Weekly Market Commentary By H.E.R.O. (30 Nov to 4 Dec 2020)
During the week ended 4 December 2020, the the Portfolio of Global Dividend-Yielding Innovators gained +2.3%, vs MSCI ACWI All World index +1.4%, S&P 500 +1.7%, Microsoft -0.4%, Amazon -1%, Nestle -3.2%, Unilever -5.7%, Keppel DC REIT -3.9%, NetLink Trust -2%, Sheng Siong -1.3%.
Since the recent inception on 28 August 2020, the Portfolio of Global Dividend-Yielding Innovators has maintained positive absolute returns above its 3% hurdle rate on high watermark, during which MSCI ACWI All World index +8.2%, S&P 500 +5.5%, NASDAQ 100 +4.4%, Euro Stoxx Tech index -1.6%, Shanghai Composite index +1.2%, Gold (physical spot in USD) -6.4%, while popular big cap tech and innovation-themed companies declined in the aftermath of the most extreme rotation ever recorded in history following the Pfizer-BioNTech vaccine news, including Consumer Staples Nestle -9.1%, Kraft Heinz -2.2%, Unilever -3%, General Mills -4.7%, Conagra -7%, Campbell Soup -7%, McCormick -8.2%, Church & Dwight (Condom) -9%, Kellogg -11.6%, Kimberley Clark -12.2%, Reckitt Benckiser (Lysol, Dettol, Durex) -14.3%; local Defensive steady supermarket hero Sheng Siong -9.3% and China’s best-run supermarket operator Yonghui Superstores -13.3%; China Mobile -16.2%, Alibaba -8.2%, Netease (China's internet gaming giant whose revenue is around half of Tencent's gaming business) -13.3%; Healthcare giants J&J -2.2%, AstraZeneca -4.6%, Gilead -5.7%, Merck -6.8%; Visa -1.4%, Apple -2.1%, Facebook -4.8%, Netflix -4.9%, Adobe -5.9%, Mastercard -5.9%, eBay -6.1%, Microsoft -6.4%, Amazon -7%, Salesforce.com -16.7%; Exchange operators LSE -2%, Nasdaq Inc -5%, Euronext -12.7%, ASX -12.7%, Deutsche Boerse -13.4%; Glove companies Top Glove -24.1% and Riverstone -41.5%, and medical apparel maker Medtecs -39.5%.
The separate equity portfolios of H.E.R.O. Innovators of our clients generated around +52% in average returns, as at 4 Dec 2020, since the H.E.R.O. research methodology was provided for and implemented in March 2020, vs MSCI ACWI All World index +42.4% and Singapore STI index +12.3% over the same corresponding period.
- Key contributors during the week were led by: (1) Nordic Global Leader in Pet Health & Nutrition (+18.6%); (2) Nordic Global #1 Leader in Advanced Communication and Hearing Protection Systems to Enable Communication In Noisy & Mission-Critical Environments (+12.7%); (3) Sweden's Dominant #1 Cloud Accounting & Financial SaaS Leader (+9%); (4) Denmark's #1 Cloud Software In Process Automation & Transformation for the Global Public Sector (+8.8%); (5) Japan’s #1 Shareholder Register Data Analytics & Consultancy Firm (+7.5%).
Fiscal stimulus hopes rise, pushing 10-year UST yields to the highest since March 2020, after the U.S November jobs report showed the country added fewer jobs than expected and economic data in the U.S. and worldwide weakened as fresh lockdowns, in response to a surge of Covid-19 cases, have pressured the pace of the economic recovery.
While the red-hot flames of Cyclicals were weaker during the early part of the week on news of Pfizer-BioNTech vaccine supply issues and Pfizer CEO Albert Bourla commenting that he is "not certain" that the vaccine will prevent people from carrying and spreading the virus to others, euphoric traders chased the trendy Cyclicals yet again after Republican senate majority leader Mitch McConnell said on Thursday that compromise on a fiscal stimulus was “within reach”. His comments came a day after some senior Democrats gave their backing to a US$908 billion stimulus proposal that also has the support of some Republican lawmakers. Notably, the fiscal stimulus size is significantly lowered from the "ask" by the House and Senate Democrats from over US$2 trillion, though McConnell has said in a CNBC interview that he’s more comfortable with the amount of stimulus funding at US$600 billion, a figure that has increased from the initial US$500 billion plan. Congress also has to deal with passing a US$1.4 trillion annual spending bill to fund government operations. The U.S. government has been working under a stopgap measure since the fiscal year began on 1 Oct. That expires 11 Dec, and missing the deadline would trigger a partial government shutdown.
