Dear Shareholder:
During the first half of 2024 we have continued the strong performance of recent years, outperforming our benchmark indices by a wide margin. In this first half of the year our International Portfolio has risen by 17% compared to 9% for its benchmark, the BBG Europe Developed Markets, and our Iberian Portfolio by 14% compared to 10% for the Index1. Despite these gains, our funds remain significantly undervalued, with a growth potential1 of 133% for the International Portfolio and 108%1 for the Iberian Portfolio.
Over the past three years we have had significant increases of value in many of the stocks within our portfolios. Out of our ten companies with higher performance during the period 2022-23, as shown in the table on the right, we have completely exited seven of them, as their potential has fallen below the average potential of our portfolio, and we have maintained, albeit with less weight, three of them: Golar (GLNG, Financial), Teva (TEVA, Financial) and Elecnor (XMAD:ENO, Financial). Despite their good performance, the gap between the stock market price of these companies and our valuation is still very wide, which is why they continue to be part of our funds.
As the share price of these companies has been approaching their estimated value and we have been selling all or part of them, we have been replacing them either with new companies (following the process explained below) or with companies that we already had in our portfolio but that have performed worse.
We can see a clear example of this in the graph below, where we show that the average combined profitability of the 15 companies in which we have either increased our stake or started to build a position, is a fall of -23% over the last 2 years. Therefore, we are buying companies whose performance has been worse than the market and our portfolios and which have a large margin of safety in their valuations.
One of the companies in which we have increased our position the most and which is included in the above chart is CK Hutchinson (HKSE:00001, Financial). CKH is a company that was trading at 90-100 Hong Kong dollars (HKD) in 2018 and is now at 37 HKD per share, i.e. it has suffered a 55% drop. It is a company that we already had in our portfolio at the beginning of 2022 but, due to the falls in the price and the increase in its potential, we have been increasing its weight, especially in the second half of 2023 and first half of 2024 (to see a description of the investment thesis by our colleague Mingkun Chan click here).
Investment Environment
Although our approach is bottom-up, focused entirely on individual company selection and we do not make our investment decisions based on geopolitics or macroeconomics, we do have some insight into what is happening in the world, which helps us understand the context in which our companies move and helps us in making investment decisions.
The estimated global growth rate for this year is 3%, similar to last year and probably similar to next year. That 3% global growth has been the average for the last 30 years and will probably be the average for the next 30 years. We are not too concerned about whether a given year is 2.5% or 3.5%, because as long-term investors, it is quite irrelevant.
What we consider of great importance isn't this figure as a whole, but the individual elements that make it up. If we separate this 3% by geographical area, we recognize that in Europe and the United States the expected growth for this year is 1.5%, while in Asia it is 5.4%.
The mainstay of current world growth is Asian growth, and this is unlikely to change in the coming years. The Asian economies are younger, more dynamic and some of them even less regulated than the United States, and especially those of Europe. Here we are continually putting obstacles in the way of growth and there, in important countries such as China and India, those obstacles are being removed, so these high growth rates are likely to be sustained over time.
In the last 30 years, the developed countries, i.e. the United States and its allies, have gone from accounting for 60% of global GDP in 1990 to 40% today. According to IMF estimates, in 20 years they will account for 20-30% of global GDP. This is important at a strategic level because if you only represent 30% of global GDP, you cannot be the hegemon. Europe's share of global GDP was 25% in 1993, and today it is around 14%. By 2040, Europe will probably represent less than 10%, being almost irrelevant in the global context. Meanwhile, emerging Asia, which was 10% of global GDP in 1990, will probably be 40% in 2040.
This trend is further reflected by the companies' businesses. Twenty years ago, European companies in the EuroStoxx 600 sold 55% of their products in Europe, compared with 40% today, and they sold 11% in Asia, compared with 20% today, with an upward trend.
This does not necessarily mean that Asian financial markets will outperform the ones in Europe and the United States, but with certainty we can see that growth will. Therefore, understanding how this can influence the companies we analyze is key for the profitability of our investments.
