309. The three keys to investing success

25 April 2024 (pre-recorded 21 April 2024)

Below is a transcript of the episode, modified for your reading pleasure. Please check the corresponding audio before quoting in print, as it may contain small errors. Please remember we’ve been discussing individual companies to bring investing to life for you. It’s not a recommendation to buy or sell. The fund may or may not still hold these companies at your time of listening. For more information on the people and ideas in the episode, see the links at the bottom of the post.

[NTRODUCTION]

Staci West (SW): Welcome back to the ‘Investing on the go’ podcast brought to you by FundCalibre. This week our guest emphasises the intricacies of balancing macroeconomic data with investor sentiment and where he’s finding an abundance of value opportunities for the patient investor.

Chris Salih (CS): I’m Chris Salih, and today I’m joined by Vincent Ropers, manager of the Elite Rated [IFSL] Wise Multi-Asset Growth fund. Vincent, thanks for joining us once again today.

Vincent Ropers (VR): Great to see you, Chris.

[INTERVIEW]

CS: I guess let’s start with the fund, the portfolio itself, we’ve mentioned it before that it’s 20 years old this month and you’ve obviously been running it for the past seven years. Those seven years have been incredibly busy, the likes of Brexit and Covid to mention a couple of things. I guess right now, given what’s going on in the backdrop of markets, could you maybe tell us how challenging it is when you sort of compare that to some of the other events during your tenure?

VR: Yeah, sure. Well, interestingly enough, the fund launched the same year that I started my investment career, so 20 years ago as well. But as you say, the past seven years has certainly been eventful. I think whenever you ask a fund manager whether a period is easy or difficult relative to history, I would be surprised if anyone tells you that it is easy at the moment. As soon as you lack hindsight, every situation in financial markets is looking quite testing because I think, by nature, markets are there to humble you and there’s never two periods that look similar.

At the moment, I would say there is a huge amount of noise which makes it quite challenging. There’s a lot of noise in terms of the macroeconomic data but it’s not only that; the markets at the moment are more driven, it seems, by investor sentiment, which makes it doubly challenging for people like us that are trying to invest our client’s money and beat the market because you’re not only trying to figure out where the data is going, but you are trying to double guess what investors are going to make of that data. And from one month to the next, a positive economic release might be perceived positively by the market or it can be perceived negatively. So, that bit is challenging.

However, I would say that the positive at the moment is that there is a lot of value out there. So, irrespective of the daily, weekly, monthly noise that we see in the market, we’ve got the confidence that, for the patient investor like us, we can see that there is a lot of value and that value will ultimately be realised. And that makes it in a way less challenging than, let’s say, pre-Covid 2019/2020 when valuations as a whole were quite elevated and it was getting increasingly difficult to find attractive value opportunities in the market.

CS: So, it’s not a case of looking to show conviction, it’s more a case of being patient with those areas that you’re finding value.

VR: Absolutely.

CS: Okay. Let’s talk about a couple of areas that you have focused on in your time and the whole life of the funds as well, really. You’ve obviously been big supporters of investment trusts as a way to make gains in the market. We talked on this forum before about that. Could you maybe just talk us through some of the opportunities you’re spotting in the market and whether you are still as concerned as you were before about some of the wider issues around the closed-ended market at the moment?

VR: Yeah, so investment trusts have, since the launch of the fund, represented between 60-80% of our allocation so it’s always been a big part of what we do and has been a big reason, a big positive contributor to our performance over the past 20 years.

In a nutshell, I think investment trusts are the perfect structure to allow retail investors to invest in less liquid or illiquid asset classes like private equity, infrastructure, property, et cetera so we’ve always been a big fan of the sector.

As of late, I think the sector as a whole has had a difficult time. So several reasons for that. Higher interest rates have led to revaluation of the more income generating strategies, which represent about half of the investment trust sector at least. We’ve had continued outflows from UK equities where as you know, investment trusts are listed so that hasn’t helped. There is a continued consolidation in the wealth management industry, and wealth managers are big investors in investment trusts, and as they consolidate, they become bigger and thus can’t afford to invest in the smaller trusts, and thus triggering some forced selling.

