2011 was an important year in the life of many South Africans as it was time for the quadrennial Rugby World Cup; with South Africa holding the prestigious championship title from 2007. Who could forget our heart-wrenching loss of 11-9 against Australia in the quarter-finals?
2011 was also a significant year for Nedgroup Investments and Abax, as the first of July of that year marked the launch of the Nedgroup Investments Opportunity Fund, with Abax as the appointed fund manager. Today, four years later, we reflect on the fund and its development since then.
We were extremely excited at the launch of the fund as it was our first entry into the multi-asset space. Although we were confident that we could add value in this sector through the use of our stock-picking skills, our hedge fund skills as well as using our proprietary asset allocation model; this still had to be tested. Looking back over the last four years we are grateful for the performance to date. Investors have overwhelmed us with their support with the fund having grown from a humble beginning of R100m to over R4 billion currently. While performance has been gratifying, you are only as good as your last game and we continue to try and refine and optimise our process. In this article we would like to give you some insights into the development of our international equity process.
In the early days, post-fund launch, our offshore equity exposure was derived from offshore ETFs. As we came across specific offshore opportunities and our confidence grew in our international process, we continued to switch our ETF exposure to direct equity exposures. For the past 30 months we have been running the offshore portion as a dedicated sub-fund. The stock selection and portfolio construction for this offshore component follows the same process that we’ve been using at Abax for local equities. The same process has delivered performance for the past 13 years.
The Abax process is a bottom up, fundamental stock analysis and selection process where we build a portfolio of stocks in which we have high conviction in our valuation. We prefer companies with strong business models, meaningful competitive advantage, good earnings growth, a strong balance sheet and appropriate cash generation as well as capital management. We are wary of the unknown; be it regulatory interference, management or legal environments.
In managing the offshore portion of the fund, we follow the same process. Since the global universe is so large and diverse however, we have developed a number of filters to screen potential stocks before we start doing more detailed fundamental research. We filter using a combination of various metrics:
- on a quantitative basis (e.g. stocks with high ROE, good cash flow, low P/E),
- on a thematic basis (e.g. growing potable water scarcity, lack of access to affordable healthcare, the rising importance of renewable energies), and
- on a parallel basis (i.e. companies related to South African stocks that we know very well: global brewers as peers for SAB, global telephone companies, diversified miners, and hospital groups, for example).
Lastly, we continue to seek investment ideas in whatever research we do and wherever we travel. It’s important to stress that as the universe of potential stocks is so much larger than that of South Africa, we lift our conviction hurdle even higher, with the result that our portfolio only includes stocks that we are really comfortable with.
This process has resulted in a relatively concentrated foreign equity component within the Nedgroup Investments Opportunity Fund, containing 25-35 stocks at any one time. At present the top 10 foreign equity holdings make up 63% of the foreign equity portfolio and include stocks like Volkswagen, Reynolds American Tobacco, Haier Electronics, Samsung, Microsoft, Amazon, Whirlpool, Walt Disney and Delphi Automotive. These are all well-known companies with excellent global brands and solid, consistent financials, and many of them play closely on interesting structural themes. A number of these holdings have appreciated handsomely since inclusion in the Fund and no longer offer the very low PE multiples that made them so attractive to begin with. As such, they now need to ‘defend’ their position in the portfolio against new ‘contenders’ that come from our stock selection process. As an example, we recently sold some Chinese holdings after the very strong China stock market rally and replaced them with Al Noor, an Abu Dhabi based hospital group; and Michael Kors, a fast growing, affordable luxury group.
This approach has worked well and a study of the offshore carve-out indicates that it has outperformed the MSCI All World Index by 19% in USD since inception some 30 months ago (as shown in the graph above). At present the foreign equity component within the Nedgroup Investments Opportunity Fund holds 24 stocks, has a 12 month forward PE of 13.4, a dividend yield of 2% and on average the stocks held have a three to five year earnings growth expectation of 14% per year.
Four years later and it is again a Rugby World Cup year. Hopefully South Africa can perform offshore and emerge victorious on the 31st of October. Similarly we would hope that our refined international process will continue to build on the excellent results to date.