Weekly Market Commentary By H.E.R.O. (16 to 20 Nov 2020)
During the week ended 20 November 2020, the the Portfolio of Global Dividend-Yielding Innovators gained +1.4%, vs MSCI ACWI All World index +0.4%, S&P 500 -0.8%, Gold (physical spot in USD) -1%.
Since the recent inception on 28 August 2020, the Portfolio of Global Dividend-Yielding Innovators maintained her positive absolute returns, during which MSCI ACWI All World index +4.2%, S&P 500 +1.4%, Euro Stoxx Tech index -5.1%, Shanghai Composite index -0.8%, Gold (physical spot in USD) -4.8%, while many popular big cap tech and innovation-themed companies declined, including consumer staples Nestle -4.8% and McCormick -10.2%; Visa -5.5%, PayPal -5.8%, Apple -6%, Alibaba -6.3%, Netflix -6.8%, Netease -7.3%, Gilead -7.9%, Microsoft -8.1%, Facebook -8.2%, Amazon -8.9%, eBay -9.7%, Intel -10%, Adobe -10.4%, Mastercard -11.8%, China Mobile -15.9%; local defensive steady supermarket hero Sheng Siong -8.1% and China's best-run supermarket operator Yonghui Superstores -13.1%; exchange operators London Stock Exchange -7.6%, ASX -10%, Euronext -11.8%, Deutsche Boerse -14.7%; glove companies Top Glove -16.8% and Riverstone -34.6%, and medical apparel maker Medtecs -40.8%.
The separate equity portfolios of H.E.R.O. Innovators of our clients generated around +48% in average returns, as at 20 Nov 2020, since the H.E.R.O. research methodology was provided for and implemented in March 2020, vs MSCI ACWI All World index +37% and Singapore STI index +11.2% over the same corresponding period.
- Key contributors during the week were led by: (1) Nordic Global #1 Leader in Advanced Communication and Hearing Protection Systems to Enable Communication In Noisy & Mission-Critical Environments (+15.4%); (2) Nordic Leader in Climate-Smart, Energy-Efficient Technical and Sustainable Installation Services in Heating & Plumbing, Electricity, Ventilation, Cooling and Industrial Solutions (+11.7%); (3) Japan's #1 PACS Medical Image Management Cloud Software Company and Leading Cybersecurity Cloud Infrastructure & Monitoring Services Company (+9.7%); (4) Japan’s #1 specialized boutique platform for M&As (+9.6%); (5) Japan’s #1 Shareholder Register Data Analytics & Consultancy Firm (+6.6%).
The Moderna vaccine news on Monday that it is 94.5% effective at preventing the virus has extended the rally of the Cyclicals and the declines in Big Tech, defensive stocks, consumer staples and havens who remained in purgatory during the week, with Big Tech such as Microsoft -2.8%, and Nestle -2.2% and Gold (physical spot in USD) -1%. Both the Pfizer-BioNTech and Moderna vaccines require two doses to confer protection, administered three and four weeks apart, respectively. This means vaccination campaigns will need to reach people not just once, but twice—with the same vaccine, and on a specific schedule.
The optimism of a sharp V-shaped economic recovery faded over the week with global assets ranging nervously in a quandary as the grim reality and fear over surging virus infections and fresh lockdowns set in, and WHO advises doctors not to use Gilead’s Remdesivir for COVID treatment, and lingering concerns over new strains of virus that might render the Pfizer-BioNTech and Moderna vaccines to be ineffective. In addition to the Danish mink-to-human mutated COVID virus, South Australia is battling a fast-spreading new strain of COVID-19 that is five times more infectious, in which people were becoming infectious 24 hours after exposure as compared with five days after exposure in the average Covid-19 patient, as it prepares for a six-day lockdown to attempt to contain the virus. Bill Gates warned that despite the vaccine hope, the virus pandemic will fundamentally reshape business travel and the office experience forever and today's chaotic world won’t be reverted back to pre-COVID times, adding that travel spending won’t recover until 2024, and that over 50% of business travel and over 30% of days in the office will go away and never come back.
Vaccines have traditionally taken up to a decade to win approval, and people will be wondering how can we trust the safety of vaccines produced in a small fraction of the time. Global opinion research published in Nature Medicine finds that more than a third of respondents would decline to take a vaccine even if it were safe and effective and available. Regulatory authorities are gearing up for a deluge in people reporting side effects when the new Covid-19 vaccines go into use. Even as m-RNA vaccines like the one from Pfizer-BioNTech reach safety milestones and look set for regulatory approval, managing the reporting and follow-up of what are known as adverse drug reactions will be critical to keeping to the high levels of public participation needed for a vaccination program to be successful. What’s still unknown, however, is whether the vaccines also prevent transmission of the virus. Might vaccinated people who never develop Covid-19 symptoms still carry the virus and pass it to others? This is an important question, especially if many people refuse to be inoculated. And if the coronavirus continues to be passed from person to person, it has a better chance to keep mutating and potentially evade our defenses, rendering the Pfizer-BioNTech and Moderna vaccines to be ineffective.
