FUND REVIEWS

Bateleur Flexible Prescient Fund, Rezco Managed Plus Fund, Coronation Optimum Growth, Truffle SCI Flexible Fund, Blue Alpha BCI Alll Seasons Fund

Investors who want to give their fund managers the widest possible discretion should consider the flexible fund category.

They can invest anything from zero to 100% in cash in these funds. And while there is an unwritten understanding that high-equity funds will never go below 50% in equities, flexible funds can choose their exposure.

The five funds chosen this month definitely fall among the equitycentric.

In theory asset allocation is the greatest single source of differential performance, but in all these funds stock selection is king. None of them makes extensive use of bonds, which should be a significant building block in these funds.

The Association for Savings & Investment SA has two main flexible-fund categories. The first is domestic — funds that may invest up to 30% abroad (and with a sprinkling of rand hedges the effective offshore exposure can be increased to 50% plus). The second category is worldwide flexible. These funds may move from 100% domestic to 100% global.

This should not be seen as a pick of the best funds in the sector. Old Mutual Flexible was one of the finalists at the Morningstar awards in the flexible category, and was therefore covered recently. Foord Flexible, for all its recent weakness, is still a great long-term pick from a strong house.

The only puzzle is that Prudential, which brought tactical asset allocation to SA, does not have a flexible fund of its own.

The sector was created by Sage, the originators of SA unit trusts, and was made popular by Coronation, which has two contestants — the domestic Managed Plus, which behaves more like an institutional balanced fund, and Optimum Growth, which was designed to present the best of the house’s domestic and global views. It made direct purchases of international shares at a time when Coronation had focused primarily on international hedge funds. As exchange controls have become more relaxed and the house has got more comfortable with international shares, the domestic portion of the fund has dwindled.

Under fund manager Gavin Joubert it is effectively a hybrid developed markets/emerging markets fund.

Flexible funds usually work off absolute-return bench- marks such as inflation plus 4%. Even if the assets are predominantly equities, these funds are rarely benchmark huggers. Rezco Managed Plus, for example, has no exposure to banks, while Truffle SCI Flexible has meaty holdings in unusual international shares such as UK insurer Hastings Group and China’s New Oriental Education.

Truffle has close to R4bn invested in its flexible fund, which is double the size of the managed fund it runs for Nedgroup. Though Truffle suffered more than most from its holding in Steinhoff it is one of the few firms to have changed in the recent past from boutique size (R6bn-R9bn under management) to mid size, with a portfolio of more than R20bn.

Rezco and Bateleur remain in the boutique category, though at least they are no longer subscale. Both articulate a clear investment philosophy: Rezco was sticking up for growth at a reasonable price when almost every manager offered a variation on value. Kevin Williams at Bateleur thinks with the absolute-return mind-set of the hedge fund manager that he remains at heart. Both are likely to provide a different return profile from the typical balanced fund, but that is no bad thing.

BlueAlpha’s Gary Quinn, having been brought up at Norwich and Prudential, is quite an old-school stockpicker.

As a quality investor he aims to give the assurance that while he has no control of the shares he buys in the short term, in the long term they shouldn’t go wrong.

There is no active asset allocation in the BlueAlpha All Seasons fund; the cash increases simply when Quinn runs out of shares to buy. Quinn’s fans from his Prudential days will get a nice warm feeling when they see shares such as Naspers, FirstRand and Old Mutual in the fund.

BlueAlpha’s Gary Quinn is an old-school stockpicker. He aims to give the assurance that while he has no control of the shares he buys in the short term, in the long term they shouldn’t go wrong

This is the oldest surviving worldwide flexible fund in SA. It aims to provide the best investment view at Coronation, and it has five names on the door: Neville Chester and Karl Leinberger (domestic assets); Louis Stassen (developed market assets); Mark le Roux (fixed interest); and Gavin Joubert (emerging markets). They are in Coronation’s offices in Claremont, Cape Town and interact informally on a daily basis.

Joubert is the lead manager. The fund has few domestic assets, with about 4% of the portfolio invested either in Naspers shares or some residual rand cash. There is 19% kept in cash, 7% in property and 67% in international equities.

