The active share advantage

A desperate hunt for ideas amid underperformance of Switzerland’s four mega-cap stocks has led to surging valuations in several mid and small-cap companies, with many nearing bubble-like levels.

In 2016, large caps have enjoyed great success in domestic markets such as the UK. However, it has been the reverse in Switzerland. The SPI Small and Mid-Cap Index (SPISMC) has outperformed the Swiss Market Index (SMI)  (consisting of the country’s 20 largest stocks) by 12% since the start of the year and by 20% over 12 months to end of September.

Bubble territory

This has nothing to do with company fundamentals, instead it reflects the severe underperformance of just two sectors and four stocks; Novartis and Roche in the pharmaceutical sector, and UBS and Credit Suisse in the banking sector.

Given their weightings, if these four stocks struggle then the whole index suffers, making mid and small-caps look more attractive.

The resulting problem is that, in only a handful of stocks, the demand for shares is pushing prices up to nonsensical levels in classic ‘bubble’ territory.

Weight gain

There are typically two types of fund in Switzerland – those with very low tracking errors to the index, meaning they have higher exposure to large-caps, and the more actively-managed funds where the manager’s focus is more on mid- and small-caps.

Our offering is somewhat unique, adopting an all-cap approach with a high tracking error and an 80% active share. We have opportunities in both large, mid and small caps, opposed to just one or the other.

To back this up with numbers, the 50 largest Swiss equity funds do not go above a tracking error of 4, with a typical level being 2. Our tracking error is 7.5. This all-cap structure gives us the chance to move away from the extremes we are seeing in the market at present, while others might be restricted.

For example, we were heavily exposed to small-caps during their period of outperformance, but right now we think valuations look more attractive in large-caps and we have substantially bought back into them.

This year, our weighting to large-caps has risen from 30% to 40%, a historically high level. Of the four names which have held large cap back this year, Credit Suisse is one we have heavily bought back into as we felt it had dropped too much.

Both Credit Suisse and UBS started the year at very unattractive valuation levels, so we held neither. However, following the large drops in their share prices, both became more compelling to us. Investors tend to forget that Credit Suisse is one of the world’s largest wealth managers, with a pretty stable business model, which can be picked up at chf13, with we believe a tangible book value of chf20, which represents good value to us. This is value as it is defined.

In terms of pharmaceuticals, our focus remains on Roche. We think it has more potential upside than Novartis, which faces more company specific issues.

Sharp shooting

In bubble environments such as this you need to have clear valuation targets for every stock. For example, we recently sold out of Interroll, an industrial firm that produces rollers and conveyors, a position held in the Fund since launch. Today, its set up is close to perfect, but so is its valuation. While its multiples have doubled in four years, there is little surprise potential left now. We became concerned when its share price rose 20% in one week, leaving all fundamentals behind, putting it firmly in bubble territory.

However, there are small and mid-caps where the story keeps improving. One example is Temenos, the number one vendor worldwide for third-party core banking software. It is the most expensive stock we hold but it is one we are happy to stick with as its growth case keeps getting stronger as the banking sector realises it must move to standardised software.

We can switch into much cheaper small- caps that are sitting on attractive valuations. One such is Metall Zug, one of the lowest valued Swiss industrial stocks. Having previously held its competitor Komax, whose multiples have doubled in two years, Metall Zug was trading on nearly half of its multiple, so we saw it as a good time to switch.

Disclaimer

This document does not constitute and shall not be construed as a prospectus, public offering or place­ment of, nor a recommendation to buy, sell, hold or solicit, any investment, security, other financial instru­ment or other product or service. It is not intended to be a final representation of the terms and conditions of any investment, security, other financial instrument or other product or service. This document is for general information only and is not intended as investment advice or any other specific recommendation as to any particular course of action or inaction. The informa­tion in this document does not take into account the specific investment objectives, financial situation, tax situation or particular needs of the recipient. You should seek your own professional advice (including tax advice) suitable to your particular circumstances prior to making any investment or if you are in doubt as to the information in this document.