Meanwhile, companies with the weakest balance sheets and the highest leverage rallied for a fourth week, the longest streak in 13 months, and up 25% since the start of October, poised for its best quarter of relative performance since the last bull market began in 2009. As year-end approaches, with bankruptcy courts increasingly clogged, investors are pouring money into the market’s riskiest corners. They’re brushing aside insolvency risk and piling into zombies companies whose businesses are losing money even before servicing their debt. Their shares have surged 53% on average this quarter, about 10 times the S&P 500. Zombie companies who cannot even cover their interest expense with cash from operations has grown to 20% of all Russell 3000 corporations. More frightful than the zombies are the “vampires”, junk-rated corporations with negative EBITDA, who have reached an eye-popping 47 in 3Q2020, nearly double the level in the second quarter, out of a universe of about 600 borrowers.
Once the vaccines actually start being administered at scale and the pandemic recedes, a lot of investors are going to wake up to the fact that the global economy is still dogged by a host of thorny problems that both predate and have been exacerbated by the virus. The current unsustainable euphoria over Cyclicals, Value Traps, Zombies and Vampires has created opportunities in the inexorable rise of a selected group of fundamentals-based structural growth innovators who have remained resiliently positive throughout the most extreme ever recorded chaotic market rotational change over the past four to six consecutive weeks with overexuberance fueled from the previous Blue Wave hope and the vaccine optimism, setting the roadmap going into the next year and beyond in a post-pandemic future, almost as a tabula rasa. These winners solve high-value real-world problems to generate visible and vigorous quality earnings growth (1) before and (2) during the pandemic, as well as are poised to enjoy continued healthy demand and staying power in a (3) post-pandemic future when the world recovers painfully and slowly to transition from the Pandemic Health Crisis to the next crisis – the PTSD Post-Pandemic Growth Crisis.
In Asia, FTSE Russell said that it would remove eight Chinese companies from several of its global stock benchmarks after the Trump administration accused the companies of having ties to the Chinese military and barred US investors from trading or owning their shares. The House on Wednesday unanimously passed a bill that threatens to delist Chinese companies from U.S. exchanges unless U.S. regulators are able to inspect their financial audits within three years.
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
Daniel Ek, CEO of Spotify — The Art of Seeing Around Corners, Two-Year Missions, Top Books, and the Essence of Fire Soul (#484)
Daniel Ek (@eldsjal) is the founder, chief executive officer, and chairman of the board of directors of Spotify, the world’s most popular audio streaming subscription service, with 320M users, including 144M subscribers, across 92 markets.
- What’s the origin story of Daniel’s Twitter handle, @eldsjal?
- In what context does the Swedish word “lagom” (which means something akin to just right) get used often at Spotify–a company immersed in both Swedish and American culture?
- Does Daniel think he was born eldsjäl, or was it something he picked up along the way?
- As a parent, does Daniel favor raising his children with the guaranteed social safety net his own European upbringing provided–which allowed him the freedom to tinker without worrying about food and shelter–or a more hands-off American approach that necessitates some level of success in order to survive? Is there a happy medium?
- As someone who reads “north of 60 or 70 books” per year, what is it about Matthew Syed’s Black Box Thinking and Paulo Coelho’s The Alchemist that makes them particularly memorable and influential to Daniel?
- There was a time when Daniel let his health fall by the wayside and he weighed 40 or 50 pounds more than he does today. What helped him turn things around and get back to a more ideal weight?
- While Daniel hasn’t been one to shy away from 100-hour workweeks when necessary, one of his defining characteristics is knowing how to prioritize focus. What impact does this have on his typical schedule?
- How does Daniel approach the concept of roles in a given meeting, and why is it important to be clear on those roles beforehand?
- What do Daniel’s annual reviews with his immediate leadership team look like, and how do they address the rapid pace of change Spotify has experienced thus far and expects to continue over the years to come?
- As CEO, what does Daniel view as the most crucial components of his job, and what allows him to perform them optimally?
- Spotify and Shopify are two completely different entities, and so are their CEOs. How does Daniel compare and contrast his company, culture, and leadership with that of our mutual friend, Shopify’s Tobi Lütke?
- Are there any biographies that stand out for Daniel?
- Favorite books on management.
- Daniel shares some tough-to-hear feedback he got from someone on his leadership team and what it taught him about being mindful of the value he’s adding (or not adding) to his interactions.
- Rather than defining static jobs within Spotify, the company prefers to assign missions to staff that last about two years. What have Daniel’s two-year missions entailed?
- How does Daniel ensure he stays on target when he’s working to fulfill a mission? How has his process adapted over time?
- What does Daniel mean when he says: “We believe that speed of iteration beats quality of iteration?”
- What is Brilliant Minds, and how did it start?
- How and why Daniel dedicates a significant portion of his wealth to “moonshots” across Europe.
- What would Daniel’s billboard say?
- Parting thoughts.
|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
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.