What 2021 has left us with…
As we enter the new year, it is important to take a brief stock of how our products performed in 2021.
NEF ETHICAL GLOBAL TRENDS SDG
After spending the first three quarters well above the benchmark (MSCI World Value NET), the fund almost caught up with it in the final quarter of the year, when it achieved a spectacular positive performance of around 9% against around 3% for the fund. The year therefore ended with the retail class of the fund up 28.86% (30.49% for the institutional class) versus 28.51% for the benchmark. Since inception, the fund has outperformed the benchmark by almost 9%. But let’s see what happened during the quarter.
1) The US dollar gained around 3% in the third quarter. This was good news for our fund, which gained 1%, but even better news for the benchmark, which gained 2%. The benchmark is around 60% exposed to US dollars. Our fund maintains an exposure to the dollar of around 30%, both to keep the exposure of the investment to a currency that is not the one used by the fund’s investor at an acceptable level, and to maintain the flexibility to opportunistically increase or reduce this exposure (in a min-max range of 15-45%). Below 1.10 we would be happy to reduce the dollar by 5%, partly consolidating the gain. Indeed, we believe that at those levels political pressures to control the appreciation of the greenback begin. In addition, we believe that the market is too negative on the evolution of euro rates and that any indication that things may change here could produce a violent reversal of the trend.
2) US stocks, an area we are underweight on for valuation reasons, have largely outperformed other regions.
3) In the benchmark, large oil and consumer staples stocks are very heavy and did very well in the quarter. Examples include Chevron (+14%), Coca-Cola (+15%) and Procter&Gamble (+16%). Oil stocks are outside of our investment policy, both for the fund and for Niche AM. Large consumer stocks, on the other hand, have a low SDG score and are not considered to be value stocks. For example, Coca-Cola has a forward EV/EBITDA to 2022 of 21x and P&G of 19x. These multiples are difficult for us to justify.
We are happy with our portfolio, which is highly diversified in terms of the number of stocks (around 220), geographical weights and sectors, with extremely low valuations (around 30% discount to benchmark multiples) and, above all, made up of companies that are bound to benefit in the coming years from the major trends linked to the SDGs.
Pharus Electric Mobility Niches
The fund returned 17.1% in 2021 (retail class). There are two ETFs exposed to batteries, one follows the Solactive Global Lithium Index (LIT) and the other follows the EQM Lithium&Battery technology Index (BATT). Both of these ETFs did better than our fund in 2021 (+46.5% and +22.3% respectively). However, it should be noted that there is a big difference between these technology indices and our fund. Ours is a value fund. Just as in 2015, with another management house, we launched and managed the world’s first fund on electric mobility, in 2019 with Niche AM we launched the world’s first VALUE fund on electric mobility. This makes it possible to greatly reduce the possibility of permanent loss of capital, which is significant in tech products during speculative phases such as the current one. The fund has a 70% exposure in Japan, 20% in Korea and the rest is invested in Europe. The fund’s strategy is to get ahead of other investors by investing in companies that the market has not yet recognised as players in electric mobility and are therefore still trading at very low valuations. The companies it invests in are companies that have been in the market for many years, are profitable and have solid balance sheets.
The fund’s portfolio has a price/earnings ratio of around 8.5x and an EV/EBITDA of around 4.4x (below is a sample page taken from the fund’s presentation).
The two listed ETFs mentioned have multiples of 3 to 4 times higher, while excluding over one third of the stocks that are not profitable.
The retail class of the fund has increased since its inception in June 2019 by 58.1%.
Pharus Asian Niches
Thanks to its exposure to decoupled niches and its investment policy which allows it to invest marginally outside of Asia, the fund withstood the unpredictability of the Asian market well over 2021 and outperformed the MSCI Asia Pacific Value NET index (+8.2%) (retail class) while showing much lower volatility. The fund has also outperformed this index since its inception (22.9% vs. 6.3%) and is solidly ranked number 1 in Morningstar’s 1-year Asia Balanced category.
2021: What went very wrong?
We don’t see much point in talking about the many stocks that did well during the year. Instead, let’s talk briefly about some of the major stocks we have in the various funds that did very poorly during the year.
PANASONIC
In June 2019 in Bologna we predicted in front of a sophisticated audience that Panasonic would outperform Apple. At the time, Apple’s earnings momentum was flat, while Panasonic was promising thanks to the growth of its electric mobility, logistics, robotics and home automation divisions. Moreover, the former was tied to a brand of consumer electronics that historically never lasted and was sadly lacking the genius that had founded it. The latter, on the other hand, was highly diversified across five divisions with largely unrelated trends and profits. In addition, Panasonic seemed to be making progress in terms of governance and transparency, while Apple was increasingly in the regulator’s sights because of its dominant position. Finally, Apple was worth 20x its profits and the latter 8x. What has actually happened since then is that Apple has more than tripled (from USD 50 to USD 172), while Panasonic has appreciated by 50% (the dividends paid by the two companies are comparable). What happened? Apple has actually seen its operating income rise by 50% since 2019, but thanks to its mighty buyback and tax optimisation it has seen its P/E rise “only” to a value of 35x. Panasonic reported flat earnings since 2019 (thanks to COVID) and benefited from a rerating from 8x to 12x earnings.
In 2021 Apple appreciated by about 50% while Panasonic was flat.
