DANGER IN LICs?

 

I came across a couple of articles in the last week or so that reminded me we are indeed in buoyant times with regards to the appetite for new LICs, reminding me about the times just before about 2005. This eventually spelled trouble for many as they were hit with widening discounts to NTA after the GFC. At this point after the GFC and even well up to 2012, LICs played a major part in my investment strategy whereas now I feel there are risks that many investors do not appreciate. Looking back at some of my trades in 2016 I see that I have exited a few such as WMK, GVF, HHV, HHY, KBC, AGF, TOP, NCC. I don’t see myself as that likely to be buying LICs in 2017 unless there is some sort of panic. Of the handful I do own I see it more probable they could be lightened up on rather than topped up more.

By the way the pictures above are from Pai, in Northern Thailand where I was at last week. To keep me interested in blogging I may occasionally drift off into areas such as travelling. That seems to be what people do after completing blogging 101, then advancing to photos for clickbait 101. Believe it or not the pics did make me think about investing in some ways. I have incorrectly held the view for the last couple of years that the bigger risks lie in the developed markets regarding the optimistic valuations in the U.S. The enthusiasm post-election has carried further on hopes for pro-business policies in terms of less taxes and regulation. It seems to me the huge amount of taxes and regulations put in place over many years are a bit like the tattoo you get when you are drunk. It would be nice to get rid of but I’m not sure it is necessarily that easy. The markets are extremely bullish about less regulations in the US, yet in some emerging markets the business environment is far more free in terms of getting things done. Today though we fine the valuation gap between US and emerging markets around the globe at extreme levels.

Spending more time in South East Asia in recent years, the lack of rules in general still sometimes surprises me. The cliffs at Pai Canyon where many tourists take photos such as the above are met with a couple of basic warning signs as shown, but then you are free to accept the level of danger you desire with no fenced off areas at all. At a glance, and going by what I read on the net, a slight slip when going for a photo like this is almost certain to be greeted by death. Still, it makes for an impressive Facebook post, or an impressive picture at a funeral. I suffer from very poor balancing skills, and have more of a beer gut, so rest assured this picture is not of me.

Oh yes, so what were those articles that made me feel many LICs have an element of danger ahead.

I thought 2014/15 was a big period for new LICs plus many capital raisings from existing LICs, and that maybe 2016 things were beginning to slow, but then I read this.

http://www.afr.com/street-talk/fat-prophets-joins-lic-brigade-hires-taylor-collison-20170117-gttesb

A few more to add to the LIC universe. It is also interesting how a lot of fund managers who traditionally focused on the ASX are now prepared to back their talents in the global markets. What a shame they didn’t arrive at this conclusion around 2011/12 when the AUD was at parity and before a major expansion in P/E multiples in the U.S.

I am making no comments about the prospects of this particular float above but would like to point out the following link which some may find interesting.

https://hotcopper.com.au/documentdownload?id=tuE7JrfFgm%2FOGe3lZXqKBG%2F3SUYM41vozw3104QOkqtzHLvSEYpGWgpkNEmowQdHiz15OdxMe4mmot%2FMBIsyyeEjZA%3D%3D

After reading this, some may wish to google how the Merricks fund went after 2010. For those that are not time efficient, here is a start.

http://www.smh.com.au/business/fund-exit-a-timely-lesson-to-tread-with-care-20130329-2gyos.html

The other link that made me cautious about LICs was the latest offer from Thorney.

http://www.theaustralian.com.au/business/companies/thorney-technologies-waislitzbacked-tech-play-on-strong-debut/news-story/a74081eec74dc7017942df4c08b1b0ca