And finally a big reason for the challenges in the investment trust sector of late have been regulatory pressure which are forcing costs to be disclosed in a way which we think is misleading – we and the rest of the industry to be fair – consider to be misleading and force us to double count the costs that we need to disclose to clients. And when clients look at that, of course, they are understandably worried about it, and that can lead to outflows in the sector.

But with all of that said, I think the sector is more than 150 years old, [it] has shown time and time again that it can be extremely resilient. As I said, it is, as of now, the only structure that allows retail investors to invest in illiquid assets. And as we know, there is this big push, rightly so, for capital to be directed into areas like renewable energies, infrastructure, and the only way to attract retail clients’ money into those assets is really through investment trusts in my mind.

And lastly, it is encouraging to see that there is more and more activism or shareholder activism going on with a lot of people based in the UK and abroad that realise how much value there is in the investment trust sector at the moment and are trying to shake things up in order to realise that value. So not only is there shareholder activism, but there is also consolidation in the sector with mergers between trusts, et cetera. And generally boards of investment trusts, which are there to act on behalf of shareholders like us, are taking this into account and are doing what they can in order to realise that value. So there again, as I was saying in your first question, it is a question of being patient. We are seeing lots of opportunities there and we’re trying to take advantage of it.

CS: Okay. Let’s touch on a couple of those areas that you’re seeing that value in. A couple of those specifically are in the investment trust space. So, we’ll start with private equity where you’ve had about 10% in the asset class, and you know, you’ve said before that that’s been supported throughout the life of the fund as an asset class. Is it as attractive as ever at the moment?

VR: It certainly is very attractive. So we have, as you said, about 10% direct in private equity. We’ve got other strategies that invest in private equity alongside public markets as well. So when you put it all together, our private equity allocation is probably around 15%. It remains extremely attractive. The investment trusts that we have in that sector trade on average at around 30-35% discount. It’s not as attractive as it was six months ago when those discounts were more 45-50% but it still remains very wide compared to history and also very wide compared to the quality of the assets that are in those portfolios.

If we take one example, Oakley Capital Investment Trust, if we look at the performance of their assets, they’ve recorded 20% annual growth in their net asset value over the past five years and yet the trust trades at a 30% discount to those net assets. So, there is still that very big disconnect between what those managers are doing and how it is perceived by the market.

I think a point which is important to make is that when we invest in private equity, we are not talking about venture capital. We are talking about private companies that are already in the main part quite mature. Most of them are profitable which means that the managers have got very good visibility in terms of what the future earnings are going to look like. And what those managers are trying to do is not only find great companies that are private, but also use platform effects to put several of those private companies together where they can get synergies and thus increase the value in those companies. So, and I think this is something that a lot of investors misunderstand when we talk about private equity, they think risk immediately, they think venture capital, which is investing in companies at a very early stage before we have that visibility in terms of profitability. And it’s important to make the distinction.

CS: Okay. I want to move on to a couple of other areas, that we talked about with that valuation bias as well. Ones that come out are biotechnology and also UK equities in general, but maybe we’ll focus on that as well. Could we perhaps spend a minute on both, if possible?

VR: Sure. So biotechnology is an area we’ve been adding to for the past couple of years. It’s about 10% of the portfolio now, biotechnology and healthcare. And what we like there is not only some very powerful structural trends behind the sector. So, you’ve got an ageing demographic which means that there’s more and more need for care and for drugs to cure an increasing number of diseases as people live longer. Another trend is we are seeing tremendous innovation in the sector, probably at the record speed at the moment with which we saw also during Covid, the speed at which the Covid vaccine was developed was no fluke really. It was really because innovation had been accelerated until that point, which made that possible. So we’re seeing an increasing number of drugs coming to the market.

