05 June 2018


by Peter Little, David Gibb and Henry Biddlecombe

May picked up where April left off – US interest rates continued to grind higher, with US 2-year bond yields touching levels last seen before the collapse of Lehman Brothers in 2008. The remaining 40% of S&P 500 companies, which hadn’t reported earnings in April, reported in early May, keeping aggregate earnings growth above 20% YoY. This as a weak US dollar and lower taxes super-charged solid underlying earnings growth. Towards the end of the month, political turmoil, which had been simmering beneath the surface since Italian elections in March, boiled over disrupting global markets and thrusting the unity of the European Union into the spotlight again.

Inconclusive Italian elections in March preceded weeks of haggling amongst political parties attempting to form a coalition with a combined parliamentary majority. In May, the anti-immigrant League and the Five Star Movement, led by 31-year old Luigi Di Maio, emerged as front runners to take control of government in an uncomfortable union of parties on opposite ends of the political spectrum, united  only by a shared populist and eurosceptic  agenda. Towards the end of the month, Italian President Sergio Mattarella rejected the cabinet proposed by the coalition on the basis of the proposed eurosceptic  finance minister, which threw markets into a panic as Italy appeared to be headed towards more uncertainty and another election. A last minute compromise, late on the last day of May, salvaged the deal returning some relative calm to markets.

Italian-German 10-year bond yield differential

Source: Bloomberg, Anchor Capital

With emerging markets already under pressure from rising US rates and turmoil in Turkey, the Brazilian central bank surprised markets by keeping rates on hold in May. The rate decision was enough to halt a slide in the Brazilian real (which has fallen 15% in 3 months), but had the opposite effect on the Brazilian stock market which ended the month down over 10% (and 17% lower in US dollar terms).

In the US, the S&P 500 Index managed to end the month up 2.4% to take it back into positive territory for the year, but this was thanks largely to the tech sector. While Facebook and Alphabet (Google) have failed to keep pace with their FAANG peers, the much-vaunted tech group (which was a key driver of equity market returns last year) has been responsible for around 90% of  S&P 500 returns YTD, as IT stocks have been comfortably the best sector of the S&P 500 in 2018 (up over 11% YTD).

The turmoil in Italy was enough to drag US 10-year bond yields back below 3% and saw the US Dollar Index finish the month up 2.3% (thanks largely to euro and British pound weakness). European stocks also had a dismal month, particularly the European banks, with the Eurostoxx 50 ending the month down 3.7%.

Despite comments from the Saudis towards month-end that OPEC and its allies would likely increase oil supply in the second half of the year, Brent crude oil still finished the month 3.2% higher (up 16% YTD). This also helped drive US energy stocks up 3% for the month.

~ written by:

Peter Little, Fund Management

Yum China

Yum China has been an excellent investment for us since its split from Yum Brands on 1 November 2016. On that date, the share closed at $26.19 on the New York Stock Exchange (NYSE). The share currently trades at c. $38.56, a rise of 47% over 19 months.    

While we still like the company, we acknowledge that the easy money has been made. KFC (accounting for 72% of its sales) has solid long-term growth potential but the operating margin is already high at over 20%. KFC needs revenue growth to drive profit, which it should be able to do as it expands the store base. In our view, the biggest risk is geopolitical – if China/US relations sour there is always the possibility of ‘boycott diplomacy’ which China has used in the past against foreign brands in the country. Pizza Hut (28% of sales), the problem child of the Group, has an image problem – the brand is outdated. The menu is long, and the food is not desirable enough. Yum China is trying to change this by revamping Pizza Hut’s menu and changing the brand image but, unfortunately, it is currently only in the early stages of turning the business around.

Our assessment is that over the short- to medium-term there may be better investment options available elsewhere. The PE multiples are not attractive enough to justify any further investment in Yum China. Also, with Yum China being a relatively small part of the portfolio post the spin-off from the larger Yum Brands, we are happy to realise a very healthy profit and move on. 

~ written by:

David Gibb, Fund Management


Although Pandora reported 1Q18 results that were in line with expectations and guidance, the share price came under significant pressure after disclosing that YoY revenue growth in China had slowed considerably. Although revenue in China still grew by 16% YoY in local currency terms, this was largely as a result of extensive new store openings (50% YoY store growth) – with like-for-like sales growth running in the negative mid-teens across the existing stores. We believe the weak sales growth in China is a function of both a lack of

product innovation over the last 12 months, as well as significant geographic pricing discrepancies between China and Australia which has encouraged a high level of grey-market trading within the Chinese market. After consulting management, we understand that the company is looking at adjusting its pricing strategy in China to address the grey-market trading issue. Additionally, the forthcoming 2Q18 results will represent the first quarter of trading for Pandora’s new “Shine” range of gold-plated jewellery, which should give investors a good indication of the market’s appetite for a new Pandora range. Given the extremity of the current valuation, with the share trading at just 8.35x expected earnings, we feel the risks continue to be skewed to the upside and we will remain holders of the share in anticipation of its 2Q18 results.

~ written by:

Henry Biddlecombe, Investment Analyst



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