May 2016
Monthly Report
Schroder Wholesale Australian
Equity Fund
Total return %
8
Schroder Wholesale Australian Equity Fund (post-fee)
S&P / ASX 200 Accumulation Index
Relative performance (post-fee)
1 mth
3 mths
1 yr
1.11
3.09
-1.98
11.39
11.60
-0.21
-9.26
-2.38
-6.88
3 yrs p.a. 5 yrs p.a.
3.89
7.71
-3.82
6.10
7.54
-1.44
10 yrs p.a.
5.57
5.34
0.23
Please refer to www.schroders.com.au for post-tax returns
Past performance is not a reliable indicator of future performance
Inception Date: 01 Jul 2002, 13 years and 11 months.
1
2
Market cap
ASX 1 - 50
ASX 51 - 100
ASX 101 - 300
Non Index
Cash
Portfolio
80.7%
9.4%
4.5%
2.7%
2.6%
Benchmark
80.3%
12.1%
7.6%
Top ten holdings %
National Australia Bank Limited
BHP Billiton Limited
ANZ Banking Group Ltd.
Commonwealth Bank of Australia
Westpac Banking Corporation
Rio Tinto Limited
Woolworths Ltd
Wesfarmers Limited
Telstra Corporation Limited
Brambles Limited
Total
Portfolio1
7.6%
6.9%
5.9%
5.7%
5.5%
4.5%
4.4%
4.2%
4.1%
3.7%
52.5%
Benchmark2
5.1%
4.3%
5.3%
9.4%
7.3%
1.3%
2.0%
3.2%
4.9%
1.4%
44.2%
Characteristics
No. of stocks
Portfolio turnover* (1 yr)
Sharpe Ratio (1 yr)
Volatility (5yr standard deviation)
Tracking error (3yr historic)
Portfolio1
52
13.1%
-0.63
12.6%
3.0%
Benchmark2
200
-0.28
12.7%
Commentary
The S&P / ASX 200 Accumulation Index rose by 3.1%, while the Schroder Wholesale
Australian Equity Fund (post-fee) rose by 1.1%, underperforming by 2.0% for the month.
Bubbles, by definition, exaggerate the span of multiples paid for cashflow streams in equity
markets, as in squeezing up the favoured they tend to emaciate the orphans. In early to
mid-2000, Computershare was the most favoured poster child for technology stocks listed in
Australia. In current terms, its share price had climbed from 30 cents to $9.00 per share over
the prior three years, when the last full year reported earnings before interest and tax (“EBIT”)
figure was $32m. Fifteen years later, its share price is barely 10% above where it got to in
early 2000, whilst its EBIT has grown more than 15 fold to well above $500m. A shareholder
purchasing a share in Computershare in early to mid-2000 has seen capital appreciation for
the investment of less than 1% per annum whilst EBIT has grown at more than 20% per
annum. The derating of the cashflow stream has negated almost all of the cashflow growth
enjoyed by an equity owner through that time. Price is what you pay, value is what you get;
especially when multiples are elevated.
This is now a real issue for equity owners, as two exaggerated forces for multiples in the
equity market are now at levels rarely seen. The first force is interest rates, through bond
yields, which at 2.2% in Australia are at record lows, following the global pattern of recent
years. This in turn has seen the multiples paid for equity move higher, which is fine except
that as bond yields fall, and equity multiples hence expand, the revenue and cashflow
forecasts which are being discounted may fall commensurately (to reflect the weaker
economic environment). This has ultimately transpired this year; the market now hosts no
forecast earnings growth for industrial stocks for F16 but is forecasting 10%+ growth for next
year (and the same thereafter); it is clear that these forecasts are too aggressive. In turn, this
has presaged the second bubble; the price paid for earnings growth is in rare territory, at
levels seen on only a few occasions through the past twenty years. As in the Computershare
example recounted at the beginning of this commentary, buying equity at very high multiples
is a dangerous game for investors to play, even for good companies that grow earnings. The
beneficiaries of rerating have been the stellar performers of the past year; the Computershare
example shows they may not be for the next decade.
