2014 Winners feature - Best Asia ex-Japan Equity Fund - Value Partners High-Dividend Stocks

Category Winner: Best Asia ex-Japan Equity Fund - Value Partners High-Dividend Stocks

Key Stats
Inception Date: 2002 Sep2
Morningstar Rating (as of 2014-02-28):
Total Net Assets (Mil, as of 2014-02-28): 1,754.22 USD 
Manager: Cheng Hye Cheah / Norman Man Kei Ho and management team
Manager Start Date: 2002 Sep2 / 2002 Sep2 

M: Morningstar V: Value Partners High-Dividend Stocks investment team

M: Could you highlight any major changes you made to the portfolio over the course of 2013? Were there any particular holding that drove the fund’s performance for the year?

V: Throughout the year, the portfolio has maintained a low level of cash to remain well engaged in our traditional high-yield equity investments.  We saw the depressed valuations in the Chinese and South Korean markets relative to their ASEAN counterparts as an opportunity, and consequently increased our weightings in those markets.  In particular, our Korean investments had increased to over 21% of the portfolio by the end of 2013 from around 12% at the end of 2012, with significant exposure in the financial sector.  To make room for the additions, we have reduced our exposure to REITS as valuations have generally reached fair values.

With a backdrop of the US Fed’s tapering, we have made adjustments to mitigate the impact of rising interest rates and an incrementally tighter monetary policy environment.  The portfolio has significantly reduced its exposure to physical gold.  We had put a minor part of the Fund into gold more than ten years ago, treating it as a form of “inner reserve” for the Fund.  While gold has turned out to be an outstanding performer in the long term, we have been actively exiting our remaining exposure this year.

On similar lines, we have also maintained a relatively low exposure to fixed-income investments.  While credit spreads remain wide for high-yielding bonds which are not directly vulnerable to interest rate increases due to their inherent credit risks, we believe better value opportunities are found in the equity markets and as such, we have taken profits from our fixed-income investments selectively.

Some of the additions we made in this year were the biggest contributors to the portfolio’s performance.  In particular, our positions in financials, consumer discretionary and telecommunications have contributed positively to the Fund’s performance. 

Case study – Korean preferred shares
One example we want to highlight about our Korean exposure is Hyundai Motor (and specifically, Hyundai Motor’s preferred shares) – one of our major investments in the year.  It is a leading Korean carmaker with not only a strong foothold in Korea, but also a growing presence in China and India, where the company enjoys an expanding market share.  With a healthy global growth, improving margins and a solid expansion plan, the company’s prospects appear bright. 

Putting aside our positive view on the company’s fundamentals, we also benefited from investing in its preferred shares.  Compared with their underlying shares, preferred stocks typically trade at a hefty 15% to 65% discount which often narrows over time.  As a result of this discount, the shares also generally deliver a slightly higher yield – both strong and positive factors for the purpose of the Fund.  In this year, we have seen the preferred shares of Hyundai Motor significantly outperformed their ordinary shares counterpart.

M: What is your economic outlook for 2014 specific to the markets you cover and how are you positioned to take advantage of opportunities and/or mitigate potential risks?

V: 2013 was a key turning point for China’s development, as the Third Plenary Session provided significant updates and changes for the country.  A number of key reforms outlined include the one-child policy relaxation, urbanization, and price liberalization, etc.  Although we have seen a relatively slow market reaction to many of these measures, we believe this presents a profound opportunity for investors as the reforms lay the foundation for China’s success in the next decade.  Much like a slow burn, while the flames of changes have been lit, the embers have yet to heat up to their true potential.

While we are positive about the outlook for Chinese equities in 2014, we do recognize that a re-rating may not happen immediately.  Near-term risks, most notably overcapacity in certain sectors, shadow banking, and debt uncertainty are well known, and the Chinese government is taking steps to allay these threats.  We believe an overly bearish consensus view on Chinese equities is still putting pressure on the Chinese markets, which are trading at depressed price-to-book and price-to-earnings valuations.  As a result, we are very enthusiastic about the potential investment opportunities in China in 2014. 

We are also optimistic about an economic recovery in Korea on the back of improving global demand.  We continue to see a pick-up in orders across developed markets that serves as a tailwind for Korean exporters.  Meanwhile, near-record high current account surplus and a relatively accommodative monetary policy by the Bank of Korea should underpin the resilience of Korea’s economy despite rising concerns on a rewinding of carry trade.  Finally, the relatively attractive valuation of the market gives us much comfort to maintain a significant exposure.  On the back of these supporting factors, we believe Korean companies’ earnings growth will likely improve in the coming year.

