10/18/2020 11:00:00 PM

Market Update (19/10/20)

Welcome to the October market update.

In our latest video, we were joined by Head of Australasian Equities and Portfolio Manager Chris Bainbridge, and covered off these questions:

  1. What are we seeing in the markets at the moment?
  2. How has the Growth 2 Fund generated such significant outperformance this year?
  3. Investments that generate high returns, are generally a bumpy ride for investors. What are we doing to protect the downside, while also positioning the Growth 2 Fund for future growth?
  4. What are the implications on markets and how is Pie positioned going into the November 3 US Presidential Election?

We have also included a transcript.

Kind regards,

Mike

MIKE TAYLOR
Founder and CEO




Transcript

Sam De Court: Hi everyone, my name’s Sam De Court, and with me I have Pie Funds founder and CEO Mike Taylor, and Australasian Portfolio Manager Chris Bainbridge.

So Mike, Chris and I are up in the Takapuna office. It’s spectacular summer-like conditions outside. It's Friday afternoon, I think there might even possibly be a swim on the agenda this afternoon down the beach. What's the conditions like down in Hawke's Bay where you are?

Mike Taylor: That's a big call to go for a swim in October, I hope you’ve got a wetsuit.

SDC: So Mike we'll start with you this week. So what's been happening in markets?

MT: Since we last caught up Sam on this forum, markets have been quite mixed actually.

They had a good run into the beginning of September. And there was quite a sharp correction in tech stocks following that, and since then it's been pretty mixed. We've seen delays to stimulus packages in the EU, and in the US, which of course marks a bit of concern. We've obviously had some worries about the election. But then, somewhat concerningly, we have seen a continuing escalation in Covid-19 cases in Europe again so European cases are back up on the rise and there’s partial lockdowns coming into many European countries again. So, that’s a bit of a cause of concern. So with those kind of Covid-19 cases on the rise, it has meant that some of the Covid-19 beneficiary stocks, once again, leading the charge and have been doing quite well the last couple of weeks. So that’s a bit of a roundup, since we last spoke.

SDC: Thanks, Mike. So Chris, you are obviously portfolio manager of the Australasian Growth 2 fund which has had a really great run this year. And I think before I get into your question it's probably an important reminder to clients, given the sort of unprecedented events of 2020, returns have been particularly strong and, arguably, a little bit unique. So I think it’s probably an important reminder that when you've experienced these sort of returns, it's a good idea to set expectations a lot lower for certainly the year, or even years, ahead. So Chris, the question I've got for you is, how have you been able to generate so much outperformance with the Growth 2 Fund this year.

Chris Bainbridge: I think in the context of returns starting off, you’ve absolutely nailed it. It's a really important point. Performance doesn't come in a straight line and, you know, investors should probably moderate your expectations going forward. But coming to your question, I'd like to come up with something sexy Sam, but it really just boils down to process. And in particular, two points, concentration and conviction. Growth 2’s trading strategy, meaning that it holds only around 20 companies, that's relatively unique because most managers out there hold between 40 and 60, and concentration proved critical during COVID. Let me explain why. Our job as investors is to underwrite the future. Winners going into a crisis generally aren't the winners coming out of it. And this proved to be the case with Covid-19. Covid-19 accelerated the future. We all started shopping online, using meal-kit delivery and working from home. When you only have 20 companies in the fund, instead of say 50, you have less decisions to make. Less decisions means more time, and more time allows to identify and invest in a number of emerging winners.

The second point is conviction. We're a high conviction fund manager. Conviction means that we take large positions, when the odds are in our favour. For example, 40% of the portfolio is generally held in the top five positions. Luckily, a number of those large positions have exceeded expectations this year, contributing to performance. Now, let's be clear, I made many mistakes during Covid-19. For example, I sold Afterpay at $11 and had to buy it back in the 20s, and probably my biggest mistake was not embracing change enough. But I guess to sort of summarise the answer to your question is that performance has come down to concentration and conviction. These have been pillars of Pie’s investment process since the beginning and you know they’ll be pillars going forward.

SDC: Thanks Chris. You'd probably agree that if you want higher returns it’s going to be a bumpier ride to get there. What are you doing to protect the downside, whilst also positioning the fund for future growth?