This document contains material that may be interpreted in the country in which this document has been communicated as a financial promotion and/or advertisement in relation to investment services, secu­rities or other investments. Accordingly, the information in this document is only intended to be viewed by per­sons who fall outside the scope of any law that seeks to regulate financial promotions and/or advertisements in the country of your residence or in the country in which this document has been communicated. If you are uncertain about your position under the laws of the country in which this document has been communi­cated then you should seek clarification by obtaining legal advice.

Although information in this document has been obtained from sources believed to be reliable, no member of the EFG group represents or warrants its accuracy, and such information and/or investment re­search may be inaccurate, incomplete or condensed. Any opinions in this document are subject to change without notice. This document may contain personal opinions which do not necessarily reflect the position of any member of the EFG group. To the fullest extent permissible by law, no member of the EFG group shall be responsible for the consequences of any errors or omissions herein, or reliance upon any opinion or statement contained herein, and each member of the EFG group expressly disclaims any liability, including (without limitation) liability for incidental or consequen­tial damages, arising from the same or resulting from any action or inaction on the part of the recipient in reliance on this document.

The value of investments and the income derived from them can fall as well as rise, and any reference to past performance is no indicator of current or future performance. Any past performance data for collective investment schemes may not take account of the commissions and costs incurred on the issue and redemption of shares. Income from an investment may fluctuate. Investment products may be subject to investment risks involving, but not limited to, possible loss of all or part of the principal invested. The risk of loss from investing in commodity and financial futures, foreign exchange contract securities, warrants and index contracts and options can be substantial.

The publication or availability of this document in any jurisdiction or country may be contrary to local law or regulation and persons who come into possession of this document should inform themselves of and observe any restrictions. No distribution of this infor­mation to anyone other than the designated recipient is intended or authorized. This document may not be reproduced, disclosed or distributed (in whole or in part) to any other person without prior written permis­sion from an authorised member of the EFG group.

The information contained in this document is mere­ly a brief summary of key aspects of the New Capital UCITS Fund plc (the “Fund”). More complete informa­tion on the Fund can be found in the prospectus or key investor information document, and the most recent audited annual report and the most recent semi-annual report. These documents constitute the sole binding basis for the purchase of Fund units. Copies of these documents are available free of charge and may be obtained at the registered office of the Fund at 5 George’s Dock, IFSC, Dublin 1, Ireland; in the United Kingdom from the facilities agent EFG Asset Man­agement (UK) Limited (“EFGAM”), Leconfield House, Curzon Street, London W1J 5JB, United Kingdom; in Germany from the German information agent, HSBC Trinkaus & Burkhardt AG, Königsallee 21/23, 40212 Düsseldorf, Germany; in France from the French centralizing agent, Societe Generale, 29, boulevard Haussmann – 75009 Paris, France; in Luxembourg from the Luxembourg paying agent, HSBC Securities Services (Luxembourg) S.A., 16 boulevard d’Avranch­es, L-1160 Luxembourg, R.C.S. Luxembourg, B28531; in Austria from the Austrian paying and information agent, Erste Bank der oesterreichischen Sparkasse AG Graben 21, 1010 Vienna, Austria; in Sweden from the Swedish paying agent, MFEX Mutual Funds Exchange AB, Linnégatan 9-11, 11 447 Stockholm, Sweden; and in Switzerland from the Swiss represent­ative, CACEIS (Switzerland) SA, Route de Signy 35, CH-1260 Nyon and the paying agent, EFG Bank AG, Bleicherweg 8, 8022 Zurich.

