Denker SCI Emerging Markets Feeder comment-Oct 17 - Fund Manager Comment05 Dec 2017
The third quarter of 2017 saw the MSCI Emerging Markets Index outperform the MSCI World Index by 3%, extending emerging markets’ outperformance against their developed market counterparts to 4.3% for the 12 months ending 30 September.
The 7.9% return of the MSCI Emerging Markets Index for the quarter was largely driven by Brazil (up 22%), Russia (up 15%) and China (up 14%).
Performance
The fund performed well for the quarter, outperforming the MSCI Emerging Markets Index and contributing to the fund’s outperformance of the index for the 12-month period.
The fund’s overweight position in Brazil, Russia and China, and the stock selections within those areas, contributed strongly to the outperformance of the fund during the quarter. It should be noted that with regard to our geographical positioning, we build our portfolio on a bottom-up basis.
The biggest contributors to the relative performance of the portfolio during the quarter were Estacio Participacoes in Brazil, Brilliance China Automotive Holdings in China and TCS Group in Russia.
· Estacio Participacoes (up 122% for the quarter), Brazil’s second largest private educational service provider, was the fund’s top contributor of performance - pushing it into our top 10 holdings. Its performance came on the back of: the anti-trust authorities (CADE) vetoing the Kroton/ Estacio merger; an outstanding Q2 net earnings result, which beat consensus estimates by 56%; and management giving a detailed view of the strategic growth pillars they are focusing on.
· Brilliance China Automotive Holdings (up 46%), BMW’s joint venture manufacturing partner in China, contributed strongly to the performance of the fund. The share performance during the quarter was supported by strong first half earnings, which were up 48% year-on-year (YoY). Management also raised volume growth guidance to 25%, due to them being at the beginning of a very powerful model cycle that started with the X1 SUV in Q2 2016, followed by the recent successful launch of the new 5-series sedan, X3 SUV in mid-2018, new 3-series sedan in 2019 and X2 crossover in early 2020. While we still see healthy upside at the current price, we trimmed our position to realise profits - taking the company out of our top 10 holdings.
· TCS Group (up 43%) operates in Russia and engages in the provision of online retail financial services. The company reported strong Q2 2017 results, handily beating consensus estimates, with net profits up 80% YoY and delivering a return on equity (ROE) of 49%. The outperformance was driven by net interest income, which rose 44% YoY on higher loan volumes and expanding net interest margins. Management also issued increased 2017 earnings guidance, up 21% on higher net loans growth, reduced funding costs and a reduced cost of risk. We still see solid upside from the current price and have maintained our original position, which has grown organically to be in our top 10 holdings.
Matahari Department Stores and NetEase were among the top detractors from performance for the quarter
· Matahari Department Stores (down 35% for the quarter) is Indonesia's leading mid income department store chain with over 150 stores in more than 65 cities and holds a 42% market share. The company reported Q2 2017 sales and net profit increasing 17% and 20% YoY respectively. Despite the decent results, management guided that same store sales growth (SSSG) would be flat or slightly negative by year-end, given the current macro-environment. The company represents a top 10 holding for the fund and we have taken advantage of share price weakness to add to our position.
· NetEase (down 12%) is a leading online games company headquartered in China. It also provides various online services, such as advertising, email and ecommerce. The company reported Q2 2017 results with revenues increasing 49% YoY, slightly ahead of consensus estimates. This was mainly driven by the 69% YoY growth in the ecommerce business on active "6/18" promotions. Net profit was up 9% YoY, but the net profit margin was weaker due to a higher than expected selling expense ratio from promotions on online games and ecommerce. We believe the company is merely in a transition period before the launch of its next hit, so a short-term slowdown in earnings is expected and we have used the market’s pessimism to accumulate a bigger position in the company.
During the quarter we increased our exposure to Turkey, adding a new name to the portfolio. We also exited two positions, one in Japan after the investment case changed and the other in India as the company passed our estimate of intrinsic value.
Outlook
Emerging markets continue to benefit from a combination of low valuations, relatively stable political climates, improving business sentiment, and central banks that in most cases have room to reduce interest rates to stimulate growth if needed.
Investing is a long-term endeavour and we are confident that our bottom-up approach of constructing the portfolio will see the patient investor richly rewarded. We focus on companies:
- with strong sustainable competitive advantages;
- which generate returns well above their cost of capital;
- which generate significant free cash flow; and
- which are trading at significant discounts to their intrinsic value.
Fund Name Changed - Official Announcement05 Sep 2017
The SIM Global Emerging Markets Feeder Fund will change it's name to Denker SCI Emerging Markets Feeder Fund, effective from 01 September 2017