We are however more cautious about Taiwan.  We are more optimistic about non-tech names in the market and would seek to identify interesting opportunities such as consumer plays.  Within the tech space, we continue to look at smaller, niche companies with unique business models or some sort of market leadership. 

Meanwhile, we are also cautious about the ASEAN markets, especially countries with weaker external positions which will be more vulnerable to the US Federal Reserve’s tapering of quantitative easing.

M: How is your investment team organized? Have there been or do you anticipate any changes to the investment team or structure over the course of the year? Do you anticipate adding to the team in the near future?

V: Mr. Cheah Cheng Hye and Mr. Louis So are the Co-CIOs of Value Partners, leading a 41-strong team of investment professionals with investments spanning across the Asia-Pacific region, including many senior investment team members who have worked together at Value Partners for over 10 years and joined the firm at the beginning of their investment career: 

Sector research
All members of the investment team, from the investment analysts to the Co-CIOs, have analyst responsibilities in conducting research in their sector of specialization. Analyst coverage is also organized by sectors and typically assigned in pairs, where a senior analyst leads as a ‘sector leader’, along with another analyst for conducting research. Sector specialization ensures that individuals build up specific insights into the investment opportunities within their specific area of coverage. Furthermore, sector specialization also assigns accountability within stock coverage and limits unnecessary overlap.

Bottom-up approach
Our disciplined bottom-up investing approach leads Value Partners to generate alpha through identifying winners by intensive on-the-ground research.  Every year, the team conducted over 2,500 company visits and research meetings, excluding phone calls and broker meetings.  The team’s internally-generated research covers thousands of stocks in Asia Pacific with less than 2% of the top ideas went into our portfolios.  The Co-CIOs have built a team approach to manage portfolios by fostering a unique culture that encourages members of the investment team to act contrarian.  Value Partners often researches and invests in out-of-favor stocks, including non-benchmark and under-researched companies. 

Over the years, the award-winning team has practiced strict value investing discipline and established Value Partners as the “Temple of Value Investing” in Asia.  Together, the Co-CIOs are responsible for all portfolios under Value Partners Group with US$10.5 billion of assets under management as of 31 December 2013, employing both active (equity long-only, equity absolute return long-biased, equity and fixed income absolute return long-short) and passive strategies.  While we have poured in more resources to the team in 2013 in both our Hong Kong and Shanghai offices, we are adding further expertise in more sectors and markets, and are open to expansion across the region.

M: Can you highlight any areas where you feel that the investment team or the investment process can improve upon?

V: First of all, our risk-averse approach to investment, based on thorough understanding of the underlying business and a high margin of safety, had resulted in very little exposure in internet related companies.  The sector is an emerging industry which has tremendous growth potential but one that we find difficult to justify on valuations and effectively conduct due diligence.  Due to the difficulty in conducting cross-checking, where traditionally we would visit factories to see inventories or sales points to see client activity, the intangibility and unpredictability of client demand may result in discounts as opposed to significant premiums in their share prices.  Nevertheless, as investors have become more optimistic, their share prices rallied.  We acknowledge that while we have missed out on some strong performers, but on the other side of the coin, it helps us avoid participating in the downside risks of other expensive and volatile stocks. 

While our value-investing discipline and contrarian approach have resulted in many successful buys, we may also miss out on some lucrative opportunities by selling before the market and leaving additional price appreciation on the table.  One example is BYD Co., a battery developer turned into car manufacturer.  We identified the value opportunity in the stock and became its major shareholder in 2006 when it was attractively priced and misunderstood by the market.  In September 2008, a subsidiary of Warren Buffett’s Berkshire Hathaway announced a deal to buy a stake in BYD, resulting in a surge in the company’s stock price, from which we returned multiple times our initial investment.  As the stock reached its fair valuation and the general market view converged with our initial investment thesis, we took profit.  The stock continued to reach new highs after our selling.  In hindsight, if we had followed the crowd and held the stocks for a longer period of time, we might be able to reap more gains.  The rally however doesn’t and didn’t last forever and within a year the stock price had returned to our fair value expectations. Fundamental to Value Partners’ success is the depth of our research, as well as our courage to stick to our convictions and go against the flow.  It is this uncompromising approach that has allowed us to steer clear of the fall-out from stock market bubbles in the past to deliver a top ranked risk-adjusted performance. As such, we will continue to uphold this disciplined, consistent approach, and will never deviate from it.

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