HANNA BARRY: Welcome to this week’s Market Commentator podcast, Moneyweb’s series of interviews with investment professionals. Our guest this week is Winston Floquet, chairman and head of investments at privately owned Flagship Asset Management.
Winston, it’s good to have you with us. Now you have been with Flagship since it was formed in 2001 and run three of its funds, two worldwide funds and a global fund in Guernsey. What is the difference between a global fund and a worldwide fund?
WINSTON FLOQUET: Thanks Hanna, very much. Nice to be here. Global fund is basically 100% invested in offshore markets, whereas a worldwide fund, according to category definitions, you can be zero offshore or 100% offshore, in other words you can have 100% in South Africa or 100% offshore or any mixture in between, a very flexible fund.
HANNA BARRY: Let’s talk about that flexibility and we’re going to get to the split between offshore and local a bit later on. All three of these funds are classified as flexible funds and flexibility is key to Flagship’s investment philosophy. What does that mean?
WINSTON FLOQUET: Flexible funds just gives us flexibility as to the asset categories that we can invest in. So again we can be zero in equities or 100% in equities, zero in bonds or 100% in bonds and the same with property and cash, and the beauty of this is that you’re not locked into any specific asset class. For example, if you’re in an equity fund, you basically have to stay 80% invested in equities at all times and because of market volatility, we thought that was an unattractive option and therefore decided the flexible funds were the way to go, and we’ve been, as you’ve seen most of our funds are in the flexible category.
HANNA BARRY: It sounds like a lot of sense when you put it that way, but there are probably some fund managers out there who would argue it’s better to take a long term view on a particular stock or a particular sector and simply hold it rather than be overactive when you trade and possibly, you know, leading to some emotional or irrational investment decisions. Is that what flexibility means or not at all?
WINSTON FLOQUET: No, flexibility, although it obviously permits you to be a trader, really most of the people in this category really have quite long views. In other words, equity cycles usually last quite long and bear markets usually, are quite short but quite steep. So it doesn’t need to mean that you are jumping in and out and trading. Certainly not, it just gives you that flexibility when major market moves are in prospect.
HANNA BARRY: Tell us about Flagship’s year to date track record and perhaps track record over the past few years and how that compares to its peers.
WINSTON FLOQUET: In 2013, both the domestic funds, I run the Worldwide Flexible Fund and the Worldwide Flexible Fund of Funds, both of them were up 44% and in 2014 one was up 21% and one was up 18%.
HANNA BARRY: So those are very impressive performances. Now I’m going to challenge, I suppose, the short term view of performance that investors so often take and I know Flagship has won quite a few Raging Bull Awards, Standard and Poor’s Awards and while those are often good measures of a fund managers’ ability and skill, most investors are out there to invest for 30 years, 40 years, so why is short term fund performance relevant at all?
WINSTON FLOQUET: Well, I suppose it’s because what most of your investing public look at. You know, someone with a long term track record might look very attractive but if they’ve had a couple of bad years in a row, investors just tend to steer clear of them, regardless of a good long term performance. So everybody really has to look, and that’s the curse of quarterly reporting, but unfortunately it’s here to stay so we have to, have to watch the short term but obviously with a big long term overview.
HANNA BARRY: Absolutely and I think you make an important point that investors tend to look at short term performance which pressurises fund managers to focus on it. Do you think that long term returns are ever sacrificed or how would you approach investments yourself, you know, over the long term if you were an investor investing for 30 years or 40 years.
WINSTON FLOQUET: Well, I’ve been around a long time, so I have been investing for a long time. You know I’m – the one fund was formed in 2001 and the other one in 2003, and I’ve been in both those funds myself, obviously, over that extended period of time and certainly in doing that I’ve taken a long term view. You’ve obviously got to keep an eye on the shorter term view but really it’s pretty important to keep your focus on the longer term.
HANNA BARRY: And how does Flagship’s sort of six to 12-month view on asset classes, how is it in keeping with that?
WINSTON FLOQUET: Ok, at present, we’re virtually 100% invested in equities and we’ve been like that for perhaps the last two years and that’s really because we believe in the long term that equities are going to offer the best returns and that’s in spite of the ratings being somewhat stretched, I’m talking globally now, somewhat stretched. In South Africa, I think they are extremely stretched, they really are very extended valuations so I find the local market, really very unattractive.
HANNA BARRY: So the local market is expensive is what I’m hearing, does that mean that Flagship is seeing opportunities offshore?
WINSTON FLOQUET: That’s why both our worldwide flexible funds, although we can have investments in South Africa, both of them are 100% offshore. And that’s firstly because the overseas markets are – they’re a little bit stretched, but by no means as stretched as the South African market. And secondly they benefit obviously from any depreciation in the value of the rand. So you’ve got a doubly good reason to be offshore rather than locally.
HANNA BARRY: Are you not worried that Flagship is missing out, or Flagship’s clients are missing out on the gains that we’re seeing in the local market, these kind of record highs being set almost weekly?