10Y UST yield continue to fall resolutely during the week and capped at much below 90 bps in the absence of unchecked massive fiscal stimulus, even with the unprecedented public spat between Federal Reserve Chair Jerome Powell and Treasury Secretary Steven Mnuchin, after Mnuchin declined to extend the year-end expiration date of 5 Fed emergency lending programs created this year, which include the programs targeted at the excesses of corporate credit market and municipal lending that has resulted in junk bond yield at record low. With the Fed returning the unused funds to the Treasury, Congress will be able to re-appropriate US$455 billion, including putting the money to better use by making loans to small businesses. Mnuchin added that “markets should be very comfortable” that “there’s plenty of firepower left”. While gold and sentiment-based havens picked up slightly after Mnuchin’s “plenty of firepower” comments, they extended their decline for the week, and the virility of gold has been neutered by the vaccine news for the foreseeable future, while several structural growth innovators bounced back after the overreaction from the Pfizer-BioNTech last week. Meanwhile, the euro was the most used currency for global payments last month, the first time it has outpaced the dollar since February 2013.
The old admonishment by Benjamin Franklin seems to ring true during this extreme market event: "Those who would give up essential Liberty, to purchase a little temporary Safety, deserve neither Liberty nor Safety" - sentiment-based havens such as gold, which induced a false sense of security, ultimately produced no yield or earnings, while fundamentals-based structural growth innovators solve high-value real-world problems to generate visible and vigorous quality earnings growth before and during the pandemic, as well as are poised to enjoy continued healthy demand and staying power in a post-pandemic future when the world recovers painfully and slowly from the pandemic Health Crisis to the next crisis – the Growth PTSD Crisis that will benefit the quiet H.E.R.O. innovators.
In Asia, over US$6.7 billion in corporate bond sales canceled across China as default scare spreads, and the credit stress in China’s US$4.1 trillion corporate bond spilling over to sovereign bonds, and the premium for China’s 10-year government bonds over U.S. Treasuries of same duration has climbed to over 250 basis points, the highest on record. There is increasingly a deepening suspicion that SOE companies will just move good assets out before creditors drag them to court – the bond issuers never meant to pay back their investors chasing supposedly high yield. Next up for default would be the opaque and murky LGFVs (local government financing vehicles), which are the largest issuers in corporate bond markets, having surpassed state-owned enterprises at the end of 2018, accounting for almost 35% of the issuance. As jitters rippled through the bond and money markets, traders and investors are increasingly anxious about how banks are going to absorb all these defaults, this time round going beyond the regional banks to the bigger established banks. China’s financial institutions were sitting on 2.84 trillion yuan of non-performing loans at the end of the third quarter, up almost 100 billion yuan since the previous three months. That’s after they disposed of 5.8 trillion yuan of dud loans over the last three years, more than the preceding eight years combined. The official bad debt ratio was close to 1.96%. The balance of loans overdue for more than 90 days was 2.59 trillion.
Meanwhile, the U.S. SEC is pushing an urgent plan to delist Chinese companies for not complying with U.S. auditing rules, following multiple fraud scandals over the years that burnt investors. U.S. executive ban on China military-linked stocks has also created investor woe, with China Mobile down 13% since 11 Nov. Also, successful trials of western pharmaceutical groups’ coronavirus vaccines have sliced more than US$13 billion off the market capitalisation of Chinese rivals. An index tracking shares of 14 vaccine producers listed in Shanghai and Shenzhen has dropped over 11% since Pfizer first announced its positive phase-three trial results earlier this month, and is down about a third from its peak in August, led by the popular HK-listed CanSino Biologics (6185:HK) which has plunged over 42% since 31 July. China’s government has thrown US$100 billion in subsidies at its domestic electric-vehicle industry over the past decade, which account for approximately one-third of an electric car’s sales price, according to a new report from Scott Kennedy with the Center for Strategic and International Studies. But it is still unlikely Beijing will succeed in its mission to conquer the global EV market, analysts say.
