Avenir Global Fund commentary for the second quarter ended June 30, 2018.
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Q2 hedge fund letters, convention, scoops and so on
The Avenir Global Fund – Class I models (the “Class I Fund”) elevated Three.1%, internet of charges, through the June 2018 quarter. The retail class of the Avenir Global Fund (“Avenir Global Fund”) elevated four.7%, internet of charges, for the quarter and has returned 16.7% since inception on 25 August 2017. The MSCI ACWI index (in AUD) returned four.four% for the June 2018 quarter whereas the S&P 500 returned Three.4percent1.
After the volatility of the primary quarter, the second quarter of 2018 was considerably calmer. The mega-cap know-how shares, once more, did a lot of the heavy lifting when it comes to dragging main markets larger. In accordance with GaveKal Capital (an financial consulting agency), through the first six months of 2018, simply three corporations – Amazon, Microsoft and Apple, accounted for 71% of the achieve within the S&P 500. When you add Mastercard and 4 different tech shares, the mixed group accounted for 105% of the achieve for the S&P 500 for the year-to-date. That, in fact, signifies that the opposite 492 corporations within the index declined in worth as a gaggle thus far this yr.
Regardless of the relative calm through the quarter and regardless of market confidence usually remaining excessive around the globe, we sense an underlying fragility which will result in elevated volatility within the medium time period. This, in fact, can be fantastic information to us as we might welcome a extra balanced view of the dangers and alternatives dealing with fairness buyers than seems to have been the case over the previous a number of years. Whereas we now have no view as to what the market will do over the close to time period, we will’t assist however concentrate on the longer-term headwinds that fairness markets are more likely to face over the subsequent ten years.
The final 25 or so years have usually been excellent for each equities and glued income2. The interval began with very excessive rates of interest within the fastened revenue market and really low price-to-earnings ratios within the fairness markets – each of that are good locations to start out. The interval was then characterised by clear, and largely unchallenged, U.S. geopolitical power, which offered international stability, and noticed the speedy improve in globalisation together with all its advantages. These tailwinds have been then overlaid by an enormous improve in leverage all through the financial system which helped to propel asset costs (together with fairness and glued revenue) up dramatically.
If we glance ahead and attempt to guess what the subsequent ten years may appear to be, nevertheless, we’re ranging from some extent that’s the reverse of what we’ve simply described. We at the moment are at excessive price-to-earnings multiples (and people earnings have been made at traditionally excessive margins3), rates of interest are very low at 2-Three% and there’s already excessive leverage all through the financial system together with corporates, households and governments. Unemployment is about as little as it may possibly go with out resulting in inflation and, in contrast to the relative stability caused by the unparalleled international may of the U.S., we at the moment are in a interval the place more and more robust sovereign counterparties are jockeying for place and we’re observing growing protectionism, populism, nationalism and strongman politics.
General, issues are unlikely to be as beneficial over the subsequent 10+ years and people specializing in passive or index pushed investments could also be disillusioned with the outcomes. We expect that engaging fairness returns can nonetheless be obtained, nevertheless, by looking off the crushed monitor, being very selective and investing solely once we can achieve this with a big margin of security to each shield and compound capital.
Our view of a margin of security isn’t just based mostly on worth however extends to enterprise high quality, administration functionality and capital construction. Low worth alone just isn’t adequate and neither is shopping for a high-quality enterprise at any worth. However the great thing about the general public fairness market is that there are all the time high-quality companies happening sale for one cause or one other and our job is to patiently and diligently discover them. We proceed to see a robust stream of fascinating concepts amongst which to decide on.
As summed up in a current tweet by Jim O’Shaughnessy4:
New Funding – Constitution Communications:
The Fund made one new funding within the second quarter of 2018, Constitution Communications (CHTR:NYSE). We now have been observing Constitution for a while however felt the margin of security was not enough for our necessities. When the share worth fell from a excessive of $408 per share to $260 through the June quarter we determined to behave.
Our funding thesis for Constitution was picked up by Barron’s journal and revealed on 10 July 2018. Whereas we offer a quick abstract under, if you need to learn our funding thesis, as outlined by Christine Jurzenski, certainly one of our Funding Analysts at Avenir, please see the article revealed in Barron’s right here.
Constitution is the second largest cable firm within the U.S. offering 27 million households (out of the 50 million households ‘passed’) with broadband web, tv and phone providers. Constitution is a toll-road on the web freeway and is the most important broadband supplier in a lot of the areas by which it operates giving the corporate a monopoly-like construction and skill to boost costs on common 5% every year.
