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Commentary iMGP Oldfield International Value Fund First Quarter 2022 Commentary

The iMGP Oldfield International Value Fund declined 3.09%% during the first quarter of 2022, lagging its benchmark MSCI EAFE Value NR (+0.33%), but beating the broader MSCI EAFE NR (-5.91%). The Morningstar’s Foreign Large Value Fund peer group fell 2.21%.

Since its inception November 30, 2020, the fund has risen 16.30% beating its value benchmark and peers which were up 16.19% and 15.01%, respectively.

Performance quoted represents past performance and does not guarantee future results. The investment return and principal value of an investment will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original cost. Current performance of the funds may be lower or higher than the performance quoted. To obtain standardized performance of the funds, and performance as of the most recently completed calendar month, please visit *There are contractual fee waivers in effect through 4/30/2023.

MSCI index returns source: MSCI. Neither MSCI nor any other party involved in or related to compiling, computing, or creating the MSCI data makes any express or implied warranties or representations with respect to such data (or the results to be obtained by the use thereof), and all such parties hereby expressly disclaim all warranties of originality, accuracy, completeness, merchantability, or fitness for a particular purpose with respect to any of such data. Without limiting any of the foregoing, in no event shall MSCI, any of its affiliates, or any third party involved in or related to compiling, computing, or creating the data have any liability for any direct, indirect, special, punitive, consequential, or any other damages (including lost profits) even if notified of the possibility of such damages. No further distribution or dissemination of the MSCI data is permitted without MSCI’s express written consent. Source note: Returns prior to 1999 are the MSCI ACWI ex-US GR index. Returns from 1999 onwards are MSCI ACWI ex-US NR index.

Portfolio Allocations as of March 31, 2022

Portfolio managers Nigel Waller and Andrew Goodwin build the iMGP Oldfield International Value portfolio of about 25 stocks, focusing on only their highest-conviction ideas and ensuring proper diversification across regions, sectors, and other investment drivers that companies in their portfolio may have in common. As such, sector and country allocations are largely a byproduct of their stock picking.

By SectorFund iShares EAFE Value ETF+/-
Consumer Discretionary9.4%8.5%1.0%
Information Technology4.8%2.1%2.7%
Communication Services6.7%5.9%0.9%
Health Care & Pharmaceuticals14.7%9.3%5.4%
Industrials 20.2%11.5%8.7%
Consumer Staples 10.5%7.8%2.7%
Real Estate 0.0%4.9%-4.9%
By RegionFundiShares EAFE Value ETF+/-
North America 0.0%0.9%-0.9
Asia ex-Japan15.2%3.8%11.4%
Latin America 3.8%0.2%3.5%
Australia/New Zealand 0.0%8.9%-8.9%
Middle East 0.0% 0.7%-0.7%
Other Countries 0.0% 0.1%-0.1%
*Cash is excluded from calculation
By Region
US Equities0.0%
Developed International Equities84.4%
Emerging Market Equities15.6%
Top 10 Holdings
By Market Cap
Small Cap0.0%
Mid Cap8.2%
Large Cap91.8%

Commentary from the Portfolio Managers

The outlook for inflation globally has certainly worsened since the war began on 23rd February. The World Bank recently noted that “the share of advanced economies with inflation rates above 5 per cent or higher has climbed from zero a year ago to almost 60 per cent in February 2022, even before the Russia-Ukraine disruptions filter fully through.”   While inflationary pressure includes effects that will prove temporary, the higher inflation rates this year will likely ensure that we see a broad feed through to wage inflation that ultimately makes the outlook for inflation higher for longer.

Since war broke out on 23rd February, MSCI World index is up 5% led by the historically expensive US market up 7.5%. The MSCI EAFE Index is all but unchanged since the war broke out.  The fact that the US is geographically distant from the conflict and largely self-sufficient in energy certainly helps to explain the relative performance of the US market but the real kicker seems to have been the thought that high energy prices might curtail the pace and extent of interest rate rises. Given the implications for the world of the war in Ukraine and the impact on commodities of all stripes it seems astonishing that equity market investors have taken such succour from the slower pace of interest rate rises. To us, this thinking is akin to re-arranging deck chairs on a sinking ship. The ship may take a little longer to sink but it is still going to sink. Higher interest rates will mathematically lower the fair values of all equity markets but the historically highly valued US market and growth stocks in particular.

