Stuart O´Gorman, Fund Manager, "Henderson HF Global Technology A2 USD" (22.08.2011): "Macro-economic factors are going to dominate equity returns near term. We are going to continue to bias the portfolio heavily towards companies with strong barriers to entry, strong balance sheets and reasonable valuations. We do see some compelling value in certain technology names especially within our preferred themes of e-commerce, internet advertising, connectivity, data growth and electronic payments. Technology, we believe will continue to take share within the economy both for consumers and corporations as the value proposition of technology (every year better products at lower cost) is compelling. However, we are not joining in the chorus of technology fund managers claiming their favoured names are immune from the economy – while there are some very interesting secular growth stories in technology, it is a very rare stock that is entirely immune. Sadly, given the macro headwinds we believe the economy faces, especially in the long-term, we need to take this into account. Therefore we will maintain a reasonable balance of cash until we see signs of some sort of believable solution to the current economic environment. We are, however, cognisant of the desperation of central banks and governments to inflate markets and may tactically reduce the cash levels if we believe another major stimulus package will have a more than transitory effect. Additionally, if valuations get cheap enough in specific companies we will also look to deploy the cash." Mattia Nocera, Managing Director and CIO, "Vitruvius Growth Opportunities B USD" (24.08.2011): "We remain constructive on the long-term outlook for the technology sector. Many companies in the technology space are trading at extremely attractive valuations and have strong balance sheets. The seasonally stronger second half of the year should compensate any seasonal weakness that may emerge in the current quarter. Furthermore, secular growth trends deriving from the adoption of emerging technologies (i.e. smartphones, tablet PCs, cloud computing) and growing demand from emerging markets should continue to provide a solid support for leading players in the sector." Ben Rogoff, Fund Manager, "Polar Capital Global Technology USD" (24.08.2011): "If it were not for the extreme market volatility then key indicators in the IT sector appear to be positive. Most management teams of the Technology companies we have seen in recent weeks are bullish about their own fundamentals but concerned about the political situation in both the US and Europe and the risks that they present. Our fear is that this then spills over onto CEO/CFO confidence, resulting in temporarily constrained investment. Most executives believe this phase will pass and that the secular drivers for ongoing investment will likely dominate the macro issues as we progress into the fourth quarter (the need to invest to drive productivity growth remains compelling). We tend to agree with this view, given that in the quiet summer months and in the absence of any more positive macro news a slightly more conservative approach to spending is likely. While this may present some risk to third quarter earnings we feel that recent stock price weakness largely captures this dynamic.
As such we have continued to rotate the portfolio towards our preferred small and mid cap stocks and away from larger, more defensive holdings. We still have very high conviction in our new cycle thesis, which offers significant secular growth potential for many small/mid cap disruptive technology companies - often at the expense of larger index constituents (which tend to be more constrained by IT budget growth). As soon as signs of macro stability emerge we expect to see a pick up in M&A activity, especially given that the sector remains flush with cash (tech is the only sector with net cash on its aggregate balance sheet), which should also provide some downside protection even in the event of a worst case scenario such as a deep double dip recession or collapse of the Euro. It is also worth remembering that most tech/semi companies now outsource manufacturing, which reduces leverage (versus historical precedent) and that we believe that this is largely being overlooked in current valuations."
Angelo Corbetta, Fund Manager, "nordasia.com" (23.08.2011): "I am positive on software, telecomand moderately bearish on hardware."
e-fundresearch: "Which are the most important elements in your investment process?"
Stuart O´Gorman, Fund Manager, "Henderson HF Global Technology A2 USD" (22.08.2011): "We believe we focus more on barriers to entry than other managers. The problem often for technology companies is that if they have a good product but no barriers to entry capital is attracted and profits are eroded. How many times have we seen a technology industry have massive revenue growth for very little profit - eg the PC industry. If a company can provide a compelling product but establish barriers to entry, either through technological superiority, network effect, scale, distribution or brand then profitability can be astounding and not understood by the market eg our largest holding Apple which has massive barriers to entry."
Mattia Nocera, Managing Director and CIO, "Vitruvius Growth Opportunities B USD" (24.08.2011): "As you know we select for all Vitruvius portfolios to external advisors who are specialists in their respective field. Vitruvius Growth Opportunities combines a top down approach, which aims to identify the new mega-trends affecting the industry dynamics, with a bottom-up analytical process focused on identifying companies which will retain or emerge as leaders in their area of expertise. Fundamental company research focuses on understanding the winning aspects of the specific product/ technology/ service offered by the company and their competitive advantage."
Ben Rogoff, Fund Manager, "Polar Capital Global Technology USD" (24.08.2011): "The investment philosophy of the Polar Capital Technology team is driven by bottom-up stock selection within a thematic framework. Our experience tells us that earnings and cash flow growth are the primary drivers of stock performance. As a result we have a growth centric approach, resulting in a strong bias towards small and mid cap companies. At the same time, however, our multi-cap style also allows us to invest selectively in large-cap companies, harnessing the secular growth potential of more established new cycle beneficiaries (such as Apple and Google), whilst also providing flexibility to respond to changing market or economic conditions.