Meanwhile, more accounting fraud revelations of Chinese tech companies continue to be unravelled. Chinese social-media and entertainment company JOYY fell as much as 30% after Muddy Waters said its live-streaming service YY is “guilty of bot forming, creating fake transactions and having fake users”, and that its years long investigation shows YY is “about 90% fraudulent.” The report commented that YY’s supposedly high-earning performers actually take home only a fraction of their reported totals; the supposed independent channel owners are largely controlled by YY to facilitate “sham transactions;” and legions of benefactor fans are almost all bots operating from the company’s internal network. The report said YY’s international live-streaming service, Bigo, “seems barely more real.” The wider problem is that these allegations bring the entire industry’s business model into question, threatening the existential value of companies that include ByteDance’s Douyin, Momo, DouYu, etc. The report came just after Baidu agreed to buy YY for US$3.6 billion. “Will Baidu really try to buy “growth” in the form of an almost completely fake business?” Muddy Waters asked.
Imagine a conservative client who asks her financial advisor or fund manager a series of the below questions on making sense of the markets in order to make better investment decisions. She said, "Please don't tell me that you are recommending to invest in...
- Gold: Don't you think that there is a high probability of downside risk in the foreseeable future after the vaccine news have neutered the sentiments-based havens? Don't you think that gold's now like a Texas hedge that increases an investor's risk and is also sensitive to the possible risk of real bond yields rising as inflation expectations declines in the absence of unchecked massive fiscal stimulus?
- Cyclicals & Financials: Don't you think that there is a high probability of downside risk in chasing and catching at exactly the wrong time after the sharp run-up from the vaccine hope and things can turn very nasty suddenly? Don't you think that the situation will degenerate or revert back into its true ugly colors as cheap-gets-cheaper Value Traps once the vaccine hope fades or something negative happen on the mass vaccination plan or new mutated virus strains erupt to render the vaccines ineffective?
- Big Tech: Don't you think that there is a high probability of downside risks in regulatory techlash against Big Tech in the longer-term? Don't you think that they may bounce back up, but are more likely to trade around a bounded range?
- China: Don't you think that the country's like a House of Cards with Fragile Financial Foundation? Everyone's looking at the superficial nice income statement numbers with headline-grabbing GDP lopsided "recovery growth" but ignore the precarious balance sheet risks. The recent credit stress and wave of bond defaults are just the tip of the iceberg?
- China Tech: Don't you think that there is a high probability of downside risks from hundreds of billions in dollar in impairment writedowns in fintech assets held by or invested by the China tech companies from Alibaba/ANT Financial, to JD.com and Tencent? And how about all the potential accounting fraud risks in Chinese tech companies such as JOYY in the Muddy Waters report?
- China's Green Energy and Electric Vehicle Revolution: Don't you think that there is a high probability of downside risks with chasing hyped-up story stocks of loss-making companies reliant on subsidies? Are you worried about news on JA Solar, one of the world's largest solar panel producers, which plunged after over 26% with news of its billionaire chairman under investigation by Chinese authorities? Are you worried about news on Tianqi Lithium which tumbled after its default risk warning? Are you worried about Citron's research on loss-making electric vehicle wannabes entirely dependant on subsidies such as NIO and Xpeng commenting that "Anyone buying NIO stock now is not buying a company or its prospects, rather you are buying 3 letters that move on a screen”?
- REITS: Just like Gold, don't you think that there is a high probability of downside risk given their sensitivity to the possible risk of real bond yields rising as inflation expectations declines in the absence of unchecked massive fiscal stimulus?
- "Steady" Defensives such as Consumer Staples: They do not appear so defensive? Especially after all this vaccine hope? Don't really want to get caught in false sense of security...
- High-Yield Structured Products, Bonds or Notes: Don't you think that there is a high probability of downside risks and total capital loss in all these illiquid complex instruments that promise high-yields? Are you worried about how the widespread blowup of high-yield structured products in Korea and recent high-profile implosions in the U.S. in exchange-traded notes issued by established well-known banks will happen here?
How would you reply this client?
Our portfolio companies have shown resilience and scalability during this tumultuous environment and the management continue to make key strategy decision to expand their market leadership in their respective fields. The quiet HE.R.O. innovators have invested wisely in innovations that sharpen their exponential competitive edge for long-term value creation, strengthened their market position in the value chain that supercharged their cashflow dynamics, developed new channels, new markets and new customer base for revenue growth while improving their profitability at a time when most businesses are struggling, and nurtured their human capital and corporate culture to foster innovation and ESG sustainability.
While the short-term day-to-day price movement can be volatile, what continues to be crystal clear is that the quiet structural growth H.E.R.O. innovators remain the most visible and vibrant pathway in a foggy, volatile, whipsawing, uncertain market to deliver sustained outperformance with their healthy fundamentals results.
