This interview was recorded on Friday 31 January 2014
HILTON TARRANT: Welcome to this Market Commentator weekly podcast, our series of interviews with chief investment officers, fund as well as portfolio managers. We’ll be interviewing them or the institutions they represent once every two months or once a quarter. Our guest this week is Walter Aylett, founder of Aylett & Co Fund Managers. Walter, we last spoke back in July, it seems an awfully long time ago, what’s on your mind at the moment?
WALTER AYLETT: Not really much, we tend to look at things that are fairly long term and I think what’s happened in the last month is not surprising to us, I think we wrote about it in early January that we expect some form of disruption to the markets, not quite sure what it was going to be and I think we’re always looking for opportunities. So that’s really at the front of our thinking. I think yesterday [Thursday] was probably the first time that we were active, where we were buying and that’s what’s at the front of mind.
HILTON TARRANT: Obviously that interest rate decision earlier this week catching the market off guard, how does that affect your expectations for the rest of the year?
WALTER AYLETT: Not much because we tend to see through these cycles and we tend to work with things that we understand. It’s quite difficult to forecast where interest rates are going to go, as you saw two or three days ago there were I think 25 economists who said there was no rate hike coming. We try and focus on companies that we think we can understand and that will be able to deal with these unknown situations. Over time we’ve been moving away from interest rate sensitive stocks or economic sensitive stocks such as retailers and some of the industrial counters, preferring more of the exporters and more value type situations.
HILTON TARRANT: The banks though seeming to have reacted quite significantly to that decision. You do hold FirstRand, Nedbank as well as Standard Bank, two of those among your top ten holdings, what’s your view on the banks at the moment?
WALTER AYLETT: Well, no one likes a shock to the system, so if after the shock it’s a gradual increase in interest rates that’s well forecasted I think the banks prepare themselves quite well for these type of events. So from what I’ve read already it seems that some of the banks were anticipating some form of rate hike. Secondly, as long as it’s not a rapid increase in rates I think banks will be fine. Our banks against a background of cutting back credit in the micro-lending, personal loans space I think they were kind of already pulling the levers up. So I don’t anticipate significant bad debts coming from a rate hike like this. I think if there were, say, five or six rate hikes and in short succession it would be a worry and I don’t think that’s going to happen.
HILTON TARRANT: You pointed to yesterday [Thursday] as a day where you were active. With the amount of volatility we’ve suddenly obviously got the word contagion being screamed at us from the business news television channels, would you move…obviously this kind of market would suit you and offer up opportunities that you might not have had?
WALTER AYLETT: Absolutely, we’ve done very little until yesterday for the last six weeks and when you’ve got quite a lot of cash in your portfolios and the market obliges you with these like 10% to 15% lower prices you should execute, they’ve got cheaper and they haven’t got cheaper dramatically to the extent where you can take 15% off their market caps. So in general I think it was a good buying opportunity yesterday [Thursday]. I don’t think it’s the end, our market is not cheap, so when I talk about buying we’re very stock specific.
HILTON TARRANT: And you cite Sir John Templeton in your commentary in December with the Equity Fund and that quote “buy when markets are at maximum pessimism” that environment, we haven’t seen that environment for years on the JSE.
WALTER AYLETT: No, no and I don’t think the last two, three days have been about maximum pessimism, I think it’s just pessimism in certain parts of the world but we haven’t seen that. It’s starting to happen in emerging markets and it’s got quite a long way to go I think. The developed world is improving, as we’ve seen in the United States and in the UK, Europe will improve over time, so that money will go back.
HILTON TARRANT: Walter, the Aylett Equity Prescient Fund a 25% return last year after costs, the ALSI would have given you 21.4% a year, healthily outperformed the market, is it going to be hard to deliver those kinds of returns this year given where markets are?