The objective of our investment process is to create a diversified portfolio of profitable, next generation technology leaders with above average growth potential, not currently reflected in valuations i.e. the index constituents of the future. Typically we expect the performance of the Polar Capital Global Technology Fund to be driven by the underlying blended earnings and cash flow growth of its holdings, although valuation multiple expansion or compression will obviously impact these returns. In periods of economic uncertainty, balance sheet metrics become more relevant and we supplement these with normalised earnings based valuation."
Angelo Corbetta, Fund Manager, "nordasia.com" (23.08.2011): "A large portion of the stocks in our portfolio are covered by our analysts who value stocks based on a discounted cash flow model. In addition to our in house research, we have also developed valuation models based on Return on Invested capital/weighted average cost of capital and dividends."
e-fundresearch: "Which over- and underweight positions are currently implemented in your IT sector funds?"
Stuart O´Gorman, Fund Manager, "Henderson HF Global Technology A2 USD" (22.08.2011):
Mattia Nocera, Managing Director and CIO, "Vitruvius Growth Opportunities B USD" (24.08.2011): "Relative to the S&P North American Tech Index, Vitruvius Growth Opportunities is currently overweight the semiconductor and telecommunication sectors, while being underweight computer hardware and to a lesser extent software."
Ben Rogoff, Fund Manager, "Polar Capital Global Technology USD" (24.08.2011): "The Fund is fully invested with a more “typical” small/mid-cap exposure currently of circa 50%, increased from a low of circa 35% during February this year.
Our confidence that we are in the early stages of a significant “new technology cycle” is stronger than ever. In our view, this recent period is just part of a normal adjustment process exacerbated by the slowing macro backdrop.
Geographic and sector exposure is relatively unchanged. The US remains more than 75% of the Fund, which is close to our benchmark index weight. We are overweight application software and networking/communications equipment funded by underweight positions in IT services and hardware/PC related stocks.
The Fund positioning has not changed despite a more challenging period for markets and we have not moved away from our core investment approach. Hence we expect to fully participate when macro and sentiment headwinds abate and fundamentals return as the primary driver of stock performance."
Angelo Corbetta, Fund Manager, "nordasia.com" (23.08.2011): "The fund has an over-weight position on Korea and JapanIT sectors whereas it has an under-weight on China IT sector."
Question 4
e-fundresearch: "Please comment on the performance and risk parameters of your fund in the current year as well as over the past 3 and 5 years."
Stuart O´Gorman, Fund Manager, "Henderson HF Global Technology A2 USD" (22.08.2011): "The fund is designed to consistently beat the index on a rolling 3 year basis although we strive to outperform the benchmark every year. We do not really care too much about what other technology funds are doing. We aim to have volatility at around index levels and Beta around 1 although historically these have tended to be lower."
Mattia Nocera, Managing Director and CIO, "Vitruvius Growth Opportunities B USD" (24.08.2011): "Vitruvius Growth Opportunities underperformed by 2% its reference index in 2011 to the 19th of August, principally as a result of a relatively low allocation to the computer hardware sector. Clearly the correction of the last few weeks has been quite challenging with several top position declining substantially without fundamental reasons. Over the last 3-year period, the portfolio marginally underperformed its reference index, with substantially lower volatility. Over the last 5 years, outperformance has been significant (28.8% vs. 15.5% for the index), principally due to limiting losses during significant market corrections, and volatility has remained fairly stable below the one displayed by the index."
Ben Rogoff, Fund Manager, "Polar Capital Global Technology USD" (24.08.2011): "2009 was an excellent year for both the Technology sector and the Fund. Our assets under management grew from US$22m at the beginning of 2009 to US$ 163m at year end. Performance was also encouraging with the Fund returning 71.6% in US Dollar terms, outperforming its benchmark Dow Jones World Tech Index by 11.4% and beating the Lipper technology peer group average fund performance by 16.8%. Stock selection contributed almost all of the outperformance which aligns well with our bottom-up, growth centric investment philosophy.
The Fund rose by 32.8% in US Dollar terms during 2010, significantly outperforming the Dow Jones World Technology Index which rose 11.9% (ex dividend) over the same period. Assets under management grew significantly from US$163m at the start of the year to US$471m at year-end. As in 2009, the majority of the Fund’s outperformance came from stock selection, particularly in the US and Europe.
The Fund took profits in many small/mid-cap and cloud computing related stocks in late 2010 and early 2011 because they were looking extended relative to large-cap stocks. Given the significant macro uncertainty and the tragic events in Japan, we maintained this slightly more conservative position (with 62-65% large-cap and 35-38% small/mid-cap) for longer than we initially intended i.e. much of the first four months of the year.
Since then, starting in late April / early May we began rotating back towards our preferred small and mid-cap holdings and moving towards a more typical 50:50 (+/-2%) split between the two groups. This rotation back towards small and mid-cap was driven by several factors:
• A number of team members returned from trips to the US and China with increased confidence that bottom up fundamentals remained robust.
• Small and mid-cap valuations had pulled back significantly, due to increased risk aversion associated with slowing global growth and macro uncertainty.
• Our increasing confidence that we are in the early stages of a significant “new technology cycle” increasing.
