Value investor Sean Peche celebrates turning of the investment trend (and belated awakening by Prosus)

Ranmore Fund Management founder Sean Peche has enjoyed a purple patch, correctly forecasting the meltdown in growth stocks and the rebound of the value counters where his portfolio is focused. In this interview with Alec Hogg of he praises the Prosus management for eventually listening to logic, but shakes his head at those now describing Netflix, PayPal and Meta as value stocks.

Sean Peche on Naspers share price jump

I’m actually delighted and I did an interview with BizNews back in February. I watched it again recently and I was visibly frustrated, almost to the point. I was a bit embarrassed about how frustrated I was, but I was just so angry at the shareholder destruction I was witnessing and the fact that this management team was being paid billions. And at the time, I calculated it was denying South African savers some 420 billion. And the problem is, you know, and some people in fact, I received a couple of comments from some guy saying, why are you wasting your time? Why are you spending all your time berating Naspers? And it’s not that I have anything personal against them. I just hate injustice. And of course, during COVID, people were redeeming savings and retiring and all of that. And so to have that happening at a time when management is getting paid a lot of money in this huge discount really was like red rag to the bull. And so, I actually publicly derided them in favor thanks to technology business. And yet on their website they’ve got an NAV back in September and most of their assets are listed. So why have we not got a real time NAV? Well, I look this morning and I see there’s an NAV on the 24th of June. So that’s great. And hopefully my comments and notes over the year and the platform that BizNews is really provided me to, to make many of those has helped unlock value for S.A Savers because I guess, you know, I like to feel I’ve got a my wife’s a doctor and I think social contributions important and and my contribution can’t just be moving and running around the table and hoping some falls off. And if we can help allocate capital efficiently and help savers get the best, then that’s great. So look, it’s great news. 

They’ve sold their JD Dotcom for a stake in JD Dotcom for 4 billion. And I’m delighted because that’s a $100 billion business that made $1,000,000,000 last year and people think they’re going to make two and a half this year. And well, good luck with that. So that’s great. And they you know, and they’ve now committed to selling tencent and I did say in Feb as well. What I didn’t understand is if you can buy a buyback stock why show your hands because I was critical in that they seem to have been a huge percentage of the daily trade. And as soon as their buyback ended the stock collapsed. And so I said if a sensible person is going to buy back stock, you don’t show your hand. And so they have said, look, we open, it’s open ended, we’re going to sell small numbers of 10,000 shares at a time. So that’s perfect. That’s what I would recommend. And look, maybe they’ve figured out that this growth illusion that Tencent’s been on has been shattered and maybe the tech pullback for some I think the growth index sunk 27% year to date has sort of jolted them into action that this growth is not going to go on forever. You know, I mean, Tencent’s had declining EPS for the last three quarters year on year and the stock’s still at 26 times earnings. So I’d sell every dollar I could at those numbers, but definitely a move in the right direction.

On if value share is a company that trades at a low multiple of it’s book value or it’s net worth 

No, not necessarily. I mean, maybe that’s in some cases that’s the case. A value share is something that just makes sound financial sense and the odds are on your side that you’re going to get a decent real rate of return. And the problem with this whole value growth, it implies that as soon as something is not growing, it’s cheap. And that’s not always the case. I mean, the worst shares in the world are companies that have stopped growing, which are expensive. you don’t want to go near those things. And so I was horrified to see last week that Meta and Paypal and Netflix are now making it into the value index, especially since the value index is not my benchmark. But I mean, those companies are still, I would argue, expensive, but they’re not growing. And we want growing companies. But we don’t want to pay too much for them. And we are just trying to act. I mean, the way in which we manage money is just acting in a way that a sensible business person would act. And I say that you might want a decent you know, you might want a BMW, it’s a great car, but at $2 million, it’s not a great car. So goodbye  that’s it. You want a good car at a good price. And that’s what we try to do.

On Netflix becoming a values stock and if the Russells guys are looking at the wrong numbers

What they do is they take the index, they take the index and they segment it. And for value, they look at a price to book a, but it’s not a tangible book. Okay. So a company that’s been on a massive acquisition trail and got goodwill all over their balance sheet like Disney, it might look like it’s a low price to book. but it’s not a tangible book, so that’s the first thing. And then they look at eBay’s forward earnings estimates,  it’s like an analyst consensus thing. And they look at historical sales per share growth. So they basically segment it. And if you’re the fastest grows you go in the growth bucket, the slowest grows go in the value bucket. And sometimes there’s a bit of a mix of the two. And so sometimes you get some shares in both.  but that implies that if you’re not growing, you’re cheap. And that’s the problem I have with this, is that that’s not necessarily the case. And actually, if that is the case, those are the worst examples. And look, you know, on the face of it, some of these companies look cheap because the p e multiple is lower than what it was. But I mean, to give you an idea, you know, meta’s market cap, it’s an inch of the value index is number five. It’s above Chevron. And, you know, it’s a $460 billion company and they estimated to make 37 billion. That’s not an insignificant number. You know, if you look at Netflix, it’s an $85 billion company. Well, BP’s only 90 billion. And and and BP’s going to make 21 billion is supposed to be this year and Netflix is going to make four and a half. So, you know, BP’s net income of 21 billion is almost Netflix’s revenue. 