WINSTON FLOQUET: Well let me put it in perspective. In 2013 the JSE was up 21%, we were up 44%. In 2014 the JSE was up 11% and we were up 18%. So I think that is more than justifiably the stance we take and even though our market looks like it’s astonishingly strong, the bottom line is it hasn’t actually outperformed the overseas markets when you take the rand devaluations into account.
HANNA BARRY: Hard to argue with that. Any plans to change the mix – the offshore-local mix in your funds in the near future?
WINSTON FLOQUET: No, you know obviously changing that depends on two things; one is the valuation of the South African market and that’s still too expensive, and the second thing is our view on the rand. And the rand I’m not sure where it’s going to go in the next six months or so but I know exactly where it’s going to be in two years’ time, and that’s going to be weaker. So taking a longer term view, we’ll ride out any volatility in the short term, knowing that in the long term I’m going to be rewarded by having the money offshore.
HANNA BARRY: Why weaker in two years’ time, Winston?
WINSTON FLOQUET: Well I think there are a number of factors. You know, one of the things that people look at when they look at your currency, is the current account deficit and the budget deficit and often combine these two and they call them the twin deficits. Now if you add our two budgets [deficits] together to get the twin deficit, we’re the second worst in our peer group. So that’s the first thing that is actually against us.
And secondly, with our local equity and bond markets both over-valued, the risk of money flowing out of this country is also quite strong. So you’ve got two things that are actually quite negative, really and there’s a tail risk as well. If South Africa’s rating, which I don’t think is going to happen, but if it is downgraded to junk status, there is a huge amount of money that can flow out and one of the reasons for that is that nearly 40% of our government bonds are owned by foreigners so if we get moved down to junk status, a lot of those funds that are invested here are not allowed to hold junk bonds and even if they like the South African story, they have to sell out.
And a lot of that depends on the government’s cost controls in this latest budget. And that’s what S&P said, providing the government sticks to its budget, they probably won’t downgrade us. But if costs run out of control, then we’ve got a problem, and as you can see the wage negotiations at the moment are not going that well, so it’s a tail risk. I don’t put a high probability on it, but it is something in the background.
HANNA BARRY: You mentioned Flagship almost being entirely invested in equities and that really speaks to some macro investment themes that we are seeing at the moment. What would you say is driving markets currently?
WINSTON FLOQUET: Ok, well year to date there hasn’t been a lot of movement. I mean the American market is up less than 2% year to date and one of the reasons for that is we’re going through a bit of a softer patch in the global economy. But we think that’s going to pick up in the second half, quite materially, mainly because of accommodative policies of most of the global central banks, and you’ve just seen some major relaxations, obviously with the ECB in Europe, and more recently with the Bank of China. And we also have the ongoing stimulus from lower oil prices. So those are two backgrounds that I think are actually going to help the market kick up in the next…or the economy kick up in the next six months. And having had a flat market basically in the first six months of this year, we’ve got the chance to advance modestly. I think the other thing – why I say modestly, is a, we think the market is a little bit stretched but mainly if you look at the big macro picture, the lessons that were learned from the 2008 downturn were basically budget deficits running at ridiculous levels which caused countries, particularly Greece and most of Europe as an example, spending more than they earned, and there is now a very tight concentration on trying to get budgets, not necessarily in balance, but certainly to a much smaller deficit percentage. That basically means that governments will be spending less and that means that the joyride that we’ve had while governments have spent money they didn’t even have over the last few years is not going to be available. Therefore world growth I think will proceed at a slower trend rate now than it did in the past few years. It means obviously equity markets haven’t got a lot to ride on because their earnings will be struggling.
HANNA BARRY: But still, I mean, equity markets are obviously more appealing – they must be more appealing to Flagship than bond markets, and I did read somewhere that you argue that perhaps not the JSE, but global equity markets are cheap compared with fixed interest alternatives. Is that correct?
WINSTON FLOQUET: Absolutely right. The rates on overseas, well as you know money you can get leaving it in cash is just about zero and overseas rates have fallen quite dramatically. I mean, you just take the French and German five-year yields, they’re both in negative territory now having been up at about 1.2%, they’ve fallen absolutely dramatically. And even if you compare the yield in America, the five-year Treasury bond yield there is 1.4% now and the US dividend yield in the equity market is 2.1 and that dividend yield is actually going to grow over the years as companies grow, whereas your five-year rates are not going to go anywhere. So it’s horribly unattractive, bonds.
HANNA BARRY: Equities then the place to be. Finally Winston, you have been in the investment game for quite some time since 1969 I believe. What would you say is one of the most important investment lessons you’ve learned over the years?
WINSTON FLOQUET: I think firstly a buy and hold strategy is not something that will work. The American market, let’s take an example, has only just recently got over where it was ten years ago. That’s why we have flexible funds. You’ve got to manage it prudently, not trading, not jobbing, because that’s also very difficult to make money. But on the longer term, you need to be flexible and continue to manage your investments.
HANNA BARRY: Well there you have it. Winston Floquet is chairman and head of investments at the 100% management-owned Flagship Asset Management.