The Apollo Asia Fund's NAV rose 16.2% in the third quarter, to a new high of US$1,144.68: it has risen 24.6% year-to-date, and 25.1% over the last twelve months. Charts. This all feels rather frothy, but we are still unhedged and fairly fully invested. That may or may not be right - a suden crash would not surprise me, and has become almost traditional for October - so let me tell you how we're positioned, and allow investors to add their own overlay.
| Geographical
breakdown by listing; 30 Sep 10 |
% of
assets |
| Hong Kong | 16 |
| Japan | 4 |
| Malaysia | 12 |
| Singapore | 36 |
| Philippines | 4 |
| Thailand | 23 |
| Net cash & receivables | 5 |
100 |
During the quarter, we added two new names and increased our stake in three. We trimmed six, and completely sold out of two. (We exited another in the first days of October). At the end of the quarter, nine individual positions exceed 4% of NAV, and the top ten holdings account for 64%.
The large Singapore weighting in the geographical breakdown to the right is anomalous. One company representing 0.8% of NAV does all of its business in the island republic: the activities of our other Singaporean holdings are regional or global. The large Thai weighting is however a fair representation, and arises from the excellent growth in holdings which we selected bottom-up, held through various episodes of political turmoil, and still consider inexpensive or reasonably priced - although we have trimmed a little. Our Japanese holdings by contrast have shrunk since purchase, with earnings battered by depressed major economies and yen strength, but this is one of the markets which appears most promising in terms of value, and we hope to pay more attention to individual opportunities there.
At the time of writing, modern retail accounts for 30% of the securities held. The shops operated by our companies comprise supermarkets, hypermarkets, general merchandise stores, pharmacies, health food and convenience stores, and are broadly spread from greater China through Southeast Asia to India. These businesses have long-term pricing power (margins in any given quarter may be squeezed), and they are typically supplier-funded, so that rising inflation requires no new capital. A fair percentage of their sales are staples, so footfall is resilient. One pays for such merits: the current-year PE for the portfolio is 13.8, and for our retailers ranges to almost twice that. At present we hold no fashion or luxury-goods retailers.
Low-end consumer finance represents another 9%. Like the retailers, these benefit from supportive demographics and urbanisation trends throughout Southeast Asia - but they are much more vulnerable to changes in government policy. Looking at the mess caused by excessive debt and bank failures in the west, it is understandable that Asian central banks should consider preemptive braking. The lack of current growth makes these stocks unfashionable: current-year PEs range from 8 to 11 on our estimates (although earnings could of course be battered by NPLs in the event of renewed recession), and net dividend yields are 5-6%.
Essential services represent 9% of securities: a caveat is that services may be essential without eliminating cyclicality (for example, Boardroom's share registration services are correlated with corporate activity and IPOs), and in most cases there are competing providers. Most of our service holdings are reasonably priced but very illiquid.
Other domestic consumption plays - including branded food and soft drinks, cafes and fast food outlets - represent a further 19%. Manufacturers account for 25%. The manufacturers supply domestic and regional as well as global markets, but are typically exposed to some risk on FX as well as input costs, receivables etc. Excluding CHT, which we wrote down to zero in 4Q09, we believe that our manufacturers are all highly competitive internationally: on technology / branded quality, on cost, or on both.
Only 30% of our securities, by value, have significant net debt, and that includes the consumer finance companies. Many of our companies have no debt, or net cash.
Given the concerns we expressed earlier in the year on the importance of energy, we now have no airline exposure, and no companies whose own operations seem particularly energy-intensive. However, the portfolio does have significant exposure to automobiles (parts manufacture, distribution, testing), and a high general dependence on the continuation of business as usual. (We'd be happy to reduce that dependence if we could, as the risks for the global economy seem extremely high.)
Meanwhile, with interest rates trivial globally, it is easy to make the case that the earnings yields on equities are attractive, and that equities may hold their value in case of inflation, while real returns on cash would be indisputably negative. Against this stands the voice of experience (and statistical analysis), that when equities have had such a strong bull run, and are as highly valued as they are now, the subsequent returns are usually disappointing. But the party can go on for a long time.
The reported comments of Messrs. Buffett, Munger and Gates on their short China trip were doubtless intended mainly for their domestic hosts, but brought to mind those of Barton Biggs in late 1993 ('tuned in, overfed, and maximum bullish'). Then, just as we thought a crazy market could not get much sillier, American asset allocators supercharged the punch. Now, quantitative easing by developed nations is causing new waves of funds to flow to Asia, and doubtless a new generation to fall for the sirens' tales. There are sound stories too: of secular progress, and the absence of certain problems prevalent in the west - overindebtedness, excessive pension liabilities, etc. These merits are striking, and well articulated by brokers. But Asia's internal problems (inflation, energy security, water security, pollution, overdependence on construction...) are also becoming more significant.
These are not the sort of markets in which we excel - indeed we frequently underperform, having a tendency to worry too early about the risks, while lacking the confidence or imagination to find ways of profiting when they crystallise. Suggestions are very welcome. However, investors wishing to participate fully may prefer to switch horses.
Claire Barnes, 8 Oct 2010
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