There is also this market dynamic that leads large healthcare companies to look for acquisition in the smaller biotech space because they’re running out of a lot of the historic patents in the main drugs, [the patents] are running out over the next few years. So they need to replenish their drug pipeline and the easiest way to do that is by acquiring those drugs from other companies.

So, there are all those very powerful trends, and at the same time if we look since 2001, we’ve seen the longest – in terms of duration and the longest in terms of magnitude – bear market in the sector. So bear market being the sector falling months, months after months. So, the sector is extremely cheap in absolute terms relative to the rest of the market. And that’s an area that we find extremely attractive at the moment.

And as for UK equities, well I touched on it a tiny bit earlier. We’ve had years after years of outflows particularly since Brexit, across UK equities, but over the past couple of years particularly in the small and medium-sized companies which have underperformed the larger ones. And that is an area which we find particularly attractive. We find a lot of value there, a lot of very exciting companies, which, contrary to maybe popular belief, are not domestically-oriented. There’s a lot of a large proportion of revenues, even in the smaller UK companies, that is coming from abroad. So, you can build a portfolio of UK small companies, which is still internationally biased, so that can be quite attractive. And that’s an area which we have been focusing on. And in our growth fund, we have about 16-17% exposed to UK equities as a result.

CS: I want to turn to one other area. We’ve talked about a lot of areas where you do see value, you tend to steer clear of direct exposure to US managers. Maybe just go into a bit more detail on why, because obviously a lot of those areas will probably, we know those big behemoths have been driving the market in the shape of AI. Could you explain how you approach that and why you sort of steer clear of some of those large US managers?

VR: Yeah. Well, I think valuation, in one word, is the key. We find US markets being too expensive, not only on several metrics [but also] in absolute terms, relative to their own history, relative to the rest of the world. We can find much more attractive – in our mind at least – areas to invest in. Since we’ve got a global fully flexible mandate, we can invest everywhere in the world and in any asset class we find, and we are struggling to justify investing in US equities because of valuations.

The market, as you said, has been driven by those very large, mainly tech, companies. And those so-called Magnificent Seven names represent about a third of the index. The US equity index is as concentrated in its top 10 holdings as it’s been since the mid-seventies, and that to us, that very big concentration risk, is a problem because it doesn’t take much for one or two of those companies to roll over for the whole index to come down with it. So that’s why we don’t have any, as you said, any direct US managers in our portfolio.

That doesn’t mean we don’t have any US equity exposure in the portfolio but we get that exposure through maybe some more indirect route. So, we were talking about biotechnology earlier. Most of our biotechnology managers invest predominantly in the US because that’s where the market is for those companies. So those are US companies. We touched as well on private equity. A large part of our private equity portfolios are US companies. And then we’ve got global managers predominantly with a value bias that will find opportunities in the US but those opportunities are certainly not going to be in the top seven or top 10 names in the US. So, they tend not to be in the technology sector, much more medium-sized companies or smaller companies.

CS: We talked earlier about that embedded value you are finding in the portfolio. You’re finding lots of opportunities at the moment. Are there a few other examples beyond some of the ones we’ve already discussed that you are finding attractive?

VR: Yeah, sure. Well, I think in terms of the embedded value in the portfolio, one good metric that we use is to look at the average discount of the holdings that we have in the the Wise Multi-Asset Growth fund. At the moment the average discount is at 16%. And if you compare that with where it was pre-Covid, it was at 8%. So, on that metric – obviously it doesn’t translate exactly like that – but you would say that we’re twice as attractive now as we were before Covid.

In addition to the sectors that we touched on earlier, we’ve got exposure to mining. So there we’ve got two names, BlackRock World Mining Trust, a generalist mining fund. We also have exposure to gold through the Jupiter Gold & Silver fund. And what we like in that sector is that it is very cheap and market expectations for the sector are very low. So, already, if you put those two together, that’s usually a very good recipe for strong future returns.

