Reflections on top 5 holdings

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Holdings_20180223

In the graph of portfolio performance dividends are included, but in “Return (in USD)” of current holdings dividends are not included.

Holding comments

As you can see above, my portfolio has become more diversified than ever before (18 holdings). I would say the reason for that is the high valuations we currently see in stock markets. I used to at least find cheap stocks in the Chinese markets, but not so much anymore. In frustration over finding anything that feels like a home-run investment, I have gone defensive, both in the style of my holdings and also diversifying into a broader portfolio. With this kind of portfolio I do not expect to outperform as much as I have done in the past. Below I will give comments and thoughts on the larger holdings in the portfolio. Before I start I would like to mention Catena Media. I bought into the company when the stock price was falling rapidly from it’s highs. Soon after I bought the CEO was fired and the majority owner took over as CEO. It was a tough decision to hold on to the stock, as people speculated that the quarterly report would show some major issues (perhaps why CEO was fired). But no such thing happened, rather afterwards confidence grew in the company again. When I sold the full position in Catena it was actually the largest holding in my portfolio and a strong contributor to me managing keep pace with the benchmark. Now let’s focus on the five largest holdings in my portfolio:

LG Chem

Previous posts (LC Chem posts)

I have not commented that much about LG Chem, although it has moved up to be my largest holding. The investment traces back to my investment theme 2 years ago when I started the blog. The six months before the blog was launched I had spent a lot of time to research the whole value chain of Electric Vehicles (EVs). I ended up concluding that it will be very hard to forecast a winner among the many  car makers. As a side note I did and do still have a belief that Chinese automakers will step up and take a large part of the global vehicle sales pie. I looked at three segments of the value chain, mining companies, battery producers and semiconductor companies. Semiconductor companies I dismissed, since at the time I saw it as more linked to smart/self-driving vehicles. It then came down to mining or battery companies. When I looked into the supply situation of Lithium, from what I could gather there was actually plenty of supply, the bottleneck was rather Cobalt, but here there were no decent investment options. Batteries also had the tailwind of Energy storage systems, that could potential ramp up demand substantially on the back of more Solar energy usage. So batteries became what I focused on.  LG chem was and continues to be a world leader in battery production, with the most advanced batteries in terms of performance vs price.

EVleaders

The problem with LG Chem, was like most of the investment cases around the EV value chain, it was not a pure play. Most of LG Chem’s revenue comes from chemicals sales which is totally unrelated to EVs.  I tried to analyze the chemicals business best I could, but it is a complex field. I understood that I did not buy into something at peak valuations, but rather chemicals where trading at somewhat depressed levels, my analysis did not really go deeper than that. I reasoned that expanding battery production, to meet the enormous future demand, would require a sizable company with muscles to expand.  So without knowing that much about the chemicals business, I saw it as a good backbone to build the battery production capacity on. And that is more or less what LG Chem has been doing. Capex and R&D expense is planned to increase substantially in the coming years, on the back of strong cash-flows in the last quarters.

Looking at the future, worries lies in if there will be any substantial margins left for the battery producers. As Chinese new giants like CATL steps up to the plate, it would not be the first time a  thriving profitable industry, becomes like the solar industry where huge volumes are produced, but no money is made. What keeps me somewhat comforted is that there are safety and quality aspects to these batteries produced, which means that a battery product is not just only about cheapest possible price per kWh of battery power. There are also more long-term quality and safety aspects to a battery product.

Even after the strong share performance, the company is trading at an undemanding trailing P/E of 15 and a estimated forward P/E of 13, which is in the middle of the range of it’s long-term P/E band. I would argue there is still room on the upside, even short-term. Since we are closing in on the S-curve area of EV adoption, where LG Chem is bound to see strong Revenue growth. A few years ago, it was estimated we would see substantial EV sales come through around 2020. But it’s more likely that most cars will be Plug-In hybrids around 2020 and pure EVs really taking of on a massive scale, is still probably a few more years into the future. But say 2025, I’m certain 75%+ of all new cars sold will be either a hybrid or a full EV car. If LG Chem manage to keep in the forefront of battery production, it is a company I’m very willing to hold for the coming 10 years.

Dairy Farm

I recently wrote a long analysis on this company, you find it here: Dairy Farm Asian Food Giant

Dairy Farm being a conglomerate within a even larger conglomerate. One could argue that instead of buying into Dairy Farm I should take a position in the whole Jardine Group. But I do like being exposed to food in the Asian region. Food is of course important to everyone around the globe, but Asians are in my view even bigger foodies than westerns. As the region grows richer, which its more or less bound to do, if Dairy Farm plays its cards right, it should be able to long term leverage that trend. Of course it is a highly competitive market, but with the Jardine Group behind it, Dairy Farm has all the advantages you could have for this region. I see this as a very long term holding, which I would only re-evaluate if I saw that something major had changed in the direction of the company.

