Walter Aylett from Aylett Fund Managers, the portfolio manager of the Nedgroup Investments Bravata Worldwide Flexible Fund, provides an update of the Fund’s recent performance and the case for South African stocks.
The Fund sets out to achieve an inflation plus 5% return over a rolling 3-year period with the flexibility to invest across all asset classes and jurisdictions without any asset limitations. The equity portion of the Fund typically ranges between 45% and 90%. This flexibility was demonstrated recently with the allocation to SA bonds where leading into the crisis the Fund held 0% in bonds but, as rates spiked in March, increased the allocation to around 15%, which positioned the Fund to benefit from the rally in SA bonds during April and May. When it comes to equites, the focus is on long-term factors that drive the performance and valuation of companies. The Fund gives investors exposure to iconic stocks, such as Berkshire Hathaway and IBM and some interesting offshore emerging market exposure in stocks such as Oriental Watch Holdings and Melco International Developments. The Fund currently has quite a high cash position both locally and internationally to be deployed during what we expect to be quite a volatile period for growth assets around the world. Over the longer period, the Fund has been able to deliver compelling returns of inflation plus 5% over 10-year periods
The South African environment
Interest rates are the lowest they’ve been in the last four decades and we’ve been downgraded. Our bonds were hard hit by COVID-19, but have strengthened. The Rand was the shock absorber and weakened from R17 to about R14 reflecting the considerable pessimism towards South Africa. Listed and unlisted property values have also fallen significantly. Over the last five years, we’ve had very low growth, poor stewardship of the economy, a sovereign downgrade and the economy in an already precarious position before COVID-19. The pandemic has really served to magnify these problems.
Investing in SA vs offshore
There’s always a silver lining with bad news. We would probably have been in a worse deficit position in three years’ time had COVID-19 not happened. The crisis provided opportunities to invest in SA companies that are listed in South Africa but aren’t necessarily subject to the domestic economy, i.e. their prospects have very little to do with South Africa, e.g. Reinet, BAT and RB Plats. Most SA companies that we own already reflect significant pessimism and are priced for the ‘end of the world’ with COVID just making it worse. What has been pleasing is that all our companies, who have weathered many crises before this one, delivered better Q1 results than expected. The businesses we have bought in SA are very well run. They’re mostly owner managed with strong balance sheets and are taking market share from other competitors in South Africa. Selling SA assets now because of COVID would be similar to selling in times like 2001 and 2008, which would just serve to lock in the losses.
Top Fund holdings
Reinet has always been a favourite of ours and BAT is in there. At the end of June we had an 11.6% holding in Reinet. We reduced our holding in Berkshire Hathaway by 1.9% down to 8% to free up some cash to take advantage of opportunities. We have a 5.3% holding in Melco International Development, a casino in Macau that cannot trade with COVID. Transaction Capital where we hold 5.1%, has raised some capital to buy some available distressed debt. RB Plats is a very good mine that’s coming to the end of its development of its new mine and is well placed going into the future and we have a 5% holding. We have a 2.9% holding in AECI, which has done well and suspect they will revert to their blue chip status. We have 2.8% in both Bank of New York Mellon and British American Tobacco. Oriental Watch Holdings, based in Hong Kong, sell Rolex watches and have just posted superb results and we will again get about a 6% interim dividend. Our holding is 2.6%. Finally, IBM is a cheap technology company where we have a 2.3% holding giving us 6%-7% dividend yield in Dollars.
We’ve always said that should the Rand weaken and should SA disappoint, Bravata wouldn’t do that well, so these results aren’t surprising. The Fund posted returns of -2.2% year to date and 9.5% for Q2. When we look back in a few years’ time, we will comfortably have beaten CPI plus 5%. The top contributors were USD cash (4.3%), R186 (1.7%), Reinet (1.3%), UK T-Bill (0.5%) and Longleaf Asia Pacific (0.5%). Detractors included AECI (-0.9%), Hospitality Prop (-0.9%), Redwood Trust (-1.1%), Tsogo Sun Holdings (-1.6%) and RB Plats (-1.7%).
What is the rational thing to do?
It does not make sense to sell cheap local assets as you would need to translate these funds from a cheap currency into an expensive one, such as the Dollar or Euro to buy expensive offshore assets, i.e. bonds or equities. The rational thing to do is to buy assets that do well from a weak Rand, i.e. a Rand hedged stock with Dollar revenue and Rand costs. Or, if you find something really cheap offshore, buy it. The irrational thing to do is to panic, take money offshore and put it in the bank.
We think US markets are fairly valued, particularly the top 20 part of the S&P. Many shares, but mainly the cyclicals and banks are already down 40% - 50% and are being supported by the tech stocks. Europe has a problem in that it is not creating jobs and has some serious problems. The UK has Brexit to deal with. Latin America and Africa don’t really feature, which leaves Asia, primarily Hong Kong, and South Africa, which is where the Fund is placed. Both Hong Kong and South Africa suffer from political issues, lack of positive sentiment from internationals, but yet there are some very good companies in both regions, which are exceptionally cheap and is where we’ll put our money.
The portfolio doesn’t turn over a lot and we’re certainly looking for new shares and investments. If the facts change, we would exercise flexibility and move quickly. Despite the attractive valuations of SA companies, we will limit our exposure to not more than 30% going forward. Incremental investments are likely to be made in companies of SA origin with foreign revenue and costs whose valuations more than adequately factor in the perceived risks. Our foreign equity and foreign cash allocations are 36% and 15% respectively. SA cash and money market is 13%, property and preference shares are at 1% each and SA bonds are 2% (less than 1-year duration).