Letter to Investors Half-Year Review. July 2014

Transcription

1 Letter to Investors 2014 Half-Year Review July 2014

2 2 Dear Investors, Asian markets were on average unchanged in the first half of 2014, with the MSCI Asia index up 2.5% during this period. However, underlying this somewhat stable performance are significantly divergent showings of two different sub-asia regions the South East Asian markets which did very well, and North Asian markets which was lacklustre. South East Asia s charge was led by the Philippines, with the PSE index rising 16%, and closely followed by Indonesia and Thailand, where both the JCI and SET indices gained 14%. In comparison, within North Asia Japan s Nikkei was down 7%, China s Shanghai Composite Index lost 3% and Hong Kong s Hang Seng Index was down 0.5%. After a strong run-up in 2013, and with the fund s current focus on the more undervalued Hong Kong/China region, the fund was down marginally by 1.1% during the first half of Year Lumiere Asia Value Fund 1 MSCI Asia 1 Outperformance/ Total Assets Underperformance (USD million) Oct-Dec % -3.1% -0.3% % -41.6% -20.3% % +29.2% % % +15.2% +35.6% % -17.8% -4.9% % +13.1% +2.7% % +11.1% +21.3% H % +2.5% -3.6% 90.0 Cumulative % +82.1% 1 Performance is measured in USD terms. Fund performance is net of fees. During the first half of the year, we exited from one of our core holdings, APT Satellite, as its price continued appreciating and hit our estimate of fair value. This investment has given us a 4-fold return over a 3-year holding period. We have previously discussed at length our investment thesis for APT in our June 2013 investor letter so you can refer to the earlier letter if you wish to read a more detailed discussion on our APT investment. Along with APT, we also sold out of our stake in Jaya Holdings after the company divested its entire operating business and became an all-cash company. Our investment in Jaya gave us a more than 40% return over a 16-month holding period. We also pared our holdings in Welling, a global leading manufacturer of motors used in washing machines and air conditioners, after the stock almost doubled from our entry price and its discount to intrinsic value narrowed considerably. We bought the stock in mid last year, paying 6x p/e, with the stock having a dividend yield of 6%. We took the opportunity to redeploy part of the divestment proceeds into a couple of mispriced stocks uncovered by our sifting process one of which is a company supplying equipment to the telecoms industry in China. This company is the market leader in its niche, is growing earnings at more than 20% per annum, and its directors have been buying the stock. However, it was unloved by the market and we managed to buy it at 5x current year earnings and with the stock having a 7% dividend yield. We also invested in a company operating in the retail space in the Greater China region. Recent earnings of the company has been hit temporarily as they have opened a large number of stores in the past 2 years, incurring higher costs while waiting for the stores to mature. Current earnings are less than half its peak level 3 years ago while sales are currently at a record high; hence earnings should improve significantly once their new stores mature and margins normalise. Along with the earnings hit, the stock price has dived more than 60% from its peak and we managed to buy it at 6x recovery earnings. The company is also in a strong net cash position and has historically paid out a large portion of their earnings as dividends, so we are looking at a very attractive yield when the situation normalises.