XTEP International

I invested in two steps into XTEP, you find my thinking at the time here: XTEP Posts

The more I learn about Hong Kong listed companies and market participants, I realize mis-pricing are more common, or at least market participants have another time horizon and sentiment shifts in their investments. When the sentiment finally changes, it’s a bit like the famous ketchup bottle, positive momentum builds quick and reprices the stock to a new level in a very short time. For a stock picker that is of course a good thing, if you can get in before the sentiment changes. But you also need to be very sure about what you are investing in, since your patience and thesis will be tested. XTEP has had a a similar story of under-performance and then a catch-up. The clear winner though has been the largest company Anta, which since I invested has continued to outperform its peers.

XTEP_Relativeperf

When I invested about a year ago, XTEP was the ugly duckling, trading at a much lower P/E than its peers. One of the reasons as I have understood more clearly is that XTEP competitors are aiming more for the branded high priced segment, competing with Nike etc. XTEP has had it’s niche more towards the cheap/affordable running shoes. Much of the growth trend (so far) in health and sport awareness among Chinese has been in the more affluent population which obviously will go either for western brands or top Chinese brands. I tried with this investment think second level, that since healthy living and exercising already is a strong trend in China among rich people, that maybe it would also affect the middle class population to consume more sports shoes. The jury is probably still out if XTEP will succeed in this.

Looking to the future, I think the sports apparel segment is a good segment to be invested in. The tailwind from Chinese consumers on these type of products should continue. If XTEP is a good enough company in terms of execution and brand building, that I’m less sure of. Basically because I’m not in touch with its customer base, or consume their products myself. So the case for me to generate alpha in terms of stock picking, is lower here, where I only go by what I can see in the data. For these reasons I will probably never be fully comfortable with this as a very long term investment and my strategy lately has been to ride this positive momentum that finally arrived and look for a good exit level in this holding.

Gilead Science

My initial thoughts when I invested: Gilead investment

I was reflecting on that I spent a lot of my research time on looking at Health Care/Pharma companies of different kinds, everything from more niche small cap companies producing probiotics or vaccines, too large companies like Teva. It’s a bit ironic then that currently I only hold one single Pharma company, and that is a company I spent less time researching myself and more followed the results of others that I respect for their knowledge. WertArt’s excellent analysis helped my jump the boat and invest. Since I invested Gilead has made some larger acquisitions, again I’m not competent enough to understand if this was positive or not. I can only see that the Gilead management has had a fairly good track-record in its larger purchases.

The question to ask myself really is, since I seem to have no to a weak edge in being able to understand and analyse big Pharma companies, should I even invest in them? I’m not a benchmark agnostic investor and the Health care segment has 12% weight in MSCI World. With such a large weight in the benchmark I would rather say that I want to hold at least one Health Care company. For now I’m happy holding Gilead as a good pick in the segment, but I will do my best to find smaller companies in this sector, which are easier to grasp.

Huhtamäki

Initial reasoning for buying into Huhtamäki: Rotate away from China – New holdings

In a very fragmented market Huhtamäki has managed to take a strong position in the food packing market by doing a large number of smaller acquisitions. Food packing I believe has a long-term strong tailwind. In terms of risk I see a trend where large companies decided to be more eco-friendly. Seeing the documentary “A Plastic Ocean” makes you very sad of. We treat our environment in a horrible way in terms of plastic packaging. Maybe in parts of the world, there will be trend towards more paper/wood based packaging products. Huhtamäki today does both, so even this I don’t think is a major risk long-term, although short term it could create some losses if the plastic production facilities would become underutilized.

In the case of Huhtamäki a full analysis of the company is long overdue, it’s something I kept pushing forward as I feel I understand the company fairly well. The truth probably is somewhere in between since I have not sat down and looked at detailed figures of the company, reading many of the previous annual reports etc, as I usually do when I fully analyze a company. Instead of doing a half-hearted attempt here now, I will instead try to deliver a full analysis of the company in the next few weeks.