Price to book multiples, which better dimension the impact of changes in bond yields upon
multiples than earnings related multiples, shows defensive industrial stocks at more than 3
times book, a level not hitherto seen. Cyclical industrials have performed well through the
past year and are now at more than 2 times book, a level last seen in 2007, whilst Banks at
1.6 times book are at reasonably low levels relative to history – and hence are fundamentally
starting to look attractive. While Resource stocks continue to trade near book value, at record
lows and about 80% below the levels seen when “Stronger for Longer” was in full cry. It is
clear that two extremes – defensive industrials and resources – remain, and that the
magnitude for each is extreme. To talk about “the market” being cheap or expensive is a
meaningless exercise; that aggregate number merges several extremes.
1 The 'Portfolio' is the Schroder Wholesale Australian Equity Fund
2 Benchmark is the S&P / ASX 200 Accumulation Index
Unless otherwise stated all figures are as at the end of May 2016
Please note numbers may not total 100 due to rounding
*Turnover = ½(Purchases + Sales - ∑Cashinflows + ∑Cashoutflows) / ½(Market
Value(T0)+ Market Value(T1) - ∑Cashflows)
The travails of listed nursing home operators – Estia, Japara and Regis - highlight the danger
in assuming that the Government will happily fund excess returns for shareholders into
perpetuity. Whilst demographics means that volume growth in Healthcare should remain
robust, the fact that Governments fund much of the revenue for many of the companies in this
sector, should give investors pause for thought. Government regulation, across sectors
through time, can (and should) change – ask any shareholder in Telstra when the NBN was
announced, Star Entertainment when a further casino licence in NSW was awarded, or Banks
as capital rules change requiring fresh capital to be injected into them. Healthcare also has a
long history of regulatory suppression of returns in some areas – payments to GP’s relative to
GDP has been flat for 20 years, despite volume far outpacing GDP. That this focus extends to
nursing home operators should not surprise, and it may yet extend much further in the
Healthcare sector in coming years, muting some of the apparent shareholder benefit from
increasing volumes, even when they have been evident in most recent years (as indeed, was
the case with nursing home operators).
So, whilst where we see value within the market remains clear, the sentiment of the market
still does not reflect this positioning, despite some changes in recent months. For several
years now, price momentum has been recurrent, with the best and worst performing sectors
over a trailing quarter and year being the same. In the past quarter, this has changed, with
Energy and Metals stocks outperforming through the quarter, whilst still being the stand out
laggards over the past year.
Schroder Wholesale Australian Equity Fund
Fund objective
Monthly Report
May 2016
Commentary Continued
To outperform the S&P/ASX 200 Accumulation Index after fees over the
medium to long term by investing in a broad range of companies from
Australia and New Zealand.
Finally, macro events continue to play havoc with how fundamentals and sentiment interact
in terms of equity market returns. The major driver for the bubble in the multiple paid for
defensive industrial price to book multiples - and the consequent collapse in that multiple for
Metals stocks – has been monetary policy. Policy movement this year has differed, for the
first time since the GFC. Policy intending to suppress bond yield’s has been in place since
2008, when the US initiated a quantitative easing program, and augmented since as the EC
and Japan has followed the QE path. Senior US economic policy commentators have this
year, however, been advocating a different approach. For example, Ben Bernanke, the
recently retired Chair of the Federal Reserve, has written three times in the past three
months on a similar theme, summarized with this quote:
Investment style
Schroders is a bottom-up, fundamental, active growth manager of
Australian equities, with an emphasis on stocks that are able to grow
shareholder value in the long term.
Fund details
APIR code
Fund size (AUD)
Redemption unit price
Fund inception date
Buy / sell spread
Minimum investment
Distribution frequency
Management costs (p.a.)
SCH0101AU
$1,879,675,928
$1.0566
July 2002
0.25%/0.25%
$25,000
Normally twice yearly - June and Dec
0.92%
Sector exposure versus the benchmark %
-8.0
-6.0
-4.0
-2.0
Energy
0.0
2.0
4.0
Chemicals
10.0
2.3
Materials
0.3
Containers & Packaging
-1.6
Metals & Mining
8.9
Industrials
1.8
Consumer Discretionary
-0.9
“… there are signs that monetary policy in the United States and other industrial countries
is reaching its limits, which makes it even more important that the collective response to a
slowdown involve other policies—particularly fiscal policy. A balanced monetary-fiscal
response would both be more effective and also reduce the need to use unconventional
monetary tools…”
(http://www.brookings.edu/blogs/ben-bernanke/posts/2016/03/18-negative-interest-rates).
