Our first three years
Dear co-investor,
Statistics show that the likelihood of a company's suc-cess rises strongly after the first three years. We have just completed our third year at Cobas. Even leaving statistics aside, we are confident in our success, for two reasons. First, because, from the outset, our role is the same role we have played for the past 25 years: investing long-term with a "value" philosophy and following an approach that we have refined over the years. Secondly, because our unitholders are themselves "value" investors. It is our unitholders' commitment to value investing that makes our work possible.
For this reason, we would first like to thank all our investors, because:
- In a market where equity investment funds based in Spain have seen redemptions of more than 4 billion euros, and after two tough years behind us, our manage-ment company has ended 2019 in a very different posi-tion, with nearly 15 million euros of net inflows.
- Leveraging the fall in prices and the attractive opportu-nity it creates, nearly 2,500 new investors have placed their trust in Cobas in 2019, increasing the number of uni-tholders in our funds to 28,500.
On behalf of the entire Cobas AM team: thank you for your trust.
For our part, we never forget that our goal is to generate a good return for our unitholders. We reaffirm our confi-dence that good news awaits us, given the quality of our current portfolios. Portfolios trading at a P/E ratio of 6-8x, while the main indices trade at 13-18x earnings.
You might wonder why this is. The answer is really very simple. Being a Value Investor means buying low and ignoring the latest fads, even if you have to wait a while for your returns. The latest fad is usually not cheap, but we do know that the market is efficient in the long run and puts everyone in their place in due course. Therefore, we can only benefit from this "correction" if we invest long-term.
The fashion we discussed in earlier letters is the market's recent fondness for Growth stocks instead of Value stocks. Growth stocks are trading at very high multiples because the market expects them to make profits at a swiftly rising rate. It is usually very difficult to tell whe-ther this expectation is accurate. Turning your invest-ment into a gamble can work out very well or very badly. When expectations rise, the likelihood of their being satisfied declines. As value investors, we prefer to buy in the "bargain basement": stocks growing at reasonable rates and trading at low multiples or even very cheaply.
We are confident that the underperformance of value stocks as compared to growth stocks is only temporary.
We point out that over the long run investment in value stocks garners a better return than growth stocks. From 1963 to 2006, value stocks outperformed growth stocks by a factor of 6 (see figure 1). To be sure, for some periods value stocks underperform, such as during the tech bubble in 2000. But after those specific periods, value stocks rally to make up the lost ground.
The graph also shows that the current period, from December 2006 to the present day, is the longest period during which value stocks have underperformed with respect to growth stocks.
Nothing in the analysis conducted by Robert D. Arnott and his colleagues suggests that anything has happened in recent years that would change history: it is highly likely that value stocks will make up the lost ground.
One possible explanation of market behaviour – especially in the past three years – is that the largest companies, especially in the United States, have risen in value to an unusual extent, as in the period 1998-2000.
In the past three years, the stock market appreciation of the 5 largest companies of the S&P 500 (all of them Tech or Internet companies) accounted for a large part of the rise in that index, even though those companies' profit growth did not keep up the pace (see figure 2). So these companies have a greater weight in the stock market value of the S&P 500 and are increasingly trading at higher multiples. We saw a similar situation between 1998 and 2000 and witnessed how the market corrected these mismatches.
Before reviewing our portfolios, we would like to briefly share the main investment ideas we have been implementing during 2019 in our International Portfolio. First, we sold most of our exposure to oil companies, and, secondly, beefed up our positions in Golar and CIR.
Oil tankers
One of the areas where we significantly reduced our position throughout 2019 was in Crude Oil Shipping. This is a group of companies we have been following since 2017. Finally, in 2019 we saw their potential become a reality, and this still continues to some extent.
After the worst slump of the last 30 years, the industry's fundamentals have gradually returned to health. Demand for maritime transport of crude oil is still rising strongly, among other reasons because of the powerful growth of oil production in the United States - as it is further away from the main hub of demand, Asia, than the Middle East, the US oil industry requires more ships.
Meanwhile, however, the last big wave of tanker construc-tion is ebbing. There are hardly any new orders, because of a lack of funding and uncertainty about regulatory change regarding pollutant emissions.
Finally, the new cap on sulphur emissions (IMO 2020) and ballast water treatment require additional investment, or the scrapping of older ships.