CB: Yes. It's a great question. I'll answer it directly in a moment but I think it'd be useful to frame how we think about risk, generally, and particularly in the context of loss aversion. So loss aversion refers to the fact that people feel loss twice as much as they feel gain. Now this genetic aversion to risk taking was useful 10,000 years ago, when pretty much everything out there could eat us or kill us. However, it's less helpful when investing. Investment managers feel loss aversion just like every other person. This leads many managers to take smaller, more predictable risks, rather than larger less predictable ones. We believe that this is harmful to long term returns, and we won't shy away from making investments, which others perceive to be higher risk, where we believe that the potential payoffs are worthwhile. I guess to kind of simplify it Sam, what I’d say is that investors should consider Growth 2 to be more like a speedboat, rather than a car ferry. The ride may be a bit bumpier, but our objective is to get you to your destination faster.

Turning to your specific question, how do we manage risk? The best way to manage risk in theportfolio is at a company level, and that's by investing in quality companies. Quality means investing in companies with four Ps: Product, Potential, Predictability and People. In terms of product, we want a unique product. In terms of potential, we want that product to be sold in a large addressable market, particularly a global market. And then in terms of those two we want predictability and predictability means that we want recurring revenue streams or a predictable formula for forecasting revenue in the future. Finally, and most importantly, we want people, the right people. That means entrepreneurial managers, preferably founders, with significant skin in the game. You know, we generally talk about the importance of founders but I guess just a couple of words on that. Founders create optionality that professional managers don't. They generally do that because they're more secure in their tenure, and they feel that they can take, you know more sort of upside focus for risk, rather than say a professional manager might, that creates optionality which is which is difficult to price, but, you know, just because you can't price it doesn't mean to say that you shouldn't pay for it. Stepping back, to sum it up Sam, whether it's concentration, conviction or risk management, everything boils down to sticking to our process. And that’s a process that we're constantly challenging and evolving on a daily basis.

SDC: Thanks a lot, Chris, that's really interesting. So Mike back to you. Obviously some people may have noticed there is a bit of a US election just round the corner. My question for you is, what are the possible implications on markets? And how is Pie positioned going into the sort of November 3rd election date?

MT: So you don't think that our own election will move markets, Sam, globally?

SDC: Possibly not as much as the Americans.

MT: At the moment Biden has a nine-point lead, quite a convincing lead at this particular point in time. There are also, of course, a number of what they call swing states, where the race is a little bit closer, states like Ohio and Florida. People will remember as well from 2016, when we had the election where Hillary Clinton was in the lead at this particular point but she lost the election. She did win the popular vote. So there's a chance that Biden could win the popular vote but still lose the election because of the way the Electoral College system works in the States. However, according to most betting websites at this stage [16 October], Biden’s chance of victory is about 87%. So in order for him to actually lose, something would have to come out between now and 3rd November, to hamper his chances. I think actually, there was an FBI probe into Hillary Clinton's emails right before the election last time, and they reckon that was one of the reasons why she actually lost, so as at today [16 October] it looks like a Biden victory. The market is pricing a Biden victory. And the market seems comfortable with a Biden victory. In fact, there's a number of stocks which are what we might call kind of ‘blue beneficiaries’, which have done particularly well, and they kind of relate to the clean energy sector in the States. It’s expected that a Biden presidency will result in a substantial fiscal stimulus for clean infrastructure, which would generally be positive.

We'd also expect post election, a general US stimulus package to come and be approved as well, so markets are pretty comfortable at the moment. I even think if it did flip and Trump did win I think it'd still be happy. What would make markets unhappy would be uncertainty, and getting to the end of election and the election being disputed. Not knowing who's going to be in power, that's what will cause uncertainty. So really what markets focus on is uncertainty in the outcome, the stimulus package and consistently low rates from a supportive Fed. That's what really matters. So the actual outcome of who really wins probably not that important for investors, as long as they've got certainty.

SDC: Great, thank you very much Mike and thank you very much Chris, and thanks everyone for watching. We look forward to seeing you in a month. 


To download our product disclosure statements, go to www.piefunds.co.nz.  Past performance is not an indicator for future returns. This information is general in nature only. You may wish to discuss with an expert before relying on it.

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