Interesting Readings to be a Better Investor & Person
Mary Karr — The Master of Memoir on Creative Process and Finding Gifts in the Suffering (#479)
For me, the solution to fear is curiosity and presence. I can’t be terrified and curious at the same time.
— Mary Karr
Mary Karr (@marykarrlit) is the author of three award-winning, bestselling memoirs: The Liars’ Club, Cherry, and Lit. She is also the author of The Art of Memoir, which lays bare her own process as she breaks down the craft of memoir, and Tropic of Squalor, her latest volume of poetry. A Guggenheim fellow in poetry, Karr has won Pushcart Prizes for both verse and essays. Other grants include the Whiting Award, PEN/Martha Albrand Award, and a Radcliffe/Bunting Institute Fellowship. Karr is also the Peck Professor of Literature at Syracuse University.
- Mary elaborates on an excellent, real-life illustration of why she became a memoirist sharing her life growing up in what she calls “The Ringworm Belt.” [04:40]
- What does Mary consider to be the catalyst for expressing herself in the way she does and publishing it to the world? [06:59]
- On the role that reading played for young Mary. [10:13]
- What was the feeling that elicited Mary’s desire to become a poet when she was five or six years old — even though she’d never met one? [13:04]
- “Art should comfort the disturbed and disturb the comfortable” seems to be graffiti artist Banksy’s 21st-century adaptation of the Cesar A. Cruz 1997 poem title “To Comfort The Disturbed, and to Disturb the Comfortable: Onward Children of the Sun,” which was apparently modified from humorist Finley Peter Dunne’s 1902 sarcastic media critique that stated: “Th’ newspaper…comforts th’ afflicted, afflicts th’ comfortable.” [17:07]
- As a high school dropout, how did Mary weasel her way into college, and what was it about the environment that turned her from someone who got a D in art her senior year to an A student in college? [17:57]
- How Mary, even after leaving the place where she’d gone through so much trauma, brought the darkness with her wherever she went. [22:22]
- With up to 1,200 applications submitted for 12 positions, how is it decided who gets into Mary’s hyper-selective graduate seminar at Syracuse University? [26:06]
- What does the first day of this class look like, and what is it designed to illustrate about the way we process the memories that build our memoirs? [29:10]
- Another effective, memorable exercise: writing down beautiful pieces of language one might encounter in a commonplace book, and maybe helping others in need keep an eye out for door number three when the first two seem unnecessarily rash. [35:02]
- Having grown up in an atheistic household, what is the importance and utility of prayer in Mary’s life today? What part did it play in helping her maintain sobriety? [39:09]
- Now Catholic, what do the Ignatian exercises mean to Mary? How do they help her remain mindful of the everyday experiences for which she’s grateful — like the feeling she gets from seeing Steve Kornacki delivering election updates on MSNBC? [52:28]
- Obligatory Texas talk about weaponry and hunting. [58:49]
- In what kind of forge did Mary’s unique wordsmithing come to be? [1:02:24]
- On rough drafts, the process of revision, and tapping into past memories for storytelling grist. [1:10:22]
- When dredging up past memories is painful and draining, what does Mary do to cope with it all, and why does writing about it seem to be such a different experience from expressing it in some other way? [1:18:52]
- At 65, why does Mary feel the happiest she’s ever been, and what advice would she give her younger self about therapy? [1:22:34]
- What type of therapy has been most effective for Mary (and what’s been the least)? [1:26:04]
- Mary’s solution to fear, and how getting through an uncomfortable time can be like having a trick knee or trying to quit smoking. [1:30:16]
- We don’t always recognize the gifts we’re given by suffering through disappointing and difficult times until long after the fact. [1:35:37]
- What would Mary’s billboard say? [1:44:19]
- Parting thoughts. [1:45:21]
|The H.E.R.O. Investment Framework
The H.E.R.O. framework, methodology and strategy are powering equity portfolio asset for our clients. The Portfolio of Dividend-Yielding Global H.E.R.O. Innovators is the only equities strategy in the market that focuses on both dividend yield and innovation-driven capital gains to enhance total shareholders’ returns. It is also the only dividend-yielding equities strategy in the market that is entirely not dependent on and with zero exposure to: (1) cyclicals (concentrated in economically-sensitive and rate-sensitive sectors such as financials, property & construction, energy & materials) that may not be resilient in economic downturns, and (2) cheap-gets-cheaper yield- and value traps. It also applies the proprietary forward-looking fact-based accounting fraud detection system that was pioneered and taught at the Singapore Management University, ranked top five in the world accounting rankings, and presented to the top management team of Singapore’s top financial regulator Monetary Authority of Singapore (MAS), to mitigate downside risks which escape detection by typical western-based forensic tools.I. Strategic Focus on Quiet Innovators & The H.E.R.O. Investment Framework
Our investment strategies distinguish from those of all other tech- and innovation-themed funds with its singular focus on quiet innovators, which present structurally mispriced opportunities and avoid overcrowded misopportunities that stem from the human tendencies to equate flashy popularity with excellence, and have an active ratio of over 95% (vs the MSCI World Index). The portfolio companies are exceptional innovators and focused market leaders in their respective fields with unique, scalable, recurring-revenue and high-profitability business models delivering innovative products and services indispensable to our well-being in daily life and run by high-integrity, honorable and far-sighted entrepreneurs with a higher Purpose in solving high-value problems for their customers and society whom we call H.E.R.O. – Honorable. Exponential. Resilient. Organization.