This combination of factors implies a supply adjustment that finally fed through to daily freight rates, which hit record levels at the end of 2019 and will most likely remain very strong for at least a few quarters. As a result, our investments in the sector, which began below book value, have already crystallised some of their value during 2019, which benefited our portfolio.
Golar LNG
One of our main position reinforcements in 2019 was in liquefied natural gas (LNG) infrastructure stocks, especially Golar LNG (GLNG, Financial). Our growing knowledge of the sector over the past three years has given us the confidence to do so. As to Golar LNG, over the year we saw significant pro-gress in the projects that support its stock valuation, underpinned by long-term contracts: in FLNGs (floating liquefaction) and, especially, in the downstream business that aids the transition from fossil fuels with high CO2 emissions (diesel, coal, etc.) to gas, which is cleaner. This latest business is starting up in Brazil, and the company hopes to extend it to other developing countries.
Golar LNG is aware that the complexity of its corporate structure makes it hard for the investment community to understand the business. The company has accordingly announced a simplification that will aid investor unders-tanding. We then expect the market to become aware of how the company's assets have been heavily undervalued.
In step with the rising credibility of Golar LNG's projects, and in view of the fact that other market currents conti-nued to keep the stock price level, we have increased our position.
CIR & Cofide
Another stock where we have significantly increased our exposure during the year is CIR & Cofide (MIL:CIR, Financial), an Italian holding company, controlled by the De Benedetti family, which we have followed for more than 10 years. Today the company has changed significantly and is nothing like the one we knew in 2008.
At present, almost 50% of its market capitalisation is in cash and, furthermore, during 2019 there have been key changes in the company to crystallise its value. We increased the weight in our portfolios as these changes have occurred, while the stock price is yet to reflect them. Such changes include the merger of CIR and Cofide to simplify the corporate structure, and the sale of Gedi (an Italian media group), perhaps the group's worst asset, at a good price.
All these changes will result in higher visibility of what we think is the "crown jewel", the holding of approximately 60% that CIR & Cofide own in KOS, a company that manages nursing homes and geriatric hospitals in Italy and Germany. This is a recurring and growing business due to the long-term ageing of the European population, and we think that the value of KOS alone is almost enough to account for the entire capitalisation of CIR & Cofide. Everything else (> €350mn cash and ~57% Sogefi) is ours for free. The large positive net cash position makes the risk virtually zero.
In short, and as we said before, we are very confident about what the future holds. This is because we have quality portfolios trading at very low multiples that should also benefit from the overall recovery of value stocks.
Portfolios
As you are probably aware, at Cobas AM, we manage three portfolios: the International Portfolio, which invests in companies worldwide, excluding those listed in Spain and Portugal; the Iberian Portfolio, which invests in companies listed in Spain and Portugal, or that have their operational hub on the Iberian Peninsula; and, last but not least, the Large Cap Portfolio, which invests in global companies, of which at least 70% have over 4 billion euros in stock market capitalisation. With these three portfolios, we built and have managed the various equity funds as of December 31.
International Portfolio
In 2019, our International Portfolio posted a positive return of +13.4% versus the +26.0% return obtained by its benchmark index, the MSCI Europe Net Total Return. Since the Cobas Internacional FI fund began investing in equities in mid-March 2017, it has obtained a return of -17.8%, while its benchmark index has obtained a return of +20.0% for the same period.
The largest contributions to the portfolio over the year came from: International Seaways (+3.9%), Teekay LNG (2.6%) and Babcock International (+2.3%), which were partly diminished by the negative contribution of Golar LNG (-1.6%), Valaris (-1.4%) and Petra Diamonds (-1.4%).
Quarter to quarter we have made few changes in the International Portfolio, but if we compare December 2018 to December 2019, we have indeed turned over the portfo-lio significantly. We have sold our entire position in 14 stocks that together had a weight of ~14% as of December 2018, mostly due to a significant rise in their prices, for example: Bonheur (+96%), Costamare INC (+83%) and DHT Holdings (+50%). And we have invested in 11 new companies whose combined weight is close to 9%, the most important being Cairn Energy, Saipem and Diamond S Shipping. We have raised our exposure to Golar LNG (by +4.4%) and CIR-Cofide (+2.9%), due to the modest performance of their stock prices.
The target price of the International Portfolio, €186/unit means an upside potential of 126%. This target value is 7.6% higher than the target we had assigned in December 2018.