So, the PE numbers are only cheap if those numbers play out. If Meta comes out next week or within a couple of weeks time with sort of a few weeks time away from earnings estimates and the earnings are not  as expected, well, then it’s going to be cheap. I mean, two years ago, I’d made half. I think I’m right in saying about two years ago they made half of what they made. So the 37 billion. So if I just go back to only what they owned two years ago, it’s on 24 times earnings, which is not cheap. So it all comes down to the earnings and there’s a lot of movement in this advertising space right now. 

On if the Metaverse and virtual reality is in value stock bracket

Can be. I mean, the interesting thing just to touch on that metaverse is that this is unproven. How are they going to monetize it? That’s the first thing. Are they going to be able to. And so they’re going to invest a lot of money. We don’t know whether they’re going to monetize it. And they’re not the only people going after that space. You’ve got Nvidia and you’re up against some other big, big guys. And so we’ll have to see. But no, I mean, we’ve owned Google in our portfolio and in 2017, it was the largest holding because I could buy Google for less than I could buy Procter and Gamble. So I had a growth company, but I wasn’t paying too much for it. That’s the difference. So it all comes down to value. We all want nice houses and nice cars and all the rest, but we don’t want to pay too much for them. And so we just that’s the angle we got at.

On what’s changed in the markets

So a couple of things. I mean, the speculation has gone out of the market and the reason value’s underperformed is because we’ve had lots of expensive things in our index, like Coinbase and Tesla and Netflix and PayPal. I mean, PayPal is down 75% in its market caps, 90 billion. You know, the CFO left and went off to Wal-Mart. So it just shows you how high it was. And they did some crazy deals, and so what has changed is all of a sudden interest rates have have gone up, you’ve got inflation, and so your hundred dollars,  for a growth company, if you’re earning $100 in ten years time at 0% discount rate at $100 with 100, but at a 5% discount rate, only 5% per annum, that hundred dollars in ten years in real terms is only worth 61. So you can see a small movement in rates means a big discount in the actual lot. You should only pay 61 today, not 100. That’s a 40% discount. And so, so that’s, you know, I think that’s, that’s the main thing that’s happened in an inflationary environment where people are not getting real returns, you know, it was all very well going and and buying some of these companies on 2% dividend yields. When interest rates were in, when inflation was so low, benign fashions, eight and a half percent who wanted a 2% dividend yield. So, it has to come back to growth and earnings and and if you’re not going to get your, your yield in the bond market, your real yield in bond market, maybe you get equities, but then you’re not going to get it in companies with only a 2% dividend yield.

I mean, just another interesting point. The largest constituent in the value index is Berkshire Hathaway. The largest constituent in their growth index is Apple. But a big chunk of Berkshire Hathaway’s value is Apple. But the difference is if you. So this is what’s so ridiculous about it. why is Berkshire Hathaway in any event, it’s well, it’s a low price to book. But what is its book? Its book is the market cap of Apple. What’s Apple’s book? It’s computers and servers and things. But actually, do you see what I mean? So it doesn’t really make a lot of sense. And that’s what I think, you know, I’m trying to bring to light. And that’s why I’m saying that sometimes this passive investing, you know, one needs to look beyond that and say, well, does this make sense and just invest in something that makes sense? 

On South African metals pulling back into bear market and S&P’s significant increase last week

Last week was a big week. I mean, I think the S&P rose just under 7%. Interestingly, the world index is still down 6% for the month. So, you know, so what happened last week? Well, I’m sure you had what you had. Sentiment was very bearish. You had Chairman Powell testifying at the Banking Committee saying, we don’t we committed to bring inflation down. But it’s interesting so just to take a step back. On the 8th of June, there was a fire at a LNG export terminal in the States. Now you’ll know that we’ve got a big energy crisis here. We’re trying to wean ourselves off Russian gas. What does that mean? It means we need to import US gas and so we’re importing as much as we can. All of a sudden you get a fire at one of the terminals which export 17% of US gas. And so you can see the trade is going well. Hang on. If they can’t export gas, the local market in the US is going to be overwhelmed. And so the natural gas price fell in a heap and so oil pulled back as well. And then you had a situation, people going, well, hang on, if oil’s pull back and natural gas is pulled back and some of these commodities pull back, maybe this inflation is going to moderate. And if inflation moderates, maybe the Fed doesn’t have to raise rates. And if the Fed doesn’t have to raise rates, let’s go back to the races.

