Investors time the herd’s turn
PREJUDICE: BLIND SPOT IS SWEET SPOT
Doom and gloom is money for jam for value investors who have the pluck to go against instincts.
In many ways 2016 was a remarkable year for investors. Although general market returns were muted, the resurgence of cyclical stocks meant some value investors generated excellent returns. In South Africa, the Investec Value Fund delivered 62.37% when the JSE was only up 2.60%. The RECM Equity Fund gained 43.04% and the PSG Equity Fund 25.12%.
Shades of grey
Says the manager of the PSG Equity Fund, Shaun le Roux: “We are prone to think in either black or white. But the truth is that nothing is as clear-cut as we think it is.”
He says that perhaps the best recent example of this is the US election. If you were a white, working class American in the mid-west, chances are that you viewed Donald Trump as the first straight-talking politician you had seen for a while; if you were more liberal, its likely that you would see him as a bigot unsuited for the office.
“So which is he?” Le Roux asks. “The reality is, he’s a bit of both.”
Investment markets are similar, with stocks and sectors swinging in or out of favour.
However, often where the market is displaying fear is where you find the best opportunities.
“A market that is prone to thinking in black and white terms will go through stages where there is a very widely-held consensus,” Le Roux says.
“A year ago there was extreme conviction that interest rates were going to stay low for long period of time, growth was going to stay low for a long period of time, and we weren’t going to see inflation any time soon. If you had to invest in equities in that environment, you had to invest in quality equities or some of the popular growth stocks.”
Investments in these types of companies had yielded outstanding returns between 2010 and 2015. Emerging market punters, however, had done very poorly.
What transpired, however, was that last year saw a reversion, where the cheap part of the market outperformed the expensive part of the market. This was a classic example of value investing paying off.
“People like to herd. So it might feel very uncomfortable to invest in a mining share when commodity prices have gone down for four years, but if you can find inherently good companies at low prices, you are getting the odds in your favour.”
At the moment he believes there is a similar situation in local companies exposed to the South African economy.
“Nobody wants to buy SA inc and the price-to-earnings (PE) ratios on some of these stocks are incredibly low,” he says. “We think we can identify good opportunities to buy mispriced quality in that space.”
Local example
An example is industrial group Hudaco. “We think here is an opportunity to buy an inherently high quality business at less than 10x earnings,” Le Roux says. “We think that’s low for a business that has showed return on equity of 21 times for many years.”