 23% versus an admission rate of only 2% for the top 39 Chinese universities. Admission into these top universities depends on a student is performance on the national Gaokao exam. In anticipation of the exam, students start attending after-school tutoring schools as young as kindergarten age, providing a recurring revenue stream for New Oriental Education, which also benefits from a measurable cost advantage in attracting desirable students as a result of the company is brand name.
· While regulation in the industry is increasing and currently weighing on multiples, we believe fundamentals remain strong and regulation will be a long-term positive for both the industry and New Oriental Education,
· We expect the Chinese education market and New Oriental Education is market share to grow over time. New Oriental Education currently trades at 20 times estimated fiscal year 2020 owner earnings with a foreign-exchange neutral revenue growth rate in the high 20s.
Naspers:
· Naspers is the South African media company that owns 30 percent of Tencent, the Chinese social media and video game company. We believe the numbers are really attractive. Naspers trades at an enterprise value of $80 billion.
· Just their stake in Tencent is worth $120 billion and if you add in the conservatively valued $16 billion of other assets which includes online classifieds or their satellite TV business or food delivery business, then you have got $136 billion of asset value compared to $80 billion of enterprise value. So that is well over a 40 percent discount to the value of their assets.
· We are buying Tencent here at close to a 20 times earnings -- 21 times earnings multiple for a very quickly, rapidly growing business, the leader in social media and messaging. They recently got some good news as the government is relicensing the monetization of video games.
· We like the prospects that Tencent has in China and Naspers has proven to be great capital allocators. We like the big discount there and then also the future prospects of the businesses they own.
IQIYI:
· IQiyi is one of the top three online video companies in China. It recently came public. It is a spinoff from Baidu. So Baidu is a company that owned it, but it is become large enough now that it is its own entity.
· In China, unlike United States, the competition is very weak for online video, as it is largely stated-based free-to-air television with relatively mundane programming
· What is really attractive from an economic point of view is that subscription and just the willingness to pay for content and pay for that content on a monthly basis is growing very rapidly.
· The profitability business is growing very rapidly. From a long-term point of view in terms of usage and where the consumer is going is attractive and then from a business point of view in terms of able to monetize that, it is very attractive especially given that the competition is so low.
Representative global holdings
Google:
· It is a market leader with huge margins, strong cash generation and it is a growing business. Search, where they are the leader and have over 65, 66 percent share in the US, and over 90% market share in Europe. The company is in a very strong position and cannot easily be disrupted.
· In addition to search, they also have a strong position in YouTube, which is a very strong growing business.
· Beyond Search and YouTube if they have the autonomous driving business which is growing rapidly. They have several hundred vehicles now in the Phoenix area that are actually performing an Uber-like service, where you can call and a driverless car will show up, pick you up and bring you to your destination.
· Our Portfolio Manager have spoken to other competitors in the autonomous driving space, and Google are by far the leader in this space. So that is basically what we kind of think of as a free option there. They are also the leaders in artificial intelligence, which will be a big driver of results and performance going forward. We believe they are extremely well positioned.
· Valuation is very attractive today at a 21,22-times PE but growing at 15 to 20 percent a year. And we expect that growth to be maintained for several years and so the multiple is going to be dropped dramatically. So that is a very well positioned with a fortress balance sheet company that is trading at a very attractive multiple.
Wells Fargo:
· Wells Fargo is in its second century of being in this business, enormously durable business model, highest capital ratios in its history -- generating enormous excess capital, went through this period of scandal.
· Currently, about 11 percent of the market cap in a distributable yield each year, and they are under regulatory scrutiny so that money can’t come out right away, but we like that risk reward for a durable business and banking,
Recent additions:
DBS Singapore
· DBS is the leading bank in Singapore with a 60 percent market share. They have been able to leverage that in their low cost of funds there into also becoming a top five wealth manager in Asia, which is a very valuable position. It is an area that is growing.
· South East Asia is a high growth area where trade has been growing very strongly amongst the region. It is only trading at 10 times earnings. And has a five percent dividend yield in addition to its growth opportunity.
DNB Bank Norway:
· Norwegian bank is one of the leading banks in Norway.
· Each citizen in Norway has over $200,000 per capita in the sovereign wealth fund that is generated by their oil reserves.
· It is a very well capitalized country and a very well capitalized bank that is trading at under 10 times earnings, has 4.8 percent dividend yield and is also buying back about 2 percent of their shares annually.
Bank of Butterfield
· And another bank that we have added in the international arena is Bank of Butterfield. It is the top bank in Bermuda. It is trading at only 8x earnings there. Bermuda is a very strong and stable economy.
· It has a 3.5 percent dividend yield. And they, because of the strong cash generation and low multiple there that they are trading at, they are actually buying back 4 percent of their shares annually.
· So we are getting a big chunk of those cash generation back being returned to shareholders. So all of these banks are trading between eight and 10 times earnings with between 3.5 percent to 5 percent dividend yield and also two out of three are buying back a lot of shares.