End of Quarter Review
Click here to sign up for our weekly articles to be sent to your email inbox!
Follow our Instagram page and Linkedin Page !
It has been an interesting start to 2022, with a major correction occurring across all major markets and asset classes. Previously perceived safe havens such as bonds have proven to be redundant recently, falling in tandem with stocks. Thankfully I have avoided bonds since beginning The Spark, as the return of this asset class has been and will continue to be poor with the persistence of high inflation and restrictive central bank policy (rising interest rates).
I am happy with the performance of the portfolio for the first quarter of the new year, rising 8.1% since the new year against the S&P500’s fall in value of 5.3%. Comparing sector exposure, I believe my low exposure to technology compared to the S&P500 and higher exposure to energy helped contribute to my outperformance versus the index. I am also happy that, comparing my performance against the portfolio held at the beginning of the year I outperformed also, to the tune of 3.6%. The portfolio I held at the beginning of 2022 is very different to now, with the addition of PayPal, Meta, and Digital Turbine of late and the sale of ASOS, Royal Mail, and PolyMetal during the quarter – the latter proving to be a lucky escape, having fallen 90% in value since I sold it due to its operations in Russia. I continue to find new flaws in my process and analysis and will continually scrutinise my holdings for weak points that could hurt the portfolio. I hope this will lead to continued outperformance; however, six months is not a long enough time frame to attribute my performance to any skills.
The Portfolio
I have not updated you on any companies I currently hold since before Christmas, so now is probably a good time to do so, as I am happy that The Spark has increased readership and new readers in particular may wish to understand my current view on such stocks, given some have risen substantially since I first purchased them. For any new readers I would recommend going back and reading the following four articles to get a good grasp of where we are today and why I am positioned as I am:
Portfolio Return Year-To-Date: 8.1% vs S&P500: -5.3%
Total Return since inception (20/09/21): 14.5% vs S&P500: 4.3%
Cyclicals
Starting at the top (see above), Dave & Buster’s Entertainment (PLAY) is a restaurant chain based in the US, which was originally purchased to benefit from the pandemic reopening, as I believed that the Omicron variant would not lead to further lockdowns. Although I was correct in that assumption, it has been a rough ride holding PLAY due to factors outside of the reopening story. The company is executing on its reopening and expansion strategy effectively and is very attractively valued at current prices, however market fears of a recession have meant that the stock hasn’t moved much. This is a stock that I will sell if economic fundamentals deteriorate further.
Next are my oil holdings. Having sold the iShares Oil & Gas ETF last week, I currently hold Transocean ltd (RIG) and Suncor Energy (SU). RIG owns deep-sea oil rigs and SU is an integrated oil company with some renewable energy operations/equity stakes. As I wrote about last week, RIG will benefit from a sustained higher oil price. Should the oil price remain above $70-$80 p/b, the company has the opportunity to negotiate long-term contracts at better day rates (the amount an oil miner pays Transocean per day to use its oil rigs). Renegotiation of contracts at higher rates will lead to an exponential increase in free cash flow and, as we have seen recently, would lead to a rocketing share price thereafter. The stock is up 38% but I still view it as good value at current prices. Suncor is a Canadian oil company with strong cash flows, a good dividend, and an attractive valuation. I continue to hold both SU and RIG because there has been chronic underinvestment in oil over the past decade, falling from $900bn per year to about $350bn now. The high prices today are partly a function of this, as investors and governments have squandered many energy companies’ exploration activities in order to seek environmentally friendly initiatives. We can all feel the pain of these ridiculously planned initiatives today in our pockets.
Another cyclical stock I hold is Cameco (CCO), a Canadian Uranium miner. Uranium miners have been slowly returning to favour after a long bull run back in 2006 when the price reached a high of $138 p/lb (see below). After the Great Financial Crisis, the price tanked and is slowly on the rise again, at about $60 p/lb today. Uranium miners like CCO continue to constrain supply in order to support a higher Uranium price. Also, as you see in my initial recommendation, the rise of Uranium ETFs means that we are now in a supply deficit, which will cause a continued price rise for Uranium. This, alongside the Russia-Ukraine war which highlights the need for countries to move to alternative energy sources, all supports rising demand for Uranium, therefore benefitting miners like Cameco long-term. Finally, Anglo American (AAL), a diversified miner listed in London. I purchased the stock recently due to continued supply chain issues and inflationary pressures continuing to benefit commodities generally. The slow down in retail sales in the UK and the damage to economies due to rampant inflation are beginning to cause recession fears. This is something I continue to monitor and AAL will be sold if a recession becomes increasingly likely, because miners will come under pressure due to a reduction in building projects etc. if a downturn occurs.
Uranium spot price, Source: Bloomberg
Growth
One of the worst performers in the portfolio is BioNTech SE (BNTX). Although it is down 10% since I first purchased the stock, my thesis for holding it remains intact and if investors’ risk appetite increases again, the shares should perform well. BNTX has been tanking since the new year as investors got cold feet and jumped out of risk assets. It is trading at 4.5x earnings and has a guaranteed $13bn of revenue this year due to government contracts for the company’s COVID-19 vaccine. COVID-19 is no longer regarded as a major issue globally, so BioNTech is being priced to zero as its revenue is expected to continually decline over the coming years. However, with $24bn in cash predicted by 2024, and a dirt-cheap valuation, BNTX’s large pipeline of vaccines and oncology drugs is being priced as if it were worthless. This is not the case in my view. A great example of this is Vertex Pharmaceuticals (VRTX) mentioned below, which was being completely under-priced on fears of competition and patent expiry. The company released news of successful drug trials and the shares rallied 25%. I expect the same to play out for BNTX, should the company come out with successful drug trials. It is impossible to time such events, which is why I am happy to purchase when the valuation is attractive and wait it out. The company’s earnings release on the 30th of March could catch the market by surprise.