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Kopparberg

Breweries – Kopparberg & Olvi + Nagacorp conclusions

More brewery – Kopparberg

My final addition of brewery companies, with a 4% weight, is the Swedish cider company, Kopparberg. The company has been selling sweet fruit cider (and beer) for many years in Sweden and later expanded to the UK. Kopparberg was the first entrant offering a sweet fruit cider in UK, which was more or less unknown to the British.  Kopparberg have managed to break into this market and create its own niche and it has been a roaring success in UK.  Kopparberg has some 60% of its world-wide cider sales towards UK today. Naturally as a Swedish producer the GBPSEK rate is important to the margins of the business and Brexit was not helpful in this regard. Given the companies success in this new niche of very sweet cider, there has of course also been competition that has stepped in. For example Carlsberg Somersby which has also seen extremely strong growth.  With results at current level, the stock is fairly valued and downside is a more general multiple contraction in (brewery) stocks. So I keep this at a lower weight for now, waiting for a more clear confirmation of a turn-around and/or further sell-off, where I would be inclined to add to my position. Nevertheless, I’m impressed by the execution of the Kopparberg management and their track-record. I like that the CEO and founder holds a large chunk of shares. My main thesis for investing at this point, is a normalization of the margins for the UK market, which gives the stock some upside and also that I believe the product will be successful in other markets/countries (with USA being the number one target).

Adding to Olvi – another 2%

I currently hold about a 4% position in both Olvi and Diageo. Diageo is one of the worlds largest brewery groups with a tilt more towards spirits, like whiskey, I’m fairly happy with my holding right now and a larger sell-off would be needed for me to consider adding to my position. Olvi is mainly a beer brewery focusing on Finland, the three Baltic countries and Belarus. Whereas both stocks have traded down slightly since I bought I have been looking more closely at Olvi. The company is in a great position macro wise. The Baltic region is growing very nicely in terms of GDP and economic outlook. Olvi has a very large market share in these markets and just growing at the speed of the local economies will give a significant revenue boost. I believe Olvi is one of the cheaper brewery stocks out there at the same time as they are exposed to some of the countries with very good macro backdrop. I choose to add another 2% to my position here and very much look forward to an interesting report announcement tomorrow.

Nagacorp

Finally Nagacorp, which has made a tremendous turnaround since June, when I decided to add to my position (Double up Nagacorp). The sell-off at the time, was more related to the behavior of the majority holder, rather than any company fundamentals. At that time I added 6300 shares at 3.61 HKD, today I slice my holding with 4300 shares at 7.49 HKD, more than a 100% gain in 9 months, very decent indeed. The explanation is two-fold, the majority holder was not allowed by the HK regulator to cheat the minority holders, this gave a quick bounce up when that issue was resolved. The second reason is that the expansion of the Casino has been a real success. And the latest figures that came out, shows an almost unbelievable growth of VIP rollings. So what I have been saying about the revenue growth all along came true and then some. Thanks to (un-audited) voluntary announcement of the 9/3 month results (which only gives some basic information), we can even see how much VIP rolling grew the last 3 months (in million USD).

vip_rolling_naga_qonq

How this translates into revenue is through the win-rate, which is much lower for VIP gaming than Mass market and Electronic Gaming Machines. A picture from the latest results makes it more clear:

rollings_to_revenue_naga

As you can see, the VIP rollings is presented as an 142% increase YoY, but this increase is mostly driven by the Q4 on Q3 increase of 212%, which as previously stated, is almost unbelievable. Looking at seasonal figures, Q4 is not even a strong quarter, Chinese New Year and so on makes Q1 and Q2 more profitable.

VIP increase effect

So what can we expect from Q1 2018? Well it’s already off the charts, but say the yearly VIP rolling 2018 comes in 4x the Q4 2017 rollings, we have full year rollings at 40,500 million USD. If we take the average win-rate of 2017/2016, we get Revenue of 40500*2.8% = 1134 million USD. The Gross profit margin is lower for the VIP segment, again at an average margin rate of 28.5% this gives us Gross Profit of 323m USD. With other segments at constant revenue and cost this boost Profit before tax with 65% from 263 to 433m USD. Converted into EPS it goes from 0.47 HKD to 0.77 HKD per share, meaning that Nagacorp is trading at a Forward P/E of about 10 currently. With 60% dividend payout ratio policy it get’s pretty interesting.

Why I am reducing my holding?

When things looks so damn good, why am I then cutting my holding? Well reality is not this easy to keep everything constant and just adding VIP rolling growth, first of all, I believe costs will go up as well. Getting this kind of growth in VIP rollings must come a price. The price is paying the junkets for bringing in all the high-rollers. On the flip-side, the highly profitable Mass Market segments is also growing nicely. Another concern is tax, which is again bound to go up (its a yearly negotiation between the Cambodian government and Nagacorp).

mass_rolling_naga_qonq

But really what puts me off is the majority holder and his behavior throughout the years. How he tried to cheat everyone through the double dilution of his convertible bonds price adjustment was very distasteful. Another example, every year he awards himself a massive bonus. Why this bonus even exists is very unclear, he then “kindly” defers it, meaning it won’t affect that years results. It’s a pretty chunky sum of money “Dr Chen will be entitled to a performance bonus of US$11,765,321 (the “2017 Bonus Entitlement”) for the financial year ended 31 December 2017. “. So I keep saying in my comments about Nagacorp, this is money printing machine in a region with tremendous tourist growth. With a better majority owner I would be happy to hold 12-14% of my portfolio long-term in this stock, but now it’s a love/hate relationship, where you are just waiting for the next betrayal. So for that reason more than anything else I hereby take some profit, although I easily could see this stock at 10 HKD before year end.