I hope I don’t confuse readers here because I have remarked previously I think quite highly of Alex Waislitz as an investor. But the question is does that mean paying a 23% premium on market to the NTA of what is a new LIC with a very high fee structure worth it? What could occur if the fund has a lean run for a year or two, which can certainly happen to even the greatest of investors? Also is it not strange to pay a 23% premium on day one when one could have subscribed in the float and got all the shares they wanted, given they intended to raise between $50 and $125 million but only raised $42.5 million? There were some existing holdings in the structure but at a quick glance it doesn’t appear they have performed that well since the float and day 1. With the fund being at the smaller end of the range the listing costs will hurt the NTA also, which is why I would be very cautious about buying any LIC IPO. I see some trades have gone through at 26.5 cents which given some listing costs, I would guess is a 23% premium to NTA. I would also point out that the other Thorney fund (TOP) initially was greeted with similar enthusiasm in 2014. The shares came close to 60 cents when the NTA was around 50 cents, within 6 months investors had the chance to pay in the low 40 cent range. All through this time nothing too exciting occurred with the underlying portfolio and NTA.

Even though not as much was raised as expected I still see it as signs of optimism that even $40 mill could be raised with the high fee structure. The management fee looks to be 1.5% per annum. On top of that if I read things correctly they receive a performance fee of 20% that looks to be different from your standard performance fee. That is, it is on the increase in net value, not on an increase over a benchmark. There also does not appear to be any “high-water mark” clause. Then we should remember that the general expenses running the fund will be higher in a relative sense from them having only raised $42.5 million, rather than between the hoped $50-$125 million. Think about how great the fund must perform for investors to experience great performance, the two are not entirely the same.

My comments may also confuse readers in the sense I often advocate following the better investors and we can see from the article that Geoff Wilson and David Paradice are involved. I would just say that I advocate looking at what they are doing for ideas but not to blindly follow everything. It may be relatively small money for these two. They may also like the idea of having a close working relationship and at least they didn’t pay a large 23% premium to NTA!

I don’t like investing in potentially dangerous sitatuions so for the time being I will pass on the chance at buying TEK at 26.5 cents, despite seeing Alex Waislitz as a talented investor. I will keep an eye on the fund though, as I discovered SSM at under 27 cents by keeping an eye on his work at TOP.

My travelling photography will stick to less dangerous situations also, here is a more comfortable snapshot of my time in Pai, Northern Thailand. I felt my age a bit inside the main town here with the young travellers, but I would recommend getting accommodation just a little bit outside where there are many small homestays where you can experience the great views all day.

pai-cafe

11 thoughts on “DANGER IN LICs?”

  1. Great post a usual Steve.

    It only seems like yesterday for me when the last LIC IPO frenzy happened during the period you mentioned. Some didn’t make it, activism ripe due to crazy external management agreements and deep discounts everywhere.

    There seems to be the belief that FOFA has changed things for the better. I’m not convinced. The recent LIC IPO frenzy is worse than the last. I see history repeating itself.

    Fat Profit’s IPO is rediclous. Surely this is a sign that we are in seriously frothy territory. Second time around for them. Didn’t make it last time so why not have another go post FOFO they say. $33 mil target, what a joke. Fixed costs in running a company let alone management fees will eat into any potential profits.

    As you’ve commented in the past it’s a rare LIC IPO worth investing in. Only the best of the best would even be considered. Listing costs alone have the investor a few percent in the red from the get go. Bonus options create a drag on performance as new investors are wary of dilution. Deeper and deeper the discount goes. Add these issues to some rubbishy low FUM LIC investing internationally a few years too late like the proposed Fat Profit’s One then why the hell would any sensible investor consider it. I suppose the word “sensible” tells the story.

    Then there’s TEK. Do those few who decided to invest in it including the likes of Wilson and SOL know something we don’t? SOL seems to have the technology bug. TPM the more the better, Balidor and now TEK. But then awhile back I recall Wilson saying that some LICs have never done well in the LIC environment, technology focused ones being one of them! All very confusing. So not for me I’m afraid in an excited market or at all for that matter. Then again why would I? As a dividend investor I say “show me the money”. Low FUM, high running costs, high fees even if they have some wins I don’t see too much money headed my way if I was to invest in it.