And then there is the growth element in the sector, which [is] this massive tailwind coming from the decarbonisation drive in the sector, which is going to keep the demand for industrial metals extremely high and increasing over the next few years. And in the meantime, it’s been a difficult year for the sector. But in the meantime, cash flows in those companies are very attractive and trusts like the BlackRock [World Mining] Trust that I mentioned is offering 6% dividend yield which we find quite attractive.

Another area also on that decarbonisation tailwind which we like is infrastructure and utilities. So we’ve got two holdings there. That’s another area that we like. And that – a bit like mining – combines both the growth tailwinds as well as some defensive characteristics, which is usually something that we like.

And finally, well, generally speaking, value equity strategies. I mentioned earlier we’ve got global value managers. We also have regional value managers in Europe, Japan, Asia and UK of course. And those managers are finding a lot of opportunities out there. And the great thing about those opportunities is that it’s not necessarily in very cyclical industries. So you can find great companies that are cheap on a number of valuation metrics without necessarily taking a lot of macro risk, which is something that, once again, we like particularly. And those companies tend to have also very good or very strong balance sheets.

So, those would be the ones that I would mention, mining, infrastructure, value-style in general and what combines all of them in that is that combination of numerous growth tailwinds, but without taking undue risk, having that valuation buffer, which gives defensive characteristics.

CS: Okay. I just want to wrap up. Obviously, we go back to the fact that the fund is 20 years old. I guess given how consistent you’ve been over that time, and you’ve talked about patience already today, so I’m guessing that contributes to it. I mean, what do you think is the key in sort of continuing to deliver consistent performance when markets have had so much to contend with?

VR: I would say the key is discipline, I would say; we can’t guarantee consistent returns, but we can guarantee consistency of approach. And as we were talking about at the very beginning, in markets that are very noisy, it would be very easy to keep changing your mind, trying to chase returns from one part of the market to the next, and this is the best recipe for disaster, really.

So, what we are doing is we’re looking for those companies that are looking attractively valued and that benefit from a macroeconomic tailwind as well as a valuation tailwind. And this is what we have done consistently for the past 20 years and what we will continue doing. So that’s probably the main factor.

Another one that I would mention is one of the benefits of being a fund of funds like we are, is that we are in effect, outsourcing management parts of our portfolios to some of the best global managers out there. So we are multiplying expertise, if you will, which also helps a lot in terms of performance so you are not getting two managers at Wise funds, but you are getting exposure to 30-ish underlying managers, which I think is a great benefit.

And the last point I would say is I think investment management is all about people. So, we invest in other people by selecting those funds we invest in, but also at our level, it’s important to get the right people in place. And for us, what we have done with the structure of our firm is that we are employee owned. So that means that we have low staff turnover because an employee ownership structure will attract people that are there for the long term, that want to build a business as opposed to just manage their funds and ignore what else is happening in the company.

So that I think is very important and leads to an alignment of interest between the company Wise funds, us as fund managers, me and my colleague Philip Matthews, and then the end clients who invest in our funds,  because our business is built only on the two funds that we manage, the Wise Multi-Asset Growth and the Wise Multi-Asset Income funds, that’s the only thing we do. So, if those funds succeed, then we’re happy as manager and the company is successful as well. So, that’s very important I think particularly in an industry which is renowned for high staff turnover, lots of corporate activity, et cetera. Having that stability of corporate structure is critical in my mind.

CS: On that note, Vincent, thank you very much once again for joining us today.

VR: Thanks very much for having me.

SW: This fund sits in the Investment Association Flexible sector, which means the manager is afforded a significant degree of discretion over asset allocation and is allowed to invest up to 100% in equities. IFSL Wise Multi-Asset Growth invests in around 30-60 underlying funds and investment trusts, with a preference for out-of-favour areas. For more information on the IFSL Wise Multi-Asset Growth fund visit fundcalibre.com – and don’t forget to subscribe to the Investing on the go podcast, available wherever you get your podcasts.