H.E.R.O. is operationalized into a systematic 4-step investment process and investment framework powered by sustainability & ESG principles to identify the winners, to distinguish between the true innovators and the swarming imitators, between the devoted missionaries forging a greater Purpose and the mercenaries.
We use the framework and positive criteria of the United Nations Sustainable Development Goals (SDGs) to integrate environmental, social, and governance (ESG) considerations into the research and investment process in selecting companies that generate sales in products and services that contribute to the achievement of the UN SDGs. The central focus of our impact investing is on innovators who contribute to the UN SDG Goal 9: Industry, Innovation, and Infrastructure — “Build resilient infrastructure, promote inclusive and sustainable industrialization, and foster innovation”.
H.E.R.O. is unique in eliminating the downside risks from accounting tunneling fraud and misgovernance through unusual related-party transactions, consolidation accounting craftiness (opportunistic shifting of expenses and debt into unconsolidated entities), and hidden balance sheet liabilities at the wider pyramidal business group level etc., which escape detection by western-based forensic tools through a proprietary forward-looking fact-based accounting fraud detection system developed by KB, and taught at the Singapore Management University, ranked top five in the world accounting rankings, and presented to the top management team of Singapore’s top financial regulator Monetary Authority of Singapore (MAS). For instance, prevalent across Asian companies, previously Big-4 audited “cash” in the balance sheet are often misclassified “cash equivalents” disguised from improper short-term related party loans employed by the insiders to expropriate or tunnel out cash from the company after initially propping up financial numbers artificially to create false positive signals to lure in funds.
|II. Be Stronger, Wiser & Kinder By Participating in the Quiet Innovators' Quest to Purpose
“Innovators” are companies that generate sales in technologically enabled new products and services that potentially transforms the way the world works. We seek to identify companies capitalizing on innovation in offering faster, cheaper, more productive, more cost effective, more compelling products and services, or that are enabling the further development of an innovation theme in the markets in which they operate.Not only do the H.E.R.O. innovators generate high profitability at the inflection point of their exponential growth trajectory, more importantly, they are governed by a greater purpose in their pursuit to contribute to the welfare of people and guided by an inner compass in choosing and focusing on what they are willing to struggle for and what pains they are willing to endure, in continuing to do their quiet inner innovation work, persevering day in and day out.
|II. Quiet Innovators Thrive in Stormy Times
Prepare and position a winning portfolio for a post-pandemic world with innovators who thrive in stormy times and transform crises and trauma into opportunities for the future. The coronavirus crisis has helped accelerate innovation and enhanced the leadership of innovators. Market positions are not redistributed during sunny and calm times, but during times of crisis. The pandemic crisis has changed the behavior of both consumers and businesses. Companies offering faster, cheaper, more productive, more cost effective, more compelling and innovative products and services are gaining significant share.Market leadership and resilient winners in stormy market environment and in the post-pandemic future will be much less about the overcrowded popular trades in mega-cap tech and loss-making tech/biotech, as defined by FAANGT-STAMP (U.S.: Facebook, Apple, Amazon, Netflix, Google, Tesla; Asia/China: SEA, Tencent, Alibaba, Meituan-Dianping, Pinduoduo), who also do not pay any dividends (with the exception of Apple and Tencent), and will be led more by highly-profitable quiet innovators, including dividend-yielding cloud Software-as-a-Service (SaaS) companies.
Notably, of the 90+ cloud software companies listed in the U.S., nearly all (>95%) do not pay any dividends, with many still looped in a negative free cashflow position, while the 20 global SaaS portfolio companies in the Portfolio of Dividend-Yielding Global H.E.R.O. Innovators are unique in being exceptional market leaders in their respective field with ample internal cashflow generative capacity to reinvest for higher-margin growth and still consistently produce rising dividend yield to reward shareholders.