Constitution is usually categorized as a tv firm, but it ought to actually be thought-about a broadband enterprise. We estimate broadband makes +50% EBITDA margins in comparison with the 30% margin for the entire enterprise. Tv is much less worthwhile because of excessive programming charges which have grown from 28% of cable TV revenues 20 years in the past to virtually 65% in 2017 with content material suppliers demanding extra of the pie yearly.
The corporate trades cheaply as a consequence of destructive views on the current development of ‘cord cutting’ whereby clients finish their cable TV contract and depend on streaming content material over the web. Nevertheless, within the US, tv and web journey over the identical twine and this ‘television cutting’ may be advantageous to Constitution. The corporate not solely makes extra money on internet-only packages, on account of not having to pay the rising programming charges, clients additionally use twice as a lot web knowledge once they cancel their tv package deal.
Constitution has a cloth debt load which, we expect, is acceptable for a corporation with recurring income streams and we view Constitution as a ‘public LBO’. Constitution has an efficient duopoly with the most important cable enterprise, Comcast, though the negligible footprint overlap between the 2, signifies that they not often compete immediately. The event of 5G cellular wi-fi know-how, nevertheless, is a possible future danger.
We anticipate capital expenditure to taper from 20% of income to nearer to 15% as digital and cloud know-how require much less upkeep sooner or later. The elevated free money stream will probably be used to purchase again shares at an aggressive price. Over the previous yr, Constitution has purchased again $13 billion value of shares, decreasing share rely by 12%. Ongoing buybacks might help drive a +20% every year progress in free money stream per share over the subsequent a number of years. Assuming the corporate continues to commerce on the present 5% free money move yield, Constitution could possibly be value $575 per share, virtually 100% above the present worth, in three years’ time.
Choose Portfolio Updates:
Our largest gainer for the quarter was Adairs (ADH:ASX), the Australian specialty retailer, which gained in worth by 16% ending the quarter at $2.23 per share persevering with its lengthy climb again from the $zero.56 per share reached in mid-2017. In the course of the quarter, Adairs offered a buying and selling replace which pointed to love for like (LFL) gross sales progress within the Australian monetary yr up to now (1 July 2017 to 15 April 2018) of 16% with LFL gross sales within the fiscal second half up to now (1 January 2018 to 15 April 2018) of 18%. Adairs on-line gross sales grew 99% and now characterize virtually 13% of gross sales. Illustrating the robust working leverage obtained by such excessive LFL progress, the corporate revised steerage for working revenue for the complete yr (to 30 June 2018) up by eight% (on the midpoint) and recommended that the corporate is more likely to be able to think about capital administration initiatives in FY2019.
The second largest contributor for the quarter was Safran (SAF:PA) which elevated in worth by 21% to finish the quarter at €104 per share. Saran has been a robust performer for the Fund having gained 44% since our preliminary buy at roughly €72 per share in April 2017. 2018 is a vital yr in Safran’s transition from the legacy CFM56 engine to the subsequent era Leap engine and prices can be greater whereas this transition takes place. With 14,000 Leap engines on backlog (as at 1Q2018) and the corporate concentrating on annual manufacturing of two,000 engines per yr by 2020, there’s loads of progress forward of Safran. An equally necessary driver of progress for Safran is the elements and repair income to return from its 35,000+ engines bought over the previous 35 years. Within the first quarter of 2018, Safran’s civil aftermarkets enterprise grew 16.four% in USD phrases pushed by spare elements gross sales.
Our largest decliner for the quarter was KB Monetary (105560:KOSE), the Korean financial institution. KB Monetary declined by 16% to finish the quarter at KRW52,800 per share. KB declined regardless of first quarter outcomes being forward of expectations with internet revenue of KRW946bn beating consensus by 9% and representing progress of 11% yr over yr. KB presently trades at zero.6x ebook worth, regardless of incomes near a 10% return on fairness, which means a 17% annual return on our funding, and roughly 6x ahead earnings. KB is the most important business financial institution in Korea and has been solidly enhancing its profitability over the previous a number of years and stays in our view, low cost.
We now have confidence within the underlying stability of worth within the corporations in our portfolio and consider they’re competitively well-positioned of their markets. In our view, they’re additionally priced at engaging absolute ranges with costs properly under our estimates of underlying worth, providing us what we consider to be a horny margin of security.
We wouldn’t have a crystal ball to find out what fairness markets will do over the brief to medium time period or whether or not engaging market returns could also be more durable to return by over the subsequent 5 to 10 or extra years. We consider, nevertheless, that our value-oriented and concentrated funding strategy will proceed to generate good funding outcomes for our buyers over time, and the group at Avenir stay energised and targeted in our seek for the subsequent nice funding.
“Persistence is a secret weapon for everyone.” – Liu Wen
Avenir Global Fund