WALTER AYLETT: I think one never really knows. We need panic, we need pessimism to provide us with those wonderful buying opportunities and I think most fund managers in this particular part of the world, I’m talking about South African fund managers, seem to be quite rational in the way they’ve invested in South Africa, so it tends to be the foreign investors that are being poor. They started to take a much longer-term view on shares so they don’t react the way they used to in the past. So the buying opportunities aren’t there but from time to time we do see things like we saw in African Bank at one stage where we made good money and if you’re just patient and you create enough optionality in your portfolio you will always find opportunities and I think particularly in some of the small, mid-cap space there are some value type situations which might benefit over the next five years.
HILTON TARRANT: Are you still a holder of Abil?
WALTER AYLETT: No, no.
HILTON TARRANT: If we dig into one or two of your holdings in the top ten and Remgro possibly your biggest or your second biggest holding in the fund, that really seems to have started to come into its own, it’s almost as if there’s a new lease on life, there’s a lot of activity in terms of its portfolio companies, it’s been reorganising, especially on the food side, Rainbow Chicken, RCL Foods, the Foodcorp transaction, the TSB transaction, there are a number of transactions that have happened with Grindrod and some of the other companies. What’s to like about Remgro?
WALTER AYLETT: Well, my kids wouldn’t be going to university one day if it wasn’t for Remgro, they’ve done a really fantastic job for shareholders over the last ten to 15 years, they’ve never really hurt minorities, they’ve been rational in their capital allocation and they were able to do things that I cannot do, particularly in the unlisted space. I also think that unfortunately with the passing away of Thys Visser, the ex-CEO, the new CEO is maybe looking at things a little bit differently and that’s where you’re seeing that activity. I think there’s a lot of simplification, common sense that’s applied at the director level. So it’s been a wonderful company and we are long-term holders, they’ve got wonderful assets. It’s a portfolio you’re buying, you’re not buying a company and I wish they’d bought back more shares when they used to buy back shares but they stopped doing that but they’re obviously using their cash to invest in these subsidiaries and we have no complaint with that.
HILTON TARRANT: Is it one of those stocks that any South African investor should absolutely have to own?
WALTER AYLETT: Ja obviously your timing is always important and you would never have wanted to have bought Remgro at 202 or 210 it was in December but I think if you…when the discount to the subsidiaries widens quite a lot and you understand the subsidiaries and you can see what’s happening there ja, but there’s always time to buy and sell things but we’ve always been long-term owners of Rembrandt and I don’t see that changing.
HILTON TARRANT: What about Reinet, Walter?
WALTER AYLETT: Ja that’s probably our biggest investment we’ve made over the last three months. We think the discount of 34% at one stage is just way off the target. It’s not hard to work out what’s in Reinet, it’s really BAT and if one does a bit of homework in the management accounts that they publish every quarter there are little hints of something happening there, which I think long term will be very positive for shareholders. Over time BAT will become smaller in Reinet’s life and that discount will close.
HILTON TARRANT: And we’ve seen BAT become slightly smaller, it’s definitely not anywhere close to small in its life but currently hovering I think around the 70% level?
WALTER AYLETT: Well, what’s interesting about Reinet if you had to spin out BAT tomorrow you were buying BAT on a PE of between eight and ten. So would you buy BAT on a PE of, say, ten? I would and I don’t think he’s going to do that because he loves the asset but he knows it better than I do and so far his large acquisitions such as the Pension Fund Corp and Trilantic haven’t been bad investments, to the contrary they’ve produced quite great returns. So money makes money and I’m sure Mr Rupert is looking at the discount and in the short term it won’t bother him but in the long term he might do something about it. I hope he’s listening.
HILTON TARRANT: [Laughing] Walter, your offshore exposure in the fund at 20%, if you were unconstrained would that number be higher?
WALTER AYLETT: It would be 80%
HILTON TARRANT: Even with the rand at 11?
WALTER AYLETT: Well, the shares haven’t come off really, have they? Your exporters benefit from a weak rand, parts of Europe and parts of the States still offer…we have an offshore fund, which is 80% offshore, so that kind of justifies that view. I don’t think investors are being rewarded by the JSE in terms of valuation, so you are paying quite a full price here, so I definitely would be a lot higher offshore.
HILTON TARRANT: Walter Aylett, founder of Aylett & Co Fund Managers.