For the first quarter, the MSCI EAFE Index was down 5.9% and the Value version was flat while the portfolio is down 3.1%. The portfolio started the year strongly against the broad market as investors digested the outlook for interest rates but also that the silent partner (the Fed) was going to reverse its quantitative easing programme and thus withdraw liquidity from financial markets from here on.

In the first quarter, the stocks with the largest positive impact on the portfolio’s relative performance were, in order of their impact, Mitsubishi Heavy Industries (+53%), Bayer (+32%), Mitsubishi UFJ (+24%), BT Group (+8%) and Eni (+9%). The stocks that detracted from the return, in order of impact were Embraer (-29%), Siemens (-16%), Exor (-12%), E.On (-14%) and LG Household & Health Care (-12%).

Leading Contributors and Detractors 1/1/22
Leading ContributorsAverage Portfolio Weight Portfolio Return Contribution to Return Index WeightCountrySector
Mitsubishi Heavy Industries Ltd4.6844.711.580.12JapanIndustrials
Bayer AG 5.5729.271.420.74Germany Health Care
Mitsubishi UFJ Financial Group5.4617.150.840.90JapanFinancials
BT Group PLC7.274.460.300.25United KingdomCommunication Services
Eni SpA4.826.440.280.45ItalyEnergy
Leading DetractorsAverage Portfolio WeightPortfolio ReturnContribution to ReturnIndex Weight CountrySector
Embraer SA ADR4.27-28.96-1.520.0BrazilIndustrials
Siemens AG5.24-17.80-1.051.30GermanyIndustrials
Samsung Electro-Mechanics Co Ltd5.35-18.06-1.010.0JapanInformation Technology
E.ON SE4.38-15.40-0.710.12GermanyUtilities
EXOR NV COMMON STOCK4.68-13.88-0.710.0NetherlandsFinancials

At the end of December last year, Seiji Izumisawa, the Chief Executive of Mitsubishi Heavy Industries (MHI), the Japanese industrial conglomerate, briefed reporters that the group could require a sweeping overhaul and restructuring to focus the group on businesses with the strongest opportunity set. We have been engaging on this issue with the company since we bought the shares in 2017. We have seen the value created at Siemens through the last twenty years of restructuring and refocussing. MHI’s shares were strong from the start of 2022 on the back of the CEO’s comments but since the war began investors have also noted that MHI is Japan’s largest defence contractor. We believe that MHI has the potential to generate a significant increase in shareholder value if they take this revolutionary road.

Bayer, the pharmaceutical and crop science company, is benefiting from higher commodity prices and positive news on its drug pipeline. The prices of corn and soy are up by c.20% year-to-date, incentivising farmers to invest in higher yielding seeds with management guiding to revenue growth of 7% for this segment in 2022. Its crop science margins should also expand nicely driven by strong pricing. On the pharmaceutical side, Bayer has long been criticised for its weak drug pipeline. Its two key drugs, Xarelto and Eylea, generated €7.6bn sales in 2021. Those drugs will lose patent protection in 2024/25 and there has been little visibility on potential replacements. Consensus assumed that the business would enter a long-term decline from 2024. In contrast, management argues that the business would see a low to mid-single digit drop in sales in 2024 and then return to sustainable growth. We are no experts in analysing drugs or pipelines, but we have taken the view that Bayer’s €3bn in annual pharma R&D and over 100 years of history in this business mean that they will likely have some success, even if not visible and quantifiable today. It now appears that visibility is improving. In mid-February Bayer raised their peak sales assumption for cancer drug Nubeqa from  over €1bn to over €3bn and in early April they announced promising phase two results for a new blood thinner (Asundexian) which has the potential to replace Xarelto. Our assumptions are not reliant on new blockbuster drugs, but we would expect more positive results from the group’s R&D efforts and the more than two dozen alliances and acquisitions that they signed in the pharma business over the last two years. The valuation remains low at a price-to-earnings ratio of nine. We believe that this is partly due to the ongoing glyphosate litigation. In our view, a negative outcome of the litigation is already reflected in the shares and there is still the chance of significant upside if the Supreme Court hears the case and rules in Bayer’s favour.

