SGH High Conviction Fund – September 2024 Update
Hamish Tadgell, Lead Portfolio Manager
September quarter performance and key drivers*
The SGH High Conviction Portfolio, as the name implies, is a high conviction strategy that seeks to hold up to 25 to 30 of our best ideas. It seeks to exploit market inefficiencies and mispricing through fundamental research, while taking a longer-term view, and that’s done through focusing on investing in quality companies at a margin of safety.
We believe that this is very important, particularly at times like this where there’s a lot of macro noise and uncertainty, and it’s important to focus back on the fundamentals. This strategy really seeks to do that and we believe that through focusing on the process, that sets the fund very well positioned to grow through the cycle.
Fund performance and key drivers
Over the last 12 months, the SGH High Conviction Fund has returned about 22% and 7.4% during the September quarter.
The stocks that contributed strongly to the overall performance in the last quarter have included gold miners Northern Star and Genesis Minerals. ResMed, the Global CPAP (Automatic Pressure Cpap Machine) provider also contributed strongly, as did Chorus, the NBN equivalent in New Zealand.
The energy sector underperformed during the quarter and our exposures to Cooper Energy and Beach Energy were a drag on the portfolio. But we think the outlook still remains positive for these stocks over the medium to longer term.
Reporting season
Reporting season, I think overall could be characterised as resilient in the tougher economy. It’s clear that the economy is very bifurcated and the difference between mortgagees and savers is very significant and that’s really been reflected in companies’ performance as well.
Employment growth remains robust and that has certainly been underpinning the economy, but we are seeing some evidence it is easing, with the employment conditions certainly highlighted in a number of companies that reported.
That said though, I’d say that there’s no obvious signs that companies are aggressively restructuring or looking to cut headcount at this point, but clearly the cost of doing business is remaining very sticky issue and companies are really struggling to pass on price increases to customers.
In aggregate, earnings through reporting season continued to be downgraded, but valuations continue to push higher. As a consequence, we did see the market continue to perform reasonably well through reporting season.
Portfolio positioning post reporting season
Well, the thing you know, reporting season’s always an interesting time to get a scorecard on a company in the portfolio. But there probably were a couple of key areas where we did have changes in views.
The first is really around the property sector and we certainly came out more constructive out of reporting season around that sector.
Property sector is very leveraged and with interest rates looking like they’re having peaked and potentially coming down, that’s clearly a positive for interest costs for the property companies.
There’s also clearly evidence of growing transaction activity, and I think that’s also being reflected in cap rates that are becoming more realistic, and that’s really supporting asset values and book values more.
Last thing on the REITs is that rents are starting to stabilise and we again we think that that’s a positive for the sector.
The other area which we sort of came away more constructive on was Healthcare. Healthcare has really been impacted by COVID and it’s been a very slow, slow and gradual recovery for many stocks. But we did see through reporting season signs of volumes starting to return, particularly in the diagnostic and radiology area, which we’re much more constructive on and also for companies like CSL which continue to report improvement in plasma collection volumes and activity.
Macro developments during the quarter
I think comes down to two big pieces of news during the quarter. The first was the Fed’s decision to cut interest rates and arguably that was very well telegraphed by the Fed and really didn’t come as a surprise to us or to the market. I guess the size of the cut was what was really highly debated. And the 50 basis point cut signals that the Fed is much more confident around the trajectory of inflation and now has a greater eye in its dual mandate to unemployment.
This, in our view, is supportive of that sort of soft landing type narrative and clearly has been very beneficial for the cyclical stocks that are tied to lower rates.
The other piece of major news was the China’s decision to stimulate or ease their rates. And clearly this has been very positive for sentiment. But there remains a real question as to the degree in which it will manifest in a recovery in growth. We still believe China faces a number of structural issues around its property market and around the confidence of consumers and households, which we think will probably continue to weigh on the economy.
Portfolio changes during the quarter
Number of things to the portfolio in the last quarter. In July, we started adding to our property positions and we continued to increase exposure to those through reporting season on the basis of the trends that I talked about earlier.
That has really been funded from interest rate sensitive stocks that are more leveraged to rising rates. So we’ve sold out of QBE and we’ve sold out of Computershare.
We’ve also added to resource positions primarily in BHP and Capstone Copper, which is a pureplay copper company.
The other area is that we’ve added further to was small companies. We think that there is a sort of quite dramatic valuation differential between the broader cap and the small companies that exists at the moment, and we have added to small caps on the basis of that.
Couple of companies we’ve added in particular include Botanix, which is a pharmaceutical company which has just recently gained FDA approval for a product in the Hyperhidrosis severe sweating) market.
The other company which we’ve added is Generation Developments. This is a financial services company which sells bonds and they also recently acquired the balance of Lonsec, the research and ratings agency, which provides a very strong annuity income.
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*The text has been edited for clarity.
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