04 Nov Fund Manager Focus – Grant Sam Epoch Glb Eq Sh Y Fd
Our Fund Manager Focus Newsletters focus on a fund manager within our investment portfolio and provide information to help our clients understand their investment philosophy and outcomes.
This newsletter focuses on Grant Samuel Epoch Global Equity Shareholder Yield Fund.
Introduction
The reasons for investing in international equities are occasionally contentious. For the better part of a decade the performance of this asset class was at best variable. Looking back there were many good reasons for this. March 2000 saw global equity markets peak and severe falls in markets, centred on the ‘tech-wreck’ followed. Some encouraging returns 2003 – 2007 were enjoyed, but these still tended to underperform relative to Australian stocks. Of course we all remember 2008 – 2009 all too well. It also seemed that the impact of unfavourable currency movements was timed precisely to erode incipient gains on international share investments. Nevertheless we persist with our view that exposure to international shares can provide broader investment opportunities compared to those available in Australia. Furthermore, while issues in international markets can impact Australian markets, the opposite is rarely the case. Familiarity with Australian companies is often comforting, but as you read this, you may look around you and notice the brands of many companies that are based outside of Australia (if you are reading this on a computer there will be at least 3 right in front of you).
Gaining access to international shares will generally be more effective via a fund manager, but selecting a manager from the hundreds available requires careful analysis. Most will have an exposure to this asset class via a number of managers. Each of these is chosen because of a special skill or approach that blends with our overall investment philosophy. As the name suggests, the Grant Samuel Epoch Global Equity Shareholder Yield Fund has an approach that many investors in Australian shares will be familiar with – yield.
About the Manager
The Grant Samuel Epoch Global Equity Shareholder Yield Fund is distributed in Australia by Grant Samuel Funds Management and run by Epoch Investment Partners in New York. Epoch Investment Partners was established in 2004 by Bill Priest, an investment manager of some 47 years’ experience (he recently turned 70 y.o.). Epoch Investment Partners is a publically listed company in which staff retains approximately 40% ownership. This specific fund was established in May 2008, although Mr Priest and his associates have been running the strategy for institutional clients since 2004.
Investment Philosophy
The managers of this fund have a fundamentally different approach to investing in equities, believing that cash flow is a more accurate determinant of long term investment returns than traditional metrics such as price/earnings ratios etc. Priest & Co provide evidence that companies that pay dividends out-perform other stocks over the long term, with a lower level of capital volatility. The following table based on the S&P 500 demonstrates by dividing companies in this index into categories reflecting their dividend payment history. Long term returns are then determined for comparison purposes. The volatility of the prices of shares is an important consideration and is illustrated using ‘Standard Deviation’ as a measure:
The Grant Samuel Epoch Global Equity Shareholder Yield Fund aims to identify companies that return excess cash-flows to investors in the form of dividends, share buybacks and/or debt reduction – the latter of which improves the enterprise value and cash flow position. Bill Priest articulates what he calls the ‘9% solution’ – comprising 4.5% from dividends, 1.5% from share buy-backs and/or debt reduction and 3% from growth in operating cash-flows. These are the broad parameters from which stock selection begins.
These stocks must meet certain minimum criteria including:
» High current income yield.
» Cash from operations exceed dividends over trailing 3 years.
» Growth in operating cash-flow over 5 years.
» No dividend cancellation over available history.
» Market capitalisation >USD500 million.
These initial screens help to ensure only stocks with reliable cash-flows and sustainable dividends are considered when constructing a portfolio of stocks. An example of a company typically meeting these criteria is Johnson & Johnson. While you may be familiar with this company you may not be aware that this company has increased its dividend each year for 50 consecutive years. Other familiar names such as Coca-Cola, Nestle and Kimberley-Clark have generally been included in the portfolio subject to continuing qualification under relevant criteria.
The manager is truly global in its outlook and will occasionally include investments in Australian stocks, provided the analysis is supportive. For instance the managers added Telstra Ltd in the past quarter as they became convinced, not only that the dividend was sustainable, but that the growth in wireless and broadband businesses would support growth in cash-flows.
The following table illustrates the performance of the fund to August 2012 (after fund manager fees):
Given the investment approach of the fund, you can generally expect that the fund will out-perform during falling markets and under-perform in rising markets, relative to the benchmark. The short term performance in the table above is indicative in this regard. As markets became more confident over the past few months, more speculative stocks have been favoured.
The following table indicates the current top holdings of the fund. These represent a total of 17.2% of a portfolio comprised of around 100 stocks.
Although this fund has a relatively short history we believe it can provide access to the international equities asset class with a lower level of risk. For clients with a preference or need for income generation the fund provides an additional income source. The fund generally makes distributions on a quarterly basis. The fund can be accessed as a hedged or unhedged version. We have generally preferred the hedged version as part of our broader management of currency risk in this asset class.