    As for following Wilson and others as you say don’t do it blindly. They’re not perfect, bad bets happen. It’s all a probability game. And given the size of WAM now at around $1.2 Bil from memory more and larger high risk bets will be needed to maintain performance.

    As you may recall from PC forum I’m very much the buy and hold dividend investor. Retired and happy. However as a buyer in gloom I’m very much on the sidelines now accumulating cash.

    Until gloom arrives to wake me out of my slumber I’ll just have to entertain myself watching Wilson and SOL duel over HHV. The entire Hall saga is more exciting than most TV soap operas.

    Cheers mate
    Gordon

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    1. We can’t know for sure the reasons why some high profile investors invest in various LICs so I will not try and predict. I think investors should be aware though that some individuals could be potentially on the board of directors for numerous different LICs at the same time, so it may help to build relationships.

      I think your comments also could help many looking at this sector and offer an appropriate warning. I suspect a lot of the money that is diving into these IPOs, may have zero clue about IPO costs, “free” bonus options, Management Expense Ratios, performance fees, LONG term IMAs, capital management techniques or lack thereof and the list goes on.

      Fat Prophets first LIC didn’t necessarily do a horrible job with the portfolio. The chain of events was the discount to NTA, then an activist hedge fund taking control and that hedge fund destroying shareholders wealth. Yet the problem was investors seemed trapped to continue with the new manager, Merricks Capital and it didn’t turn out too well. Well they could have sold out prior but at a large discount to NTA. The board though firmly believed in Merrick’s capability. Some larger shareholders (DYOR) did escape the carnage. I think Fat Prophets remarked back then though they believed $30 million was way too small for a benchmark aware fund. I suppose they believe this new one is more benchmark unaware and a small size will be fine.

      Thanks for posting because I don’t think many out there remember all the LIC issuance before 2005 but clearly you do. It’s those with short memories that are probably rushing to participate now.

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    2. If you deducted TPM from the SOL portfolio, it would be an $8 stock, so it has been very good to them. Obviously, with their investment in BTI and TEK they see it as a managed investment in a growth sector.

      I have BTI in my portfolio for the above reasons but I could not come at TEK because the fees are way too high.

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  2. Hi, Steve, what’s your view on the latest events in HHV? Do you think the fund will have another (normal) life under the new owner, whoever that might be? Thanks.

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    1. Hi Sara,

      Please note that I sold HHV in July so to be honest I haven’t monitored them too closely since. At the time a recent discount to NTA had narrowed and their gold holdings had a very good run.

      I don’t feel I have a strong opinion either way about the talents of the management team in place now. Currently I don’t see much of a discount to NTA to be excited about. I am uncertain as to what they may wish to do with some of their stock positions, being a relatively concentrated portfolio. WAM is also creating some uncertainty on this front. Will the portfolio mix need to change in the future now that Peter Hall is leaving and will that involve transaction costs? I can understand WAMs
      latest move but remember they have a large stake and smaller shareholders have more flexibility in their options if they wish to exit. WAM’s recent buying may be in part holding up the price.

      I’ve probably given you more questions than answers! Yet at a quick glance so far I haven’t thought it’s that worthwhile for me to read up in detail about all the recent events.

      If you or anyone else reading has a strong view either way though I’d be interested to know.

      My comments above are all about HHV by the way. I see in the media journalists often don’t even say if they are talking about HHV or HHL which are obviously both quite different. I have less of a clue about HHL’s future, haven’t followed that stock too much.

      Steve.

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  3. Steve asked for other views so I’d simply sum it by saying that for new investors why bother with HHV at the moment with so many unknowns. If there was a deep discount (greater than Post-tax NTA in this case should the LIC be wound up) then perhaps one might consider it but there isn’t.

    Wilson’s peeved off because he got caught off guard. He’s has no interest in other shareholders. I’m guessing he wants to try to cause a board spill, install his own people to do whatever he can to get the best result for his own funds.