And the S&P did enter a bear market and I think at the lows we were down 25% from the highs. If a bear market lasted seven days, I mean in 2020 it lasted 18 days, the average is about ten months at 290 days. Okay, so it’ll be one of the shortest lived bear markets in history. And you know, I think if you look at history, half of the biggest days happened during bear markets and bear markets do not occupy half of the time in the market. So, you know, you get these big moves. And in what investors what traders talk about is in a bull market, you buy the dips. In a bear market, you sell the ratings. Okay. But the problem is what happens is people have lost so much money that as soon as it bounces, they go, good. Thank goodness for that. Let’s hold on a little bit longer. Maybe there’s a bit more money on the table and boom, the next bit happens and before you know it, you back in the bit. So, you know, these are all rallies. I think people should just be realistic about them and that would be, you know, and using these opportunities to reposition for the future.

On his belief that the worst is still to come and Howard Marks

He’s a very smart guy and I really like his books. And the one thing I often look at, nothing to them regularly. He likes to talk about second level thinking. Don’t just do first level thinking. That’s what everybody else is, what they think about the second level. So I credit Howard Marks for opening my eyes to that one. So first of all he’s a bond investor, say he’s talking from a bond perspective, these poor guys being starved of anything of any yield in recent years. I’m an equity investor and I would look at this week’s going to be interesting. We’ve got Nike, H&M, we’ve got Micron. So we’ve got a couple of companies who don’t have the traditional quarter year in the quarter, you know, three months and the quarters don’t end in March. And I think they end in May. So we are going to have the quarterly reporting starting mid-July and the multinationals have got huge currency headwinds. You know, the euro and sterling are down 12% year over year. If you are a US multinational, and you’ve got 50% of your revenue offshore, that’s a 6% revenue headwind plus the fact that your head office costs you in dollars. So you’re getting squeezed. He’s been operating leverage. So that’s the first point. You know, the yen’s down 18%. You’ve got a weaker consumer. You’ve got inflationary pressures which have a lag between they finally flow through and hit the consumer because the first people who do battle the day inflation are the wholesalers. And then they’re trying to pass on to the retailers. The retailers push back until all wholesalers and all producers are passing them on and then they finally make the way through.

So, you’ve still got high PE’s on high earnings in many of these companies. So I would argue that quarter two earnings are going to be really challenging. And if I was the CFO of one of these companies, you know, I’d be very cautious about maybe you making the Q2 earnings, but what about your guidance? Europe, you are looking at a very different time, different place. And maybe that’s why, you know, who knows? But the CFO of PayPal left and he left to go to Wal-Mart. Now, that’s after paypals, down 75%. If I was working for a company and I thought this was the best thing and I was going to make an absolute fortune from this point, would I really leave and go and work at a retailer? Probably not. So I think that this is going to be really challenging and I think everybody’s invested in the US. And the other point I’d make is and I’m amazed I don’t see more people talking about this, but these currency headwinds that these US companies are facing are tailwinds for European and Japanese companies and everybody is underweight. So I mean about 70% in the US, that’s the benchmark and I mean the Japanese weighting, I think six. And the whole of Europe’s 20. And everyone’s going, oh my goodness, yeah, but Europe’s got a war and all the rest.

If all this recession concerns, everybody’s talking about a recession, but it’s mainly they’re talking about a recession in the US. We’re probably going to have a recession elsewhere in the world, including here in Europe. But I was intrigued that BNP, the French bank, there was talk that they’re looking, sniffing around, buying ABN Amro. Now, that was great news for us because we own ABN Amro. We think it’s cheap. But if these banks were really concerned about a recession on the horizon, would they be out there? Wouldn’t they be battening down the hatches? And rather than being out there looking at snapping up undervalued competitors or peers and and you look at BNP, they sold their US bank Bankwest to bank Montreal in December last year at 1.7 times book they buying back their stock at $0.50 in the dollar and they’re looking at buying maybe ABN Amro at $0.50 on the dollar. And so you go, well, I can go buy these European companies that are really knocked down, that everybody thinks the world’s going to fall apart when they’ve got currency tailwinds. Well, I can go buy overpriced stuff in the US. So that’s, you know, that’s where I think opportunities are and that’s how we position rational thinking.

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