Commentary

Had you told us a year ago that (a) the world would face a global pandemic on the scale that we have, with the loss of 1.9 million lives worldwide in 2020 and (b) it would lead to huge restrictions on daily life faced by so many across the world and (c) the economic downturns would be among the largest seen in a century then we may have been content to accept a negative eight percent return as the outcome for our fully-invested portfolio.

The last decade has been awful for Value but 2020 proved to be the very worst of all the years and so too for our performance relative to the broad MSCI World benchmark. We are very sorry to report such poor performance but those who attended our December webcast will know we are bullish on the outlook for Value and the portfolio.

We began our December webcast by reviewing the historic level of drawdown for Value versus Growth in 2020. We noted that the catalysts for the prior turns from such extremes over the last 200 years were generally the result of unexpected events that changed the cosy consensus outlook. On 9^th November, Pfizer and their development partner BioNTech announced their 95% effective COVID-19 vaccine, a development that took just nine months – something that has never been achieved before. This unexpected announcement appears to have changed the tone of markets with what may be the beginning of a return to Value. In just over eight weeks since this announcement through year-end the portfolio is +18% against MSCI World +9% and MSCI World Value +13%.

On our December webcast we showed the latest state of valuation of the US equity market using the Buffett Indicator (the ratio of US GDP to the market capitalisation of the S&P 500 index) at an all-time high. There are now abundant examples of irrational exuberance in the US market e.g. Tesla’s share price, the rise of special purpose acquisition companies (SPACs) and the ‘just buy it strategy’ we mentioned last month. We remain wary of the outlook for the US equity market in 2021 and we continue to find better stock opportunities elsewhere which should be of no surprise given the relative valuations of the US versus other markets.

The US equity market has pushed to all-time highs at a time of severe economic challenges, in the belief that the accommodative monetary policy and historically low interest rates will be maintained by the Federal Reserve and that further economic stimulus is on its way - “Don’t fight the Fed”. But this cannot continue indefinitely (US QE in 2020 was 150% of the total US QE seen over the decade since the 2008 crisis) and has set up a moral hazard which we know is hard to stand apart from. This is exactly what investors must do and our adherence to our Value discipline should protect us. This means that we continue to invest in essentially sound companies that are lowly valued relative to peers and their history,

Commentary

very often they are under a cloud and shunned by the majority of investors but we can see a future in which this will pass. This can be particularly tough to do when it seems that the ‘just buy it’ strategy (irrespective of valuation) is the only thing to do.

For 2020, the largest negative drivers of relative performance in order of impact were Carnival Corporation (-81% to sale in March), Lloyds Bank (-42%), BT Group (-31%), Bayer (-31%) and MHI (-24%). The largest positive drivers of performance were Samsung Electronics (+48%), Siemens (+15%), Allergan (only -10% whilst market plummeted in March), Exor (+36% since purchase in April) and Barrick Gold (+22%).

Since the announcement of the Pfizer vaccine the largest positive drivers of the portfolio have been Samsung Electronics (+35%), NOV (having changed its name at year-end from National Oilwell Varco, +53%), BT Group (+31%), Lloyds Bank (+33%) and MHI (+37%). The only material negative since the announcement has been Barrick Gold (-23%) that held the portfolio back by 1.5%.

In December we sold Southwest Airlines and Japan Airlines and consolidated our airlines position by reinvested the proceeds into easyJet. We did this because we now have sufficient confidence to do so given the announcement of the vaccine and our view that easyJet has sufficient liquidity to see the business through to more normal conditions that will come. Southwest provided a +58% return during the period of ownership when MSCI World returned +28%. Japan Airlines (JAL) returned only +2.5% in US dollar terms during the eight months we held it given the large dilutive share issuance we mentioned last month. We also sold the remainder of the General Motors position after the shares regained our view of their fair value after some of Tesla’s magic fairy dust prompted the market’s reassessment of GM’s own efforts in electric and autonomous vehicle development. We used the proceeds to increase the holdings in Exor, the Agnelli’s investment company run by John Elkann, and Berkshire Hathaway. Finally, with the exuberance towards technology companies this year finally fed through to Samsung we decided to take some profits on the valuation that is getting closer to our current view of fair value. We used the proceeds to top-up the holding in Bayer.

The rotation out of Growth and into Value that we have seen since early November, although meaningful, is but a blip if Value is just to restore parity to Growth. History has shown us time and time again that this is exactly what happens after periods of speculative excess. We continue to stick to hunting out Value opportunities in the global market that are typically unloved and lowly valued.

The portfolio ended the year with weighted average upside of about 40% with a price earnings ratio of 14.9 times on an historic basis but only 12.3 times on a forward basis and a price to book ratio of 0.9 times.

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