The BBB Fund Monthly Recap – Aug 2021 [ISA -0.3%, SIPP -1.3%, FTSE benchmark +2%]

Access July's monthly recap to get an intro into the BBB Fund.

(Part Time) Fund Manager’s Report

After a blistering outperformance in July, the portfolio really struggled in August for any direction, and ended the month slightly negative and underperforming the FTSE benchmark.

My shares could be summed up into two camps; those that stayed flat or drifted due to the lack of newsflow and muted August trading volumes. And those that were hit by the Delta and China wobbles, like Rio Tinto (LON:RIO) .

It is an incredulous story that Rio Tinto (LON:RIO) currently trades at an in-year dividend yield of 17.3%, of which c.40% has already been confirmed and paid as an interim dividend in August. It is also at a bargain PE ratio of 4.9x, despite broker forecasts steadily rising the entire year and very well covered by 24 brokers. Something must give by the end of the year; either iron ore and copper prices crash, or we see a re-rating that takes the shares double, or even triple. To think that 20 years ago, investors would be wetting themselves if presented with a super-blue-chip like Rio Tinto at a price representing 4.9x PE or 17% dividend.

Anyways, I am contemplating whether to top up or not, but think we are going to have a bit of a rocky ride over the next month, with two major things that will dominate the conversation; inflation and the US debt ceiling. On inflation, we are going to see a few months of even higher inflation reads. Might be transitory, might be permanent, but either way it will shake the tree and I will not be surprised to see wild swings in markets, both in bonds and shares. On the US debt ceiling, we know that Congress will wait till the last minute for a deal. In the meantime, the financial media is going to go click-bait crazy with doomsday stories, and again we will see the weakest investors shaken out of the markets, and some good buying opportunities.

In August, I have been busy selling some holdings, and accumulating more cash. I said in last month’s report that I really wanted to deploy more capital, but instead I’ve ended up doing the opposite. I am now 50% cash in my ISA, and 58% in my SIPP.

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Performance Summary

The BBB ISA

The BBB SIPP

Summary

It is always disappointing to see an absolute loss for the month; all that time invested, to go one step backwards! Especially when the FTSE eeked out a decent monthly gain. Nevertheless, after July's stunning performance, there was always going to be some pullback in some of the shares that powered that gain. Overall, I am happy that none of my shares suffered a big drop during the month. Investing is half about having winners in your portfolio, but also avoiding any losers. So far this year, I've avoided any 10%+ single-day drops among my holdings, and I hope this may continue for the rest of the year.

(See appendix section for list of current holdings as of 31 Aug 2021)

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What has been sold

Ethernity Networks (LON:ENET) – Banking 50%+ gains, I have decided to sell this blue-sky company. My investment in January was a play on 5G, OpenRAN adoption, and the company being able to sign contracts in 2021. The 5G & OpenRAN story became big (in the telco industry) and drove interest in Ethernity. However, the company has signed fewer contracts than I would have liked, and I have a serious suspicion it will run out of cash by the end of the year, necessitating another equity fundraising. The last one had to be done at a deep discount plus warrants issued, so I do not want to be sticking around if there is another coming. Possibly a good buy afterwards. I’m now completely out.

Empiric Student Property (LON:ESP) – I sold my last holdings in Empiric just before the results came out. I was not convinced they had the student booking numbers in the bag; and indeed, they admitted lower bookings than in 2019. Their revenues are not going to recover to pre-COVID levels until Sep 2022. Given that, there is not much upside here for another year; their dividend yield is paltry, and they only trade a modest 9% discount to NAV. Historically in the last few years, they have never traded at par or premium to NAV, so why would they now? However, there is a possibility of a bid; rival Gcp Student Living (LON:DIGS) got taken out at a premium to NAV, and M&A is very hot right now…