Our Investment Process
Given this economic environment, here at Cobas AM we are faithful to our philosophy of value investing, based on buying good companies, at a price below their estimated value and always with a long-term view. The fundamental pillar on which our work is based is our investment process, which we apply consistently and which we explained in detail at our Annual Investor Conference last June (watch video here for a more detailed explanation of the process).
Our process, which is essentially the same as the one we have been applying for the past 30 years, is a painstaking, almost hand-crafted process that begins when one of our Investment Team members encounters a potential investment idea.
The preliminary study of a company is usually carried out on an individual basis and can last from days to months, depending on our prior knowledge of the sector. At this stage, companies must meet certain minimum requirements, such as: being businesses that are easy to understand, with long-term visibility, protected by barriers to entry, with attractive upside potential, a solid financial situation and a competent management team. If the company meets most of these criteria, we perform a basic valuation model and, if, by comparing it with the characteristics of our current portfolio, it is seen that it can add value to the portfolio, a full company model is then developed.
Once we have this complete model, it is shared with other team members, depending on their availability and knowledge of the sector. It is in this phase, which can last for months, when we deepen the study of the company to get an idea of what is its ability to generate cash in the future and, ultimately, what is its real value.
After the more detailed analysis (which does not end here, as it is an ongoing process), and a discussion among the members who follow the company more closely, if we still believe that the company can provide value, it is taken to the Investment Committee. At that meeting, the entire Investment Team, collectively, votes to decide whether or not the new idea is incorporated into the Portfolio. If there is a majority, the company enters the portfolio with a small position, which is increased as time goes by, as long as our conviction in the company increases and depending on the performance of its share price and the rest of our portfolio.
The daily investment and portfolio weight decisions are also taken jointly and are based on the simple rule explained above of selling companies whose potential is reduced, due to good stock performance, and investing in the more penalized companies where the potential is higher, in order to continue to increase the target value of our funds over time.
To illustrate all of the above, we will give a brief outline of the practical example of Maire Tecnimont (MIL:MAIRE, Financial).
The case of Maire Tecnimont
Maire Tecnimont is a company that we have held in our portfolio for the past 6 years and that we have commented publicly on several occasions (watch extract from Conference, watch Iberian Value). They are one of the leading Italian companies in the design, engineering and construction of infrastructure plants in the hydrocarbon sector (petrochemicals, fertilizers and refining).
The idea arose from our extensive knowledge of the sector's value chain, which we know well for three main reasons. The first, because we had already been Maire shareholders in past stages at other fund managers. The second reason is that we had also been shareholders in Cobas AM when we launched the funds in 2017. The third reason is that we had analyzed the competitors in great detail because we had been or were shareholders in some of them, for example, Técnicas Reunidas (XMAD:TRE, Financial), one of the main investments we have in our Iberian Portfolio.
Obviously, all the requirements we have previously mentioned were met, it was a business that was easy to understand, with net cash, protected by entry barriers, with a good management team and medium-term visibility on cash flow generation. Considering our past work, we estimated that it was worth €6.5/share, with a potential of over 100%, which was the trigger for the investment decision, one that was quick (a matter of weeks) and consensual.
During the first three months we built up a 1% position in the International Portfolio and subsequently the price fell from €3 per share to €1.5, practically 50% in a matter of a year and a half, but our estimated value remained practically stable. A stable estimated value and a falling price resulted in an increasingly higher potential, which is why we actively decided to increase our position in the company.
In the year 2021 the share price went up a lot and very fast, but the estimated value of our model remained relatively stable, which resulted in a reduction of the growth potential and that is when we, not automatically but quasi-automatically, decided to sell shares and reduce the weight.
After several falls and following our process, we took the opportunity to increase the weight, up until the end of 2023 when the price rose from €2.5 to €7.5/share (a 200% increase). Although Maire's estimated value in our model also rose, since the businesses in which we invest are living animals that tend to generate value over time, it did so at a slower rate than the price and, therefore, the appreciation potential fell below the aggregate of the portfolio, leading to the decision to progressively sell the entirety of the position.