BT, the UK incumbent mobile and fixed line operator, is ‘in play’ with Patrick Drahi, the billionaire telecom entrepreneur, having built an 18% stake in the company last year. The company is under pressure to show it can restart revenue growth and show a positive inflection in free cash flow even as it continues with the build-out of fibre to the premises across the UK. Today this build-out combined with commercial pressures in its Enterprise and Public Networks business means free cash flow to equity is only £0.9bn on revenue of £21bn. We can see regulatory tailwinds and a fall of capital expenditure post 2025 leading to free cash flow to equity tripling by the end of the decade. Not included in this is the inbuilt inflation protection adopted by the industry over the last 18 months where wholesale and retail pricing mechanisms are set for annual price rises of consumer price inflation (CPI) rate plus 3.9%. This approach has been copied by all its major competitors except Sky who have only acknowledged a price hike is coming in April. BT’s use of this formula explains why they have just levied a 9.3% price increase across their retail business. With only 40% of current customer base on the new contract, revenue growth might be as much as 4% but consensus assume only 1.5% in the current year. We would expect that reporting revenue and cashflow growth once more will lead to a material rise in the valuation accorded to the shares by the market. We too have not assumed that these CPI-linked pricing models actually flow through and we still have fair value 28% above the current price. There is certainly scope for rock-bottom assumptions at BT to rise from here. BT is among the largest holdings in the fund.

Embraer, the Brazilian aircraft manufacturer, was one of the larger detractors in March and the largest detractor to performance in the first quarter. The company released weaker than expected guidance for the coming year and the stock fell 16% on the day of the results. The guidance was poorly communicated and included one-time costs (albeit higher reintegration costs than we expected). Adjusting for these suggests a low single digit downgrade to EBITDA forecasts which suggests to us that the sell-off is significant over-reaction. The shares have also been hurt by the fall in the share prices of the listed electric vertical take-off and landing (eVTOL) companies over the last few months. Embraer’s own eVTOL subsidiary, EVE, remains on track for a listing of an 18% stake via the Zanite SPAC (Special Purpose Acquisition Company) in May this year at a valuation that would imply an additional $10 per ADR to our existing price to book driven fair value of just under $20 per ADR.

Transactions during the quarter included the complete sales of Nokia and Kansai Electric Power and the purchase of a new position in LG Household & Health Care. In March, we switched some of the Sanofi holding that had been defensive into Fresenius that had suffered a weak share price after its poorly handled results day announcement.

We purchased LG Household & Healthcare (LGHH) in January. LGHH is a Korean consumer goods company with three core businesses: Home Care & Daily Beauty (HDB), Cosmetics and Refreshments. Since IPO in 2001, LGHH has grown revenues per share 10 times, operating profit per share 16 times and its share price 46 times (30% total return compounded). HDB and Refreshments comprise 30% of operating profit and are stable businesses which have grown 5% p.a. over the last decade. Cosmetics comprise 70% of operating profit and has grown rapidly over the last decade at about 14% p.a., driven primarily by its luxury skin care brand “The History of Whoo” in China.

A large part of Whoo sales are to Chinese consumers through resellers buying the products in duty free stores in Korea. This channel has been hit by COVID-related travel restrictions which has seen a 97% fall in Chinese tourist numbers visiting South Korea which has led resellers to seek price discounts from LGHH. This led to a sharp sell-off with LGHH’s share price halving from its July 2021 peak. The shares have been weak since purchase as China’s ‘Whac-A-Mole’ zero-COVID strategy has seen two cities locked down in recent weeks suggesting the recovery will take longer than some in the market had expected. We believe Whoo’s brand equity in China remains strong and that LGHH’s management will steer the company through the current headwinds, as they have done repeatedly in the past. Hence, we believe the market has overreacted and considered last-year’s sell-off an opportunity to buy a high-quality business with a strong management team at a depressed valuation. The current valuation at 17 times earnings is the lowest ever for LGHH and compares to its long-term average of 26 times and peers (Estée Lauder, L’Oréal) at over 40 times. We view fair value at 50% above the prevailing price on a two year view driven by a recovery in revenue and profits with a commensurate rise of its valuation. We believe LGHH is well positioned to keep growing in the long term given its exposure to luxury skin care in China and its expanding global portfolio of luxury cosmetics brands.

The portfolio ended the quarter valued at a forward price earnings ratio of 9.7 times and a price to book of 1.1 times. MSCI EAFE Value has a price earnings ratio of 10.4 times and a price to book of 1.2 times.    

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