Hong Kong: This document does not constitute an offer, solicitation or invitation, publicity or any other advice or recommendation. The information contained within this document has been obtained from sources believed to be reliable and accurate at the time of issue but no representation or warranty, expressed or implied, is made as to the fairness, accuracy or com­pleteness of the information. Investment involves risk. Past performance is not indicative of future results. Before making any investment decision to invest in the Fund, you should read the Hong Kong offering documents and especially the risk factors therein. An investment in the Fund may not be suitable for everyone. If you are in any doubt about the contents of this document, you should consult your stockbroker, bank manager, solicitor, accountant or other financial adviser for independent professional advice. This document is issued by EFG Asset Management (Hong Kong) Limited and has not been reviewed by the Securities and Futures Commission (“SFC”) in Hong Kong. The SFC takes no responsibility for the contents of this statement and makes no representation as to its accuracy or completeness.

Singapore: The Fund is not authorised or recog­nised by the Monetary Authority of Singapore (the “MAS”) and the shares in the Fund (the “Shares”) are not allowed to be offered to the Singapore retail public. Moreover, this presentation, and any other document or material issued in connection with the offer or sale is not a prospectus as defined in the Securities and Futures Act, Chapter 289 of Singapore (“SFA”). Accordingly, statutory liability under the SFA in relation to the content of prospectuses would not apply. You should consider carefully whether the investment is suitable for you.

This presentation has not been registered as a prospectus by the MAS, and the offer of the Shares is made pursuant to the exemptions under Sections 304 and 305 of the SFA. Accordingly, the Shares may not be offered or sold, nor may the Shares be the subject of an invitation for subscription or purchase, nor may this presentation or any other document or material in connection with the offer or sale, or invitation for subscription or purchase of the Shares be circulated or distributed, whether directly or indi­rectly, to any person in Singapore other than under exemptions provided in the SFA for offers made (a) to an institutional investor (as defined in Section 4A of the SFA) pursuant to Section 304 of the SFA, (b) to a relevant person (as defined in Section 305(5) of the SFA), or any person pursuant to an offer referred to in Section 305(2) of the SFA, and in accordance with the conditions specified in Section 305 of the SFA or (c) otherwise pursuant to, and in accordance with, the conditions of any other applicable provision of the SFA.

Where the Shares are acquired by persons who are relevant persons specified in Section 305A of the SFA, namely:

a) a corporation (which is not an accredited investor (as defined in Section 4A of the SFA)) the sole business of which is to hold investments and the entire share capital of which is owned by one or more individuals, each of whom is an accredited investor; or

b) a trust (where the trustee is not an accredited investor) whose sole purpose is to hold investments and each beneficiary of the trust is an individual who is an accredited investor, the shares, debentures and units of shares and debentures of that corporation or the beneficiaries’ rights and interest (howsoever described) in that trust shall not be transferred within six months after that corporation or that trust has acquired the Shares pursuant to an offer made under Section 305 of the SFA except:

1. to an institutional investor or to a relevant person as defined in Section 305(5) of the SFA, or which arises from an offer referred to in Section 275(1A) of the SFA (in the case of that corporation) or Section 305A(3)(i)(B) of the SFA (in the case of that trust);

2. where no consideration is or will be given for the transfer;

3. where the transfer is by operation of law;

4. as specified in Section 305A(5) of the SFA; or

5. as specified in Regulation 36 of the Securities and Futures (Offers of Investments) (Collective Investment Schemes) Regulations 2005 of Singapore.

The offer, holding and subsequent transfer of Shares are subject to restrictions and conditions under the SFA. You should consider carefully whether you are permitted (under the SFA and any laws or regulations applicable to you) to make an investment in the Shares and whether any such investment is suitable for you and you should consult your legal or professional advisor if in doubt.

This document has been produced by EFG Asset Management (UK) Limited for use by the EFG group and the worldwide subsidiaries and affiliates within the EFG group. EFG Asset Management (UK) Limited is authorised and regulated by the UK Financial Conduct Authority, registered no. 7389746. Registered address: EFG Asset Management (UK) Limited, Leconfield House, Curzon Street, London W1J 5JB, United Kingdom, telephone +44 (0)20 7491 9111.