Larry Summers, US Secretary of the Treasury for a decade until 2001, has written along
similar lines:
“… The core problem of secular stagnation, the neutral real interest rate is too low. This
rate, however, cannot be increased through monetary policy. Indeed, to the extent that easy
money works by accelerating investments and pulling forward demand, it will actually
reduce neutral real rates later on. That is why primary responsibility for addressing secular
stagnation should rest with fiscal policy. An expansionary fiscal policy can reduce national
savings, raise neutral real interest rates, and stimulate growth…”
(http://larrysummers.com/2016/02/17/the-age-of-secular-stagnation/).
Of course, the global economy is struggling with lower than anticipated levels of activity as
demographics and debt take their toll. These are omnipresent forces that will not revert.
Nonetheless, it is facile to suggest that bond yields, and hence the multiple attaching to
defensive industrial stocks, have not been influenced by the domination of QE as a policy
setting to combat low growth rates. With multiples at all-time highs, any potential change in
the policy that has presaged these levels is folly to ignore.
Portfolio outlook & strategy
Consumer Staples
2.5
-4.7
Information Technology
0.2
Telecommunication Services
-0.9
Utilities
-0.7
Capital Markets
-1.5
-1.7
Financials
Consumer banks
Diversified Fin Services
1.0
Insurance
-3.6
Real Estate Mgmt & Dev
Property Trusts
8.0
0.4
Construction Materials
Health Care
6.0
Sentiment and price momentum are, unfortunately, circular; the same management team
and Boards, doing the same things, that are lauded for increasing or accepting increased
prices on the way up, and hence increasing dividends and shareholder returns at the same
time, are pilloried when prices revert (Woolworths) or are reverted around them (Energy
and Metals stocks). For context, though, we still see material value using long run metal
price assumptions for low cost, long life miners such as BHP, RIO, Alumina and Iluka, and
material downside to our valuation for many industrial defensive names.
1.1
The interaction between valuation, sentiment as calibrated through price momentum, and
policy is key to our portfolio positioning. Differences in the valuation of cyclical stocks
relative to defensive industrial stocks has only through the past quarter moved slightly away
from hitherto unseen extreme levels. Sentiment, as ever, has followed this move, as
measured through price momentum, with “valuations” of cyclical stocks in some cases
seemingly moving faster than the 50% moves in share prices, down and then up, seen
through the past year. Macro policy continues to be a major factor behind why such
extremes in multiples of defensive industrials and cyclical stocks exists. Consensus is that
macro policies seen through recent years continue unabated, and equity prices
aggressively reflect this consensus. Any move away from this policy position, however, will
have outsized consequences for equity multiples, which, is why rhetoric suggesting a
broadening of policy away from the narrow QE focus of recent years is important for relative
returns between these sectoral extremes.
-5.5
Andrew Fleming
Unless otherwise stated all figures are as at the end of May 2016
Benchmark is the S&P / ASX 200 Accumulation Index
Contact
www.schroders.com.au
E-mail: simal@schroders.com
Schroder Investment Management Australia Limited
ABN 22 000 443 274 Australian Financial Services Licence 226473
Level 20 Angel Place, 123 Pitt Street, Sydney NSW 2000
Phone: 1300 136 471 Fax: (02) 9231 1119
Investment in the Schroder Wholesale Australian Equity Fund ('the Fund') may be made on an application form accompanying the current Product Disclosure Statement available from
the Manager, Schroder Investment Management Australia Limited (ABN 22 000 443 274 AFSL 226473) (“Schroders”).
This Report is intended solely for the information of the person to whom it is provided by Schroders. It should not be relied on by any person for the purposes of making investment
decisions. Total returns are calculated using exit price to exit price, after fees and expenses, and assuming reinvestment of income. Gross returns are calculated using exit price to exit
price and are gross of fees and expenses. The repayment of capital and performance of the Fund is not guaranteed by Schroders or any company in the Schroders Group. Past
performance is not a reliable indicator of future performance. Unless otherwise stated the source for all graphs and tables contained in this report is Schroders. Opinions constitute our
judgment at the time of issue and are subject to change. This report does not contain and is not to be taken as containing any financial product advice or financial product
recommendation. For security reasons telephone calls may be recorded.