3 3 With our continual divestment of holdings when they become fairly priced and redeployment of proceeds into stocks trading at steep discounts to their intrinsic value, our portfolio remains deeply undervalued, trading at an average of 6.6x current year s earnings, 0.9x book value and having a 5% dividend yield. General Comments Our modus operandi remains the same for 2014 that is to favour out-of-favour assets. And this has led us to focus to a large extent, on the Hong Kong and China markets via stocks listed on the Hong Kong Exchange. The economic recovery from the depths of the global financial crisis, coupled with the quantitative easing measures adopted by governments have pushed major stock markets around the world to new highs, with the S&P500, FTSE 100, Germany s DAX index as well as market indices of South East Asia s emerging market darlings of Philippines, Indonesia and Thailand all trading above their respective pre-crisis peaks in However amidst this global rally in stocks, one major market seemed to have missed out on all the action that is the Hong Kong/China market. Since hitting a precrisis peak of 31,638 in October 2007, the Hang Seng Index has been languishing way below that level and is currently trading at 27% below its pre-crisis peak. The underperformance of the China market is even more stark the Shanghai Composite Index is currently trading 66% below its pre-crisis peak! This is despite China s GDP having grown more than 160% between 2007 and Hong Kong/China seems to be the forgotten market in the past few years. Perhaps it was fears of the economic fallout from the Chinese government s restructuring of the economy - with a crackdown on corruption, measures to control housing prices and financial sector liberalisation that kept investors away. Or investors could have been lured away by the recovery story of the US/Europe, or by the fast growing consumer story in South East Asia. Whatever the case, stocks in China/Hong Kong have already borne the brunt of investor scepticism, with many stocks in the luxury, retail, apparel, and property sectors falling 50-80% from their peak prices in While earnings of companies in these industries have taken a hit from the economic restructuring process, we are starting to see some signs of stabilisation and even growth after a long period of decline. Take for instance, the sportswear sector. After the heady period of growth from 2006 to 2010 where sportswear companies in China grew by more than 30% per annum, the industry was hit by oversupply from new entrants and over-expansion of capacity and retail points. Sales started to crater over the next 3 years and profits turned into losses at many companies. This caused an industry shake-up with companies cutting back on capacity or even changing their business focus to different products like casual wear. After 3 years of industry rationalisation, we are starting to see signs of bottoming and even earnings growth coming back to companies within this sector. However, the stock price of most companies within this sector are still 60-80% lower than their peak in 2010, creating potential opportunities for bargain hunting. As such, rather than being spooked by the near-term uncertainty arising from the economic reform in China, we welcome the positive long term change it brings. For one, it gives us an opportunity to buy stocks at depressed prices, especially in sectors affected directly by the restructuring. While sowing seeds in such an environment may not yield the best results in the short term, we believe our strategy will pay off in spades over the long run.

4 4 Company Commentary What you re about to read should not be misconstrued as investment advice. Instead, our intention for devoting the entire section on company commentary is so that readers can understand the thought process underlying our investment philosophy. Welling Holdings Welling is the world s largest manufacturer of air-conditioner motors and also ranks number two in the production of washing machine motors. The company was originally founded in 1985 as Hualing and was part of the Chinese state-owned Guangzhou International Group. Midea then acquired an initial 42% stake and took management control in In 2008, Hualing swapped its air conditioners and refrigerator business with Midea s motors and electronic components unit and then changed its name to Welling. Midea has since increased its stake in Welling to 68.99%. Being a subsidiary of the Midea Group, which itself is a major producer of white goods such as airconditioners, refrigerators, washing machines and other smaller household appliances, Welling has access to a ready customer for its air conditioner and washing machine motors. Besides Midea, Welling also supplies to a list of other blue-chip appliance giants around the world like Haier, Daikin, Hitachi, Samsung, LG, Electrolux, etc. In FY2013, exports made up almost a third of total revenues. Traditionally, the appliance motor market has been quite stable with little breakthrough in new technologies. However, Welling has consistently invested between 1-3% of its revenues on developing more energy efficient motors and also on the development of higher-end products. This has given Welling a competitive advantage and allowed it to gain market share quickly over the years against its Japanese and Chinese competitors. Despite the notoriously challenging feast-and-famine conditions of the white goods industry, especially in China, Welling had been able to sail through unscathed and even flourish. In fact, between FY2008 to FY2013, revenues increased 71% from HK$5.2b to HK$8.9b but net profit jumped four-fold from HK$197m to HK$785m. Consequently, net margins improved from 3.8% in FY2008 to 8.8% in FY2013. This is also testament to its successful metamorphosis from a high volume low margin business to a high mix model with better margins. Since our investment in Welling in mid-2013 at 6x earnings, the company has enjoyed a significant upward rerating in valuations, giving the Fund a good return over a one-year holding period. Going forward, the Welling management remains optimistic about the growth prospects of its energyefficient Direct Current (DC) motors and commercial air conditioner motors business and expects this segment to grow faster than its traditional Alternating Current (AC) motors and series motors business. However, headwinds are also growing stronger in the form of a weak China housing market, which is a key driver of white goods consumption. As such, we have reduced our stake in Welling

5 5 As always, please feel free to let us know if you have any clarifications regarding your investment in the Lumiere Asia Value Fund. Yours truly, WONG Yu Liang and Victor KHOO Disclaimer The analysis and research in this publication is intended for the private use of clients and investors of Lumiere Capital Ltd. This publication and the contents hereof are intended for information purposes only, and may be subject to change without further notice. Lumiere Capital Ltd neither represent nor warrant the accuracy or completeness of the information contained herein or as to the existence of other facts which might be significant, and will not accept any responsibility or liability whatsoever for any use of or reliance upon this publication or any of the contents hereof. Neither this publication, nor any content hereof, constitute, or are to be construed as, an offer or solicitation of an offer to buy or sell any of the securities or investments mentioned herein.