Joubert says it’s unlikely the fund will go back to being predominantly or even 50% domestic. “SA represents just 1% of global markets.” There will be overlap with SA’s global funds such as Global Managed and Global Equity Select, but it has a heavier emerging markets weighting.

Two thirds of the equities are invested in developed markets, in a mix of consumer staples such as BAT, Heineken and Unilever and private equity firms such as Blackstone and KKR. He says these businesses are on a 10 p:e and 8% dividend yield, a discount to traditional asset managers such as Legg Mason and Franklin Templeton.

“Yet the latter businesses, like Coronation, can lose clients at 24 hours’ notice, while private equity clients are locked in.”

Joubert also likes consumer discretionaries such as Nike and Adidas. Adidas, now about 3% of the fund, was introduced in the first quarter as its share price had lagged Nike significantly, though Adidas has more potential upside as it has lower margins. Another discretionary business is L Brands, owner of Victoria’s Secret.

Joubert says even though the US market looks expensive in aggregate there are still pockets of value. Nonetheless, he has steadily reduced the equity exposure from about 83% to about two thirds.

The emerging markets slug of the fund includes perennial Coronation favourites such as Brazilian education provider Kroton, China’s 58.com online classified business and India’s Tata Motors. As well as Ping An Insurance, the only private insurer in China’s top five.

This is the largest fund from this midsized firm, with about R4bn in assets. It is billed as “moderate aggressive” and is not limited by Regulation 28. It is a domestic fund, which can invest up to 30% internationally. It has 12.5% in non-SA equity and 11% in non-SA cash.

The fund is co-managed by Iain Power, Jonathan du Toit and Charles Booth. More than most funds, it was hit by an exposure to Steinhoff but its holdings today are dominated by what should be more dependable large caps. It has a 6% exposure to Old Mutual and about 5% each to Naspers and Sasol. Its largest international position is 4.5% in Indiabulls, an Indian mortgage lender. It also holds active positions in Barclays Africa, Investec and Standard Bank.

Power says Investec looks compellingly cheap and with management changes should address some legacy issues.

The banking exposure helped in the first quarter when banks, along with retailers, rallied. Truffle does not find much value in retailers any more, except for Woolworths. Truffle’s main property holdings, Growthpoint and Redefine, were steady. It also holds logistics specialist Equites and offshore focused Schroder European Reit and Investec Australia.

Power says that after the rally in domestic shares the fund has started to switch back into rand hedges, including Sasol, as the market places little value on Sasol’s ethane cracker project.

Naspers has been increased now that it trades on a discount of up to 40% to its underlying constituents.

Truffle has been taking profit in Anglo American and switching to BHP Billiton, which could pay a special dividend from the sale of its onshore shale assets. The house has also held doggedly onto Northam Platinum, a relatively low-cost and high-quality entry into the sector.

Internationally, Royal Dutch Shell was increased, as its breakeven has been reduced to below US$50/barrel. There is an unusual mix of global shares; one is Santander of Spain, a multinational that trades on a discount to the local banks, another Hastings in the UK, an Outsurance-style insurer controlled by Rand Merchant Investments — which also happens to be a major shareholder in Truffle. The fund also owns New Oriental Education, a Chinese education supplier.

Rezco was one of the hottest small managers two years ago. More recently it has slipped as its portfolio is skewed towards a weak rand.

But chief investment officer Rob Spanjaard is not changing this significantly. He says domestic shares are overpriced. On a see-through basis the fund derives twothirds of its income from overseas.

In its top 10 there are two international shares held directly, Facebook and chip developer Lam Research.

Spanjaard says it will take time to push SA back to 3.5%-4% annual growth.

The fund holds no local banks (though it likes JPMorgan overseas). It holds Discovery in financials and Shoprite among the retailers. Both earn significant nonrand income.

The fund has taken the offshore allocation up to the newly permitted maximum of 30%.

Spanjaard does not see much upside in either local or global bonds. Recently there was the biggest net selling of emerging market bonds ever. The fund prefers floating rate notes to traditional bonds.

As for property he says SA has too many shopping centres, though he is happy to own well-managed lightly geared international counters such as Investec Australia and Redefine International.

He is cautiously optimistic about commodities, and holds positions in Mondi and Sasol as well as AngloGold and gold and palladium exchange traded products.