The most significant negative technology data points at this time originated from large-cap incumbents each of which had their own specific problems, including Cisco, Hewlett Packard, Nokia and RIMM. Whilst a slower macro backdrop certainly played a part (it is harder for large-cap companies to grow materially above IT budget growth), share loss and competitive issues appeared to be largely responsible.
With hindsight, while the poor performance of un-weighted indices significantly contributed to our underperformance, we were too defensive as the market ground higher during the first quarter. We also underestimated the disruption associated with US deficit negotiations and slowing economic momentum. As a result, our move back towards an un-weighted (small and mid-cap) orientated approach proved premature.
The Fund performance also suffered from weak performance of a number of our Chinese holdings during the period due to two key developments. Firstly, there was the emergence of suspected fraud at Longtop Financial (a holding audited by Deloitte, which we subsequently sold before the shares were suspended). Secondly, corporate governance concerns associated with the somewhat nebulous transfer of AliPay (the Chinese equivalent of PayPal owned by Alibaba Group, which is part owned by Yahoo and Softbank) to its founders without prior board approval.
Although it may take time for this cloud to lift, we believe the risk reward of investing in China remains compelling and have used weakness to add to some of our preferred stocks there."
Angelo Corbetta, Fund Manager, "nordasia.com" (23.08.2011): "In the past 1-3-5 years, in terms of the absolute performance, the fund has outperformed the peers (as defined by the Bloomberg´s active index for open-end funds actively managed and investing in the IT, internet and telecom sectors). As far as the volatility, it has been higher compared to the peers´ average one.
The relative performance against benchmark has been flat over a 5 years period. However the volatility has been, on average, 300 bp lower.
Basically the fund has a good track record in terms of the reward adjusted by the amount of risk taken."
Question 5
e-fundresearch: "What are the major risks for technology stocks?"
Stuart O´Gorman, Fund Manager, "Henderson HF Global Technology A2 USD" (22.08.2011): "The economy remains the dominant risk factor. We believe that policy makers have succeeded in creating a "drug addict" economy in the West, where we need increasingly large injections of stimulus for an increasingly smaller positive effect on the economy - much like a drug addict. Sadly we seem to be approaching a stage where monetary stimulus is running out of power fiscal policy is becoming a major drag on the economy. Many technology stocks look exceptionally cheap at the moment - as long as the economy does not deteriorate further but we fear this is getting increasingly unlikely. However, over the next 12 months we still expect technology to outperform, even if only relative to other equities due to the incredibly strong balance sheets of most tech companies, the high degree of recurring revenues most of them have and the flexibility of their business models (most technology companies have very little fixed costs, no unfunded pension liabilities)."
Mattia Nocera, Managing Director and CIO, "Vitruvius Growth Opportunities B USD" (24.08.2011): "The technology sector continues to appear attractive and the combination of low valuations, strong balance sheets and secular growth trends. Hence, the main risk for technology stocks will be a severe slowdown in global growth with a consequent knock-on impact on business investment."
Ben Rogoff, Fund Manager, "Polar Capital Global Technology USD" (24.08.2011): "Macro issues are the predominant risks for the technology sector in the current environment. A deep recession and/or the collapse of the Euro would obviously have severe detrimental effects on the performance of the Technology sector. Economic momentum has been slowing rapidly at this time of increased uncertainty regarding the Eurozone debt crisis, US deficit reduction (debt ceiling) plan and deteriorating US economic data. This has clearly not been helpful for broader technology performance and risk appetite. However, the sector as a whole does have a very strong balance sheet which should provide some downside protection if either of the aforementioned situations were to unfold.
The fear of these potential worse-case outcomes has had a significant impact on risk assets as prices adjust to the recent economic data. With stocks and oil prices down sharply in favour of stores of wealth such as gold and US Treasuries, investors have clearly dusted off their financial crisis ‘playbooks’ as they look to position for a recession and/or a repeat performance of 2008/9. As such, the current correction has had a disproportionate impact on stocks and sub-sectors that fared poorly during those dark days, with investors eschewing small-caps, higher multiples and companies with net debt on their balance sheets in favour of stolid, ‘cheap’ alternatives. This adverse rotation has been so significant that small-caps have given up about two-thirds of their post 2008 outperformance since the ‘risk on’ trade reached its zenith in early April, while unweighted indices now trail weighted alternatives over the post 2008 timeframe.
While acknowledging that recession risk has risen, we do not believe that a 2008 re-run is anything other than a tail-risk at this stage, despite headlines to the contrary. Instead, with the S&P 500 recently trading at 1120, we believe the market is beginning to price in negative earnings growth next year. Furthermore, with US stocks yielding more than ten-year US Treasuries we suspect that – once the dust settles - asset allocators that share our more sanguine view will find it difficult not to recycle Treasuries that sport negligible real yields into somewhat de-risked equities."
Angelo Corbetta, Fund Manager, "nordasia.com" (23.08.2011): "Overcapacity and excess inventories are the usual risks. By the nature of the IT business such risks tend to materialize on a regular basis. We need to see more consolidation in the hardware segment before turning positive."
All performance data per 16.08.2011