National Express (LON:NEX) – Having only just acquired National Express in July, during the market dip mid-month, I started getting cold feet. This was meant to be a play on two things; a strong recovery from COVID and its ability to pick up distressed competitors and new tenders with little competition. However, as August unfolded, what we have is an increase in Delta cases in the USA, and likely to happen in the UK this September. Dampening use of public transport as well as corporate shuttles (a big growth prospect in the USA) as more companies in the USA postpone return-to-office. In addition, they now have a big formidable new competitor in the UK called Flixbus, which is PE-backed with deep pockets, and if you look to see their playbook in European countries, it is not pretty for National Express. Basically blitz the high volume routes with lots of coaches and times, offer insane prices, and eat heavy losses for years till the competition retreats. Not going to be good for National Express revenues nor margins. I’m out completely, with a still respectable 15% capital gain, but no-where near the 40-50% potential by end 2022 I had in mind when I bought the shares.

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A single buy

Appreciate (LON:APP) – I did end up buying one share, and that is Appreciate. It is a share I have held before, a few years ago, albeit at a much higher valuation. It is overlooked by many investors; who wants to invest in a retail gift card business that has seen a declining share price for the last five years?

And you would be right; there is nothing in the strategy that suggests potential huge growth or exciting new products coming. Management are sleepy. However, I think despite management being lethargic and unambitious, I see it as getting a free option on five things:

Inflation. I’ve been trying to find good plays on inflation, and it is difficult. This is one of them I believe. Their revenues and profits come from redemptions – i.e. how much of a gift card is redeemed. In a moderate inflation scenario, customers will rush out to forward-buy goods; and use up more gift cards thereby driving revenue. Gift Card Billings will also increase, as customers and businesses will buy higher gift card denominations.

Staff retention. We have all heard the stories in the press about lorry drivers and hospitality workers. Companies hate increasing wages, so there will be many that will try to use increased incentives to retain staff. Gift cards are one of the ways to do so.

Interest rates rising. They are sitting on a huge cash pile (£300m+?) of which the interest falls straight to the bottom line. My guess is that even if interest rates go back to 1%, there is a 13% boost to EPS. At the minimum.

Extra revenues from breakage this year. Breakage is the amount they make when balances on vouchers and cards expire. Over the past 1.5 years, there are probably many vouchers and gift cards left unspent and forgotten about. Appreciate hasn’t started to recognise this revenue yet (from what I can gather) so it is coming; and will all fall to the bottom line too.

Paypoint partnership. I was surprised that the market did not react to the announcement. Paypoint has a network of over 28,000 convenience stores. Many of whom people pop in to buy a Birthday card, congraluations card, etc. Instead of buying a bulky pack of Ferrero Rocher, now they can buy a gift card to slip into the envelope. Imagine all the husbands on their way home from work at 7pm, and suddenly remembering they forgot their wife’s / daughter’s / mother’s birthday. Convenience store it is – and now they can get a Love2Shop gift card. I reckon we will be surprised in the next trading update about the good sales volume they will get out of this Paypoint channel.

Where do I think the shares can re-rate to? 40-45p within a year is possible, even if only one of the five above come through, as the PE ratio is already so low that it can’t really go any lower, only upwards to re-rate.

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Looking into Sep

I expect September to be a very busy month for me, given that my portfolio companies hardly announced anything in August.

And indeed, I have already made a purchase; £SGLN to take a position in gold via this popular ETF. I am getting more and more convinced that the inflation narrative over the next few months is going to be either Stagflation or Hyperinflation, rather than just transitory moderate inflation, and thus gold does well in either scenario. In the former, central banks will try to keep interest rates low (good for gold) and inflation will rocket (good for gold). In the latter scenario, persistent hyperinflation is always good for gold. It is not a big position; barely 12% of my funds. But a few of my other shares should also do well with inflation scenarios as well, so I think I have a decent size position on inflation not being transitory.

Two updates I am eagerly anticipating in Sep;

Revolution Bars (LON:RBG) as my research has shown that their bars have been consistently at full capacity on Fri & Sat nights ever since lockdown restrictions ended. Can easily see a pop back up to 30p+ with a trading update. Rekom (formerly Deltic), similar nightclubs to RBG and in fact was interested in buying RBG a few years ago, recently announced trading up +150% on 2019. Bodes well for RBG.