The first lesson is that the manager is often wrong. The second is that in company analysis the glass ball does not exist, but what does exist is a risk/benefit profile. In 2019, Panasonic was objectively less risky than Apple due to its diversification and valuation. In terms of benefit, Panasonic was also at least as attractive on paper as Apple thanks to the explosion of e-mobility that saw it as a major battery manufacturer. Its competitors were valued handsomely, while it, being its division immersed along with the others, was forgotten.
Today, the 2019 analysis is clearly even more relevant. Apple is dominant in a market that is no longer growing. It has the advantage of having no real rivals in its market segment. But things change, and since it does not invest, it will lose the top brand status that allows it to price its phones at a 100% premium over competitors of equal quality. Its growth potential in software is well balanced by the risks associated with the regulator, who does not want the company to limit the access of other software companies to its platform or impose substantial fees on them. If we add to this the fact that it is worth 35x earnings and that since Jobs died it has never been able to innovate or develop another business, then it is clear that the risk/return profile can only be negative in our opinion.
Panasonic could list part of its battery division, which is a major supplier to Tesla and Toyota, and this would allow it to show off its enormous hidden value. The upturn in travel would bring lifeblood to the airplane infotainment division, a world leader in the sector. The acquisition of Blue Yonder (logistics software) could lead its logistics division to become one of the global market leaders. Home automation and air conditioning systems have excellent potential, as does its ADAS division. The recovery of physical investments would then have positive consequences in many of its sub-divisions. At 12x earnings with a modest operating margin of 4%, any improvement could be taken very well, any deterioration is enough in prices.
ORANGE
Orange is a geographically very diversified European phone company. It is coming out of a difficult phase in France, Belgium and Poland, while it is still struggling in Spain where, however, improvements can be seen. It is also the leading African operator with a presence in many countries in the region. This is where its SDG profile is particularly powerful and where future growth is guaranteed. Orange has debt below 2x EBITDA, a threshold that makes it very solid. It pays a 7.5% dividend, which in a world of negative rates should make it irresistible. The valuation under 5x EBITDA and 9x earnings is very attractive. However, the stock is stuck. Not considering dividends paid, it lost about 5% in 2021. Let’s wait for the market to take notice and collect dividends in the meantime.
ENEL CHILE
We have mentioned the stock several times. The company has been the victim of political fears in Chile, of belonging to a strategic sector that wanted to be nationalised by Allende in the 1970s, of the forced liquidation of large holdings in Chilean social security institutions that have to pay pension advances to their members as a result of left-wing populist demands, and of an unprecedented drought that has forced the company to make up the shortfall in hydroelectricity at its own expense just when the spot cost of natural gas was soaring. The stock is a laboratory for Enel, which is developing one of the world’s greenest utilities and the first major exporter of clean gas (green hydrogen) here. Enel Chile is worth 0.7x tangible equity. Today, after the Chilean political elections, the ingredients are there for this company to become investable again.
ATOS
As we write, Atos has issued yet another profit warning to coincide with the installation of its new CEO. The market is taking this badly, but it is customary for a new CEO to be particularly tough on discretionary items upon taking office in order to create a lower base on which to improve his performance. Without going into detail, we don’t see this event changing our position on the stock, in fact it makes it more attractive due to the downturn in the market.
Atos is a more sustainability-conscious Accenture, but much worse organised and poorly managed. However, it does have great talent and resources within it that need to be properly exploited. This poor organisation means that the stock trades at a sales valuation below 15% of Accenture’s best in class (a discount of 85%, not 15%!). The management has changed and is finally of quality. Now we are waiting for either a turnaround or a merger with Capgemini.
TEIJIN
Present in the fields of nursing home management, software for clinics, telemedicine, composite materials, special materials and pharmacology. All sectors with great potential for growth and instrumental in achieving the SDGs that have simultaneously encountered problems. The company trades at 1x tangible equity and 8x earnings. We believe earnings momentum will pick up soon and a significant rerating is due. Its diversification, strength (ex. equity and cash, the company has almost no debt) and exposure to growth give us hope for its future.
Citigroup
The only US bank we hold as it is the only value one, i.e. with very low valuations relative to short/medium-term prospects, as well as being by far the most exposed US bank to microfinance. A series of internal organisational problems has weighed on the company, which is now in the hands of the talented Jane Fraser, a Citi veteran, whom the market does not yet trust. Great brand, good exposure to emerging markets (now considered a downside but we know how everything changes…) and strong franchise in the US. At 0.8x tangible equity and 8x 2022 earnings, it trades at a discount of between 35 and 70% to the other big US companies.
These are just a few, macroscopic examples of the various value companies exposed to one or more SDG trends that, for one reason or another, during 2021 (and one even during the early days of 2022) have continued to slide, becoming even more value. They are all characterised by low debt, a valuable franchise, good cash generation capacity and diversification. If these elements do not eliminate their risk, they certainly limit it a great deal, and thus allow us to accumulate them on weakness, while waiting for the expected turnaround to take place. However, we must never forget the necessary diversification.
2022 looks rather complicated, with many “known unknowns” that have been debated by experts, politicians and journalists for months now. In general, however, we tend to fear more the years where everything seems easy.
Macroeconomic phenomena are never predictable and we do not waste too much time trying to anticipate or debate them. What we see is a financial system that is completely in the hands of central banks and governments who are responsible for managing it and also protecting it. This in our view shields us from extreme scenarios.
In line with our fundamental approach, we focus on individual companies. Here, as we look and review our portfolios, we cannot hide our positivity and enthusiasm for the coming months.
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