I have only recently added PayPal, Crocs, Meta Platforms, and Digital Turbine, so please find their respective thesis for holding linked on their names.
GARP
My growth at a reasonable price (GARP) shares has performed superbly during the market sell-off. Micron Technology (MU) continues to be relatively underappreciated by the market as growth-orientated businesses are hit by risk-off sentiment. The company’s stock is cheap and MU has the potential to grow rapidly. It has pricing power as it operates in an oligopoly that controls 90% of the semiconductor supply in the D-RAM space, and it is very conservative with supply increases to ensure it does not overflood the market and crash the price of its chips. I continue to be optimistic about this stock.
Discovery Inc (DISCA) is the largest position in the portfolio at 7.1% of capital. The company is merging with WarnerBros and the merger has been approved by the EU, awaiting approval by the SEC (original recommendation here). My thesis for holding the stock has not changed, and I await the catalyst of increased synergies and strong revenue that this streaming powerhouse should bring once the merger is completed in the coming months.
Vertex Pharmaceuticals (VRTX) was originally purchased for a similar reason as BioNTech. It was too cheap when accounting for the revenue and free cash flow generated by its legacy Cystic Fibrosis drug and pipeline of potential new medical drugs. It has paid off handsomely and I hope that the same outcome occurs for BNTX.
VRTX has gone through a quick turn around and is still cheap, Source: TradingView
Quality
iShares MSCI Japan Index (SJPA) was purchased to diversify the portfolio geographically. Japan has struggled with deflation for years and it has a low inflation rate today, compared to rocketing inflation in other developed countries. Due to deflation in Japan, companies there hold large cash piles because it rises in value during a deflationary environment (think: inflation eats at cash, therefore, becomes less valuable, deflation is the opposite). This protects the portfolio from the inflationary pressures facing other western nations.
Regeneron Pharmaceuticals (REGN) and Bristol Myers Squibb (BMY) are both extremely cheap diversified big pharma companies with huge drug trial pipelines and strong free cash flow. They have held up well during the market sell-off as investors seek defense in assets with assured revenue streams. REGN has been under-appreciated by the market because of patent expiry for its Eylea drug, used to treat retinal diseases. Once drug patents run out, generic pharma companies can recreate these drugs for a fraction of the price, rendering them worthless to the company that created them. Some of these patents don’t expire until 2030 and the company has a huge pipeline of drugs that will bring further revenue in the future. I am still positive on both BMY and REGN and see them as long-term holdings.
The same is true for Lockheed Martin (LMT). The company has held up during the sell-off due to its defensive qualities similar to BMY and REGN, but also because of the Ukraine-Russia war. Countries such as Germany are now committing more of their budgets to defense spending, as they realise the importance of such spending to combat rising tensions with world powers such as Russia and China. LMT has already won contracts with Germany for its fighter jets and should continue to do well over the coming years. All of these quality companies are long-term holding and help to not only reduce volatility in the portfolio and provide dividends but also help to circumvent risk in downturns.
My Top Three
My top pick is WisdomTree Physical Gold (PHGP) and Silver (PHSP). I group these two holdings as they are almost perfectly positively correlated (gold up silver up, gold down silver down). Silver is often described as gold’s ‘schizophrenic sister’, as its movements are more volatile than gold. It moves more rapidly to the upside and the downside depending on sentiment toward precious metals. With real rates (interest rates minus inflation) deeply negative, investors will hold gold rather than bonds which make negative real returns (2% yield with 7.9% inflation means a real loss of 5.9%). I continue to be bullish on these investments, along with Fresnillo (FRES), a silver miner based in Mexico, as institutions build stakes in precious metals (see below). FRES shares dropped substantially due to mine closures as COVID cases rose in Mexico, affecting their mining operations. This is a temporary issue and I believe the market overreacted to the news. As long as inflation remains high and the stock-bond correlation remains positive, I will continue to hold a higher exposure to precious metals. If we enter an inflation-induced recession, these stocks will explode to the upside.
Gold fund flows rising should support a higher price, Source: ByteTree
Airtel Africa (AAF) is one of my top picks because the long-term opportunity is compelling. Africa has substantially higher growth rates than western nations with a much younger population. Again, my thesis still holds with Airtel Africa which you can find here. One shorter-term issue is again the risk-off environment, as investors are rushing to safety due to the market sell-off. This is causing a rise in the US Dollar and an exit from emerging markets, which is why I halved my holding in AAF. I aim to add back should the price fall between 110p-120p.
Finally, Overstock (OSTK) is also one of the largest positions in the portfolio due to its investments in digital assets through its venture capital arm Medici Ventures. One of its portfolio companies is tZero, a crypto exchange that has just hired a new CEO David Goone. David Goone is coming from a senior position in Intercontinental Exchange, leaving a multimillion-dollar salary for stock-based compensation in tZero. This shows the huge opportunity the company has in the digital asset space and the value management clearly see’s in the business. Overstock owns tZero and could list the company on the stock market for billions in the future, as the adoption of crypto continues to rise. At OSTK’s current valuation of 19x earnings, investors in Overstock are getting tZero and Medici Ventures other investments for free.
Let me know your thoughts by emailing me at thesparknewsletter@gmail.com
Until next time,
Peter
Disclaimer
This communication is for informational and educational purposes only and should not be taken nor used as investment advice, as a personal recommendation, or solicitation to buy or sell any financial instrument. This material has been prepared without considering any particular recipient’s investment objectives or financial situation and has not been prepared in accordance with the legal and regulatory requirements to promote independent research. Any references to past or future performance of a financial instrument, index or structured product are not, and should not be taken as, a reliable indicator of future performance. I assume no liability as to the accuracy or completeness of the content of this publication.