Like the older and larger Value Trend Fund, Managed Plus is in the Asisa high equity category and the Morningstar Flexible Asset Allocation grouping. Spanjaard says Managed Plus will typically be about 10 percentage points more exposed to equities than Value Trend. Managed Plus is 64% invested in equity (of which 21 percentage points is in foreign shares), 7% in property, 2% in commodities, 2% in bonds and 25% in the money market.

The fund is managed jointly by Spanjaard, Wally Gray and Simon Sylvester. The philosophy is growth at a reasonable price.

Bateleur, run by Kevin Williams, is best known for its hedge funds, but it received requests from clients to offer a long-only unit trust.

Williams says a flexible strategy is closest to a hedge fund as it offers the greatest freedom, though it does not allow for individual short positions. It has since set up an equity unit trust.

The Flexible Fund has a mandate of inflation plus 4%. In March the fund was 69% in domestic equities, 14% in foreign equities and 17% in cash. It has beaten its mandate in the long run, though in a poor equity market in the first quarter it lost 3.5% (almost all made up in April).

Its biggest contributors were Adcock Ingram, Mpact and its international holding in Amazon. The main detractors were Naspers, BAT/Reinet and RMI. Naspers and BAT remain the largest holdings, followed by Mondi, then a fund which tracks the US S&P 500 and Old Mutual. Internationally it uses both index products, to access Euro Stoxx as well as the S&P 500 and direct holdings such as Amazon.

Williams says the only negative return was in 2016 — down 3.4%, when Brexit and Donald Trump’s victory in the US elections brought extra volatility to the market.

Williams says he likes industrial midcaps which have high barriers to entry, long track records of earnings growth and stable management. Mpact is one, AECI another, and Hudaco a third. The team has also held Italtile for more than seven years.

The team spends about a third of its time looking at macro issues such as monetary policy and the valuation of capital markets, the rest on analysing companies. It looks at four factors — the quantitative stats; the business model; the management team; and integrity and governance. When there are few equities at compelling value, the cash component is increased, to as much as 40%.

Williams is not optimistic right now: that the Bateleur long/short hedge fund is just 30% net invested indicates this. There is more investor confidence than six months ago he says, but there has been no change on the ground: the bond and domestic equity rallies are discounting a substantial improvement.

BlueAlpha is a specialist equity manager with both local and global portfolios. All Seasons is a flexible fund but it is undoubtedly equity centric, with 83% in local equities and 17% in cash.

The fund is run by Gary Quinn, for years one of the senior equity managers at Prudential Portfolio Managers. According to senior analyst Nicola Broekhuysen the house focuses on three things:

Value creation, or a company’s ability to create free cash flow, as opposed to accounting earnings, in excess of their cost of capital. A steel producer’s costs would be substantially higher than a retailer’s, simply due to the capital outlay required to operate. Often such capital-intensive industries can’t generate sufficient returns on projects to sustain future growth.

Growth potential, or a company’s history of deploying its cash to growth opportunities to fuel future expansion. The fund looks to invest in companies that can sustain organic volume and revenue growth.

Quant signals. The fund uses quantitative models to both screen for new potential investments and eliminate mistakes — this is predominantly done through focusing on what back-tests indicate to be successful, as well as what isn’t working any more.

BlueAlpha calls itself a quality investor that pays particular attention to the earnings cycle. “We are generally willing to pay up for quality because in our experience, quality companies persist in being quality companies, leading to a compounding through time of their superior returns,” says Broekhuysen.

Locally, it holds large holdings in Naspers, FirstRand and Mr Price, which all deserve the quality tag, while Old Mutual looks more like a special situation and Atlantic Leaf Properties doesn’t yet have the track record to be considered quality. In its global shares Tencent, Apple, Mastercard and perhaps even the ServiceNow cloud business, count as quality, but the often troubled FiatChrysler would not. Quality shares should compound through time because of superior returns. The offshore allocation in the fund grew over the years as regulatory allowable limits rose.

The bulk of the fund’s offshore allocation is managed in-house, through exposure to BlueAlpha BCI Global Equity Fund, managed by Richard Pitt, a veteran of Old Mutual and Capital Alliance.

BlueAlpha began as a hedge fund house and Broekhuysen says this has contributed to a focus on absolute risk mitigation and return. It holds futures on a regular basis.