Obviously, as a result of all this potential and our trust in the portfolio, we are invested at 98%, close to the legal maximum. Overall, the portfolio trades at an estimated 2020 P/E ratio of 6.6x, versus 14.6x for its benchmark index, and with a ROCE of 26%. If we focus on the ROCE and exclude maritime transport and commodities companies, it would be 37%.
Iberian Portfolio
The net asset value of our Iberian Portfolio in 2019 was up +6.6%, compared with +15.5% for its benchmark index. If we extend the comparison period since we started investing in equities until the end of 2019, it has obtained a return of +0.9%, while its benchmark index has obtai-ned a return of +5.1% for the same period.
The largest contribution to the positive result of the port-folio during the year was generated mainly by Sacyr (+2.8%), Parques Reunidos (+1.3%) and Mota Engil (+1.2%), while the main detractors from performance were Elec-nor (-1.6%), Bankia (-1.0%) and Quabit (-0.8%).
Over the year we changed the composition of the Iberian Portfolio to a significant extent. We sold our entire posi-tion in 9 stocks that together had a weight of nearly 13% as of December 2018. On the other hand, we have inves-ted in 9 new companies whose combined weight is close to 9%, the most important being Catalana Occidente, CTT and AEDAS, these three with weights close to 1.5% at the end of 2019. In addition, we raised our exposure to Semapa (by +5.0%), Meliá (+2.6%) and Vocento, due to the decline in their prices and the confidence we have in these stocks.
Our target value for the Iberian Portfolio rose 6% to €186€ per unit, implying an upside of 84%. Since the launch of the fund, we have raised its target price by 50%.
As with our International Portfolio, in the Iberian portfolio, we have also invested close to the legal maximum, at 98%, and, as a whole, the portfolio trades with an estimated 2020 P/E ratio of 8.4x, compared to the 12.8x of its benchmark index, and it has a ROCE of 25%.
Large Cap Portfolio
During 2019, our Large Cap Portfolio made a return of +10.9% versus a 30.0% rise in the benchmark index, MSCI World Net. Since the Cobas Grandes CompañÃas FI fund began investing in equities in early April 2017, the return has been -18.8%. In that period, the benchmark index rose by 27.8%.
The main overperformers shaping the results of the port-folio over the quarter were International Seaways (+2.1%), Babcock (+2.0%) and Teekay Corp (2.0%), although their contribution was offset by the negative performance of Renault (-0.9%), Golar LNG (-0.9%) and Thyssenkrupp (-0.8%).
In the Large Cap Portfolio we also made several changes over the year. We sold our entire position in 4 stocks that as of December 2018 had a combined weight of ~11%, and bought 5 new companies that had a combined weight at the end of December 2019 of ~14%, the main ones being ICL (7.5%), Transocean (3.4%) and Dassault Aviation (1.3%). We also beefed up our position in ThyssenKrupp (by +3.3%), Golar LNG (+2.5%) and Samsung C&T (+2.4%).
The target value for the portfolio is €166/unit, well above its current net asset value, thus giving an upside potential of 104%. Overall, the portfolio trades at an estimated 2020 P/E ratio of 7.5x, versus 17.0x for its benchmark index, and with a ROCE of 29%.
Disclaimer
This document has been carefully prepared by Cobas Asset Management. It is intended to provide the reader with information on Cobas’s specific capabilities but does not constitute a recommendation to buy or sell certain securities or investment products.
Any investment is always subject to risk. Investment decisions should therefore only be based on the relevant prospectus and on thorough financial, fiscal and legal advice. The content of this document is based upon sources of information believed to be reliable, but no warranty or declaration, either explicit or implicit, is given as to their accuracy or completeness.
This document is not intended for distribution to or use by any person or entity in any jurisdiction or country where such distribution or use would be contrary to local law or regulation. The information contained in this document is solely intended for professional investors or persons who are authorized to receive such information under any other applicable laws.
Historical returns are provided for illustrative purposes only and do not necessarily reflect Cobas’s expectations for the future. Past performances may not be representative for future results and actual returns may differ significantly from expectations expressed in this document. The value of your investments may fluctuate. Results obtained in the past are no guarantee for the future.
All copyrights, patents and other property in the information contained in this document are held by Cobas Asset Management. No rights whatsoever are licensed or assigned or shall otherwise pass to persons accessing this information. The information contained in this publication is not intended for users from other countries, such as US citizens and residents, where the offering of foreign financial services is not permitted, or where Cobas's services are not available.