French Connection (LON:FCCN) hasn’t announced anything for months, very poor corporate governance IMO. Meanwhile the shares have drifted on no-news. But if you look at the recent fashion retailer trading updates, those in the market FCCN are in (30-50 year old women, above average pricing, dresses and smart wear) have been announcing good results. My checks have also shown less discounting/sales activity than one would expect them to normally do. I think their results would be stellar – good sales, lower rents, a lot of unprofitable stores jettisoned, and ongoing benefits of rates relief. I dare say it will be profit; and will jolt the market, who have been used to continued losses at FCCN. There’s also the wait for a serious bid to be announced. On the other hand, there is a strong chance that the outlook will read “increased raw material costs and shipping costs” and next 6 months outlook will be cloudy. Hmm.

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What have I got my eyes on

I really do want to write this section, but as many of the shares I want to are small caps, and thus sensitive to small amount of buys, I am hesitant in mentioning them lest I drum up lots of investor interest before I have the chance to get my buy in. But I can mention a few larger, more liquid caps, where my writing has little chance of moving the share price.

Best Of The Best (LON:BOTB) – amply covered in the past month on Stocko already. Probably the most commented share in August. Which means there’s lots of “buy the dip” investors looking right now. So I’m going to wait. It looks like the key operational leverage in the business is advertising rates on the likes of FB and other social networks. Which I am familiar with, working in digital marketing for my day job.

Itv (LON:ITV) – I spent a good amount of time in August researching this, but decided not to proceed. I have a weakness for cheap valuations, and they are cheap. But I have learnt over the years not to buy something just because it is cheap; there also needs to be catalysts to re-rate, or growth opportunities. And for me, they do not have any big ones, just a few around the edges to appear to be doing something. AdVentures for example, and even Britbox; neither will deliver big shareholder returns, they could be considered distractions for management. ITV Studios might get a bid, but Amazon’s already done their shopping, and don’t think Netflix are in the hunt for a studio. Disney+ have internal studios already, and AppleTV… well, maybe Apple?

Rolls-royce Holdings (LON:RR.) I read a compelling argument that because Boeing and Airbus have stopped their development programmes, there’s less need for Rolls Royce to keep heavily investing in R&D on their engines. Which is true, and they have slashed R&D massively. In addition, they lose money when they sell an engine, and the profits come from the maintenance and servicing over the years after. Well, they are not selling any new engines now. Also not getting much servicing revenues too, as its all based on flying hours. No planes up in the skies, airlines don’t pay for servicing. Whoever thought up that pricing strategy at Rolls Royce has probably been fired. Anyways, planes are going to get back up in the skies over the next few years. Which means service revenues rolling in, but less losses from new engines, and much lower cost base and R&D expenses. I reckon they will be decently profitable. I have my target buy price set, and waiting for the Sep wobble, as Delta virus in the USA is causing Delta Airlines and others to turn gloomy on flying activity in Autumn.

Reckitt Benckiser (LON:RKT) Has gone on the watchlist. Not for Sep, maybe end of 2021, early 2022. Classic inflation play. Big brands will take a hit to margins at the start of rising inflation, but be able to pass on the costs and leverage their economies of scale. Pz Cussons (LON:PZC) is likely a loser, with its smaller, weaker brands, as well as huge exposure to emerging markets. People in emerging markets will forgo shampoo before they forgo food.

On The Beach (LON:OTB) hasn’t sold a single July & Aug holiday, and now selling Sep onwards. But the British public really isn’t interested in overseas holidays now given all the traffic light confusion. Winter is coming. I expect a disappointing next trading update. They have enough cash, but it will be further depleted. And it’s a long wait till Jan/Feb when they announce great forward bookings for 2022 summer. I like the company and think structurally they will emerge as a big winner in the holiday industry post-pandemic; just waiting for a cheaper price to get in at the shares.

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Appendix: current holdings

Small (0-4% of portfolio) , Medium (5-9% of portfolio), Large (10%+ of portfolio)