 

 

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2017 Performance, Criteo sell, Inditex buy

2017 Performance +28.8%

With MSCI World being my main benchmark at 23.1% for the year, I’m pretty satisfied with +28.8%, although I did it with a higher volatility than the benchmark. Calculated on weekly returns MSCI World created it’s 23.1% return which an almost mindbogglingly low realized volatility of 5%, that’s a sharp ratio any hedge fund would be proud of. My portfolio came in at 10% standard deviation. When I started the blog I had a heavy tilt towards Chinese stocks, so I also made an evaluation against Hang Seng. As you know Hang Seng has outperformed greatly (+36%), and that contributed to my performance for sure. I’m still overweight (about 15% of the portfolio) China from a MSCI World perspective, but it’s not such a heavy tilt, so I will drop those comparisons henceforth.

I had a probably too active year in terms of holdings turnover, although most holding periods have been about a year or longer. My aim is trying to extend that average holding period closer towards 2-3 years. Only one stock that i bought in 2017, I again sold within the same year, that was Norwegian sports retailer XXL.

I decided during the year to shift away from China, we can say that I was too early. All of my Chinese holdings like Ping An Insurance, BYD, Shanghai Fosun Pharmaceutical and YY had all just started their run upwards, I sold off in all three cases in the earlier to middle part of their revaluations. I reinvested in mostly European stocks that have instead traded sideways. In other cases like Rottneros (Swedish pulp company) and Ericsson, I managed to get out in time, selling at peak and stock trading down significantly afterwards.

Although I would have had greater returns in 2017 by not changing my start of the year portfolio, I’m still fairly satisfied with what I’m holding today. I think I hold a defensive portfolio with companies with a reasonable chance of maintaining most of the earnings even in a cyclical downturn. Of course the multiple will still come down in many of my holdings, so I don’t have any fantasies of being immune to markets falling.  As you probably realized I’m not all too bullish on the stock markets for the coming 2-3 years, let’s see if the market volatility we seen in the last few days is the start of a larger trend. I do really think we should be worried when US 10Y Govies are closing in on 3% yield. As the catch phrase says in front on my Hong Kong skyline picture, there still probably is a bull markets somewhere, in some little sector or niche of the market, hopefully we can find that too.

The start of 2018

Graph_20180209

I did not really have a great start to year, the reason is spelled Dignity. The puns that can be thrown about being buried by the investment are actually pretty funny (I was for the first time mentioned on twitter thanks to this). I already dedicated a post to that and I have taken my stance, adding into this position, let’s see over the coming year how it plays out. More interestingly it was good to see how my portfolio behaved in the severe downturn we have experienced. I’m happy to see that the portfolio is holding up at least in line with MSCI World, thanks to my cash positions I have realized about a percentage point less losses than the index over the last 2 weeks.

Looking forward I will continue to rotate my portfolio into positions I’m comfortable holding over longer periods of time, with the goal of reaching average holding periods into the 2-3 year range.

Clean out – Criteo out

Some of my comments have made me aware that all might not be well in Criteo land, I decided to put this in the “too-hard” bucket as well, just as Catena Media. Although its probably a lousy timing to sell right now, stock is ripe for a bounce, I’m taking my stop/loss in this one, selling the full holding.

Inditex – Add 3% weight

So, we all know, bricks and mortar clothing retails i hard, really hard right now. Just ask H&M, the darling stock of Swedish investors is really struggling at the moment and they are not alone. So Inditex, or more widely known, Zara, which is still trading at high multiples, why am I buying this now? I simply love their business model. I think they have a very unique market model and position, if its anyone that is going to survive cheap trendy fashion retail, it’s Zara. And as other companies probably will need to close down stores, my belief is that Zara will come out of this even stronger.

I’m probably a bit too early into this stock, hence the 3% weight. The opportunities to buy this company really cheap has not really existed in the past either. It traded at P/E 15-20 around 2010-2012 and today it’s still at P/E 26 after a decent sell-off. As they say, buy quality and hopefully only cry once. But if the multiple keeps contracting I’m more than happy to keep adding into this position until it is one of my major holdings.

 

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