Through this example we have tried to show how price and value tend to converge, but almost never touch, precisely because our work consists of repeating the process described above in aggregate form in our portfolios, selling the shares of companies that are rising (closing the potential), to reinvest in those that are doing worse and where the potential is greater.
Thanks to this continuous value creation, we were able to continue to increase the target value of our funds steadily and progressively over time and, therefore, the potential of our portfolios remains very high despite the significant upsurge of recent years. We are therefore optimistic about the future of our portfolios despite the increase in the funds' net asset values.
International Portfolio
During the first half of 2024, our International Portfolio achieved returns of +17.4%, compared to +9.3% for its benchmark index, the BBG Europe Developed Markets.
The contribution of companies in the top 10, such as Golar, Babcock (LSE:BAB, Financial), Currys (LSE:CURY, Financial) and CIR (MIL:CIR, Financial), with gains of 30-40% over the six-month period, was particularly noteworthy. On the negative side, the biggest detractors were Seacrest (OSL:SEAPT, Financial), Canacol (TSX:CNE) and Bayer (XTER:BAYN), companies which at the end of 2023 had individual weights of around 1%.
During the first half of the year, we completely sold five stocks which, in aggregate, had a weighting of slightly more than 5%, and we entered seven new stocks with an aggregate weighting of close to 5%.
Thanks to the portfolio rotation that we have carried out during the first half of the year, the estimated value1 of the International Portfolio has increased by nearly 10% to €289/share, implying a growth potential of 133%.
As a result of this potential1, we remain invested at around 98%. The portfolio as a whole trades, at an estimated P/E1 2024 of 6.6x versus its benchmark index that trades at 14.3x, and has a ROCE of close to 35%, which is indicative of the quality of the businesses in the portfolio.
Iberian Portfolio
The performance of the Iberian Portfolio during the first half of 2024 was +14.5%, compared to +9.8% for its benchmark.
The company that contributed most to the portfolio's good performance was Técnicas Reunidas, which rose by more than 50%. Vocento (XMAD:VOC) also did particularly well, with a gain of 48%. The companies that most detracted from the fund's performance were Grifols (XMAD:GRF), which by the end of June was falling by more than 40%, and Gestamp (XMAD:GEST), which fell by more than 20%.
During the half year in the Iberian Portfolio, we exited five companies that at the end of December had a weighting of slightly more than 5%, and we entered two companies that at the end of June had a weighting of slightly more than 2%.
During the six-month period, we have adjusted the estimated value1 of the Iberian Portfolio upwards by nearly 14%, to €291 per holding. After this adjustment, the growth potential stands at 108%.
In the Iberian Portfolio we are invested close to 98% and, as a whole, the portfolio is listed at an estimated PER1 2024 of 7.6x against the 10.5x of its reference index and has a ROCE close to 30%.
Large Cap Portfolio
During the first half of 2024, our Large Companies Portfolio has achieved a profitability of +13,2% against the +15,2%of the reference index, the BBG Developed Markets.
The companies that have contributed most to this profitability, have been Golar, Teva, Órganon (OGN) and Hyundai Motor (XKRX:005380) with increases between 30% and 60%. By contrast, Grifols, Continental (XTER:CON) and Bayer have been the ones who have suffered the most with drops of 20-40%.
In the Large Companies Portfolio we have sold completely three companies that at the end of December had an aggregate weight close to 3.5%. These sales have enabled us to finance the entry into two new companies which at the end of June had an added weight close to 3.5%.
During this semester we have upgraded the estimated value1 of the Large Companies Portfolio by about 13%, up to 265€/participation1, which represents a revaluation potential1 of 137%.
In the Large Companies Portfolio we are invested close to 97%. Overall, the portfolio is listed with an estimated PER1 2024 of 6.6x against 20.0x of its reference index and has a ROCE of 34%.
