Global Leaders Equity Fund: September 2021

16 September 2021

Summary

• Monetary policy remains very loose, and indications are that policies will remain accommodative
• Headwinds from the fund’s China exposed stocks were felt, with disappointing returns from Alibaba, Ping An and Kering
• The FTSE All-World Index climbed 2.5%, with the Global Leaders Equity Fund (I class USD) returning 1.3%.

August was yet another positive month for global equity markets, with several indices again close to reaching all-time highs. Monetary policy remains very loose which tends to drive markets higher. The FTSE All-World Index climbed 2.5%. At the Jackson Hole conference Jerome Powell, the US Federal Reserve’s chairman, continued his mantra that inflation is transitory. Financial markets are hence being primed to believe that interest rates will remain low at least for the next year, and that an announcement of an announcement of a gradual reduction in asset purchases will come at the next Federal Reserve’s meeting. 

The three best contributors in the fund were Blackrock, Alphabet and Eaton - all of which continue to show strong business trends. On the negative side, regulatory and government actions continued in China producing significant impacts on the Chinese exposed stocks held. The fund’s worst performers were Alibaba, Ping An and Kering. 

While the fund delivered positive returns for the month, the team is somewhat disappointed to underperform the wider market this month due to our Chinese exposures. Investors dislike uncertainty and the degree of the shift away from capitalism to more of a socialist system in China is still unknown. We believe that the negative sentiment towards the Chinese companies held is overdone and that the intrinsic value of these companies is significantly higher than their current prices. The mark-to-market nature of markets means that there is no differentiation between permanent capital losses and temporary ones. Of course, if the Chinese government is intent on destroying the value of these entities, we will find that we’re wrong. Direct exposures to China are now 5% of the fund, and these have been occupying much of the team’s thoughts over the last month.

Shares of Alibaba declined 14.5%. Since the delay in finance subsidiary Ant Group’s planned £37bn Initial Public Offering last year several other actions by the Chinese government have been negative for Alibaba. Late last year the country introduced anti-monopolistic laws, and subsequently launched a probe of domestic ecommerce companies in December. Alibaba received a $2.8bn fine in April for abuse of their dominant market position in preventing third party merchants to use other platforms in addition to their own. We anticipated that this would mark the end of regulatory uncertainty. Subsequent actions however have included further investigations into monopolistic practises, including the use of customer data, expectations of higher corporate taxes, a high-profile case of sexual misconduct, working practices and investigations into the actions of party officials known to have been closely associated with the firm.

Policies accounted at the end of July effectively destroyed much of the on-line educational industry, by making educating children in this way a not-for-profit activity. This spooked Chinese technology investors and has led to sizeable outflows from Chinese focused equity strategies, and hence forced the selling of assets. The messaging during August from the party was of prioritising a policy of “common prosperity for all”. This led to some large tech companies making sizeable donations to prosperity funds, and a little recovery in share prices towards the month end. The entrenched market positioning of Alibaba means that, despite a likely increased tax burden, the company is well positioned to navigate additional regulatory measures. This assumes however, that the government is not intent on destroying what is regarded as a global leader in ecommerce and technological advancement. 

Further detail of the “common prosperity for all” policy made investors question whether we might be about to witness a repeat of the conspicuous consumption crackdown that occurred in the last decade which was part of the anti-corruption purge. A large portion of the future growth prospects of Kering, who own the flamboyant Gucci brand, rely on mass affluent Chinese. This led to a decline in Kering’s share price of 11.3%. Half of the position was exited given the uncertainty, with an analysis of luxury spending patterns with different income distributions to be conducted. Our understanding is that a large proportion of luxury spending in China is driven by the mid-income class, a class which the Chinese government is trying to grow through promoting common prosperity. Kering should ultimately be a beneficiary of a growing middle class in China, specifically amongst the Millennials and Gen Zs which account for two thirds of its sales in China.

Ping An reported results showing underlying operating profit growth of 10%, however the value of new business written declined 12%, due to reduced sales activities and the half year profit figure reported declined due to the expected impairment in China Fortune Land Development. Shares declined 11.4%. We anticipate that having now reformed their sales force the value of new life assurance business will begin to increase. We engaged with the company over their investment policies and have confidence that concentrated errors like their China Fortune Land Development investment will be avoided in future. Management announced a share buy-back program indicating their own belief that prospects remain bright. Trading on less than 6 x earnings, shares appear to offer both value and growth with optionality from their investments in a range of fintech and healthcare companies.

The fund’s strategy is to invest in quality companies that offer growth at a reasonable price, and we continue to believe that it should produce superior results over the coming period. Looking beyond the issues currently faced with our Chinese exposures, the wider portfolio is benefiting from encouraging trends in electrification, cloud computing, increasing semiconductor usage, increasing semiconductor complexities, healthcare innovation and favourable demographics. These types of companies have high barriers to entry and generate economic profits, meaning that their intrinsic value is increasing over time.