    Perhaps if there was a very substantial discount and one or more large activist investors were on board then maybe Steve might be showing more interest? 🙂

    For existing investors perhaps while Wilson’s buying and agitating is propping up the price now might be a good time to exit, lets things sort themselves out and then consider if HHV is worthy of being in one’s portfolio. Alternatively hang in there and hope for the best. This mess is going to take some time to sort itself out.

    Cheers
    Gordon

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  4. GW has made a strategic blunder. His proposal is to benefit only himself. The HHV board have called his bluff and hold the whip hand.

    GW has accumulated a significant proportion (+10%) of HHV. The stock has moderate liquidity and he is in a bind. The stock is selling at a small discount to NTA and the average investor could sell at close to NTA at any time without moving the SP significantly, but if he tried to sell the discount to NTA would probably widen considerably creating a loss for his funds and affecting his performance bonus

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  5. Couldn’t agree more James.

    Given the small discount and ample liquidity I think most investors in the fund can see that Wilson has no interest in them, only himself and his own funds. I think any attempt to cause a board spill will fail.

    It was interesting in that awhile back I was talking to the secretary of AFI / MIR /AMH about Wilson. We were discussing WAM funds outperformance. He said they follow the competition closely but are WAM funds returns sustainable given the level of risk involved at times?

    I believe the frustration Hall felt by “letting the tiger into the castle” (Wilson) contributed to his eventual decision to quit. I might be wrong but given the investing approach of WAM and now it has gotten too big at around $1.2 Bil I can’t help but think that it will need to take on increasing levels of risk to maintain their returns.

    Activism used unwisely can backfire at times. To date Wilson has been quite successful in this area but more and more are now alert to “letting the tiger into the castle”. And shareholders are wisong up to the fact he’s not always their knight in shining armour but merely another barbarian interested in no one other than himself.

    Cherrs

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    1. For sure the size of WAM a concern. I can’t fault them on the risks they arguably take with their portfolio, great figures achieved with very high cash balances often 30% plus.

      No interest in buying WAM though with today’s premium. I’m old enough to remember them going from a 20% plus premium to NTA to a 20% discount a long time ago. And I do worry about the size of AUMs, but to their credit great job under the circumstances. (Thus far).

      I would fully agree with the key point in the last two posts though. The equal access buyback proposal would help WAM get out of an average situation, yet probably won’t deliver much of value to other small HHV shareholders. If the small guy wants out they probably should just sell on market. There could be notable transaction costs if HHV sells down much of the portfolio to implement the WAM proposal.

      If WAM really wants to exit HHV though, the other way maybe to slowly sell on market and that would hurt the HHV share price. Either way small HHV holders may be annoyed. I don’t consider his actions poor form in terms of the small shareholder, but rather for sure just that they offer his funds a good solution and that’s where the priorities lie.

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      1. Interesting discussion around Geoff Wilson/HHV etc.

        If anyone ever wanted confirmation that Geoff was only interested in himself and not shareholders, one only has to look at WAM’s investment in DMX Corporation (see WAM holdings in annual reports).

        DMX Corporation (formerly Dolomatrix) is run by Roger Collison/Steven McCarthy. The value of DMX has dropped significantly over the years. When I asked Geoff directly about WAM’s investment in DMX, he derided Roger Collison and stated that he maintained the investment “to be a thorn in his side”.

        OK it is a small holding but I think it speaks volumes of Geoff’s attitude and it has been replicated with the HHV investment on a much larger scale. It is a selfish act with contempt for the fact that the money belongs to all shareholders, not just Geoff.

        When I asked Matthew Haupt (portfolio manager at WAM) about DMX prior to the same shareholder meeting, he had never heard of it.

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  6. Thank you Steve and thank you everyone for the comments! I think I’ll look for an opportunity to sell my HHVs. I agree with Steve’s warning on LICs in general. All signs are saying time to offload some. I thought HSO looked interesting and bought some in the dip. Hope it’ll be ok.

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