1) The document discusses the case for actively managed equity funds over index funds, noting that while index funds have lower fees, they guarantee underperformance versus the benchmark. It also notes that while industry statistics show most active managers underperforming, choosing the right manager who can remain nimble is key. 2) The document provides an outlook on global markets, noting recent weakness in growth data, a weaker dollar, and fluctuating commodity prices. It analyses relative valuations between markets like South Africa which appear expensive versus bonds, and other regions. 3) The author expresses a cautious outlook, remaining skeptical of resources given Chinese growth, trimming overvalued industrial and financial holdings, and holding higher than usual cash balances

1. The case for managed equities +
market outlook
Sean Ashton
June 2015
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2. Who is Anchor Capital?
• Part of listed Anchor Group (>R1.3bn market cap)
• SA’s fastest growing asset manager
• Over R11bn of assets
• 6 year-old asset management and broking business
• FSB-registered Cat II FSP
• Local and offshore equity investment
• Offices in Sandton, Durban, Irene, Cape Town, London
• 50 degreed staff (7 CA(SA)’s, 12 CFA’s/CFA candidates)
• 41 in Anchor Capital
• 9 in Anchor Securities
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3. Our ducks are in a row
• Listed company
• World-class investment team
• Global investment process
• 3-year track record
• Top performance
• Attracting industry leaders
• Funds gaining critical mass

4. The
Anchor
Team
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5. • Grown assets by 155% in 2014 (R4.4bn) to R11bn
• Grown from number 150 to +/- number 25 asset manager in SA in 2 years
• NB: still a minnow compared to the giants

6. The case for actively managed share portfolios / funds:
1. You can’t invest in the benchmark: while index funds are cheaper, TERs are surprisingly
high in SA . Index funds are also guaranteed to underperform their benchmark. TER on
Satrix ALSI = 94bps

7. The case for actively managed share portfolios / funds:
2. With index funds, you get everything – the good with the bad. Very few investors would
logically construct portfolios in this manner.
3. Although industry stats are not great, active management can outperform – but
choosing the right manager is key!
o Mean of top quartile of funds outperformed SWIX after all fees over 10 years.
o Skill is very important – obviously tricky to assess objectively over shorter time periods
o Size is probably as important – the larger asset managers have effectively become high
cost index funds
o An inescapable fact is that a great manager’s edge is reduced at very large AUM levels –
need to remain nimble!

8. 2 years to end May 2015 (General Equity) 10 years to end May 2015
 Very little persistence: only 2 funds that form top 15 over 2 years also did it over 10 years
 Over 10 years, only 8 out of 74 general equity funds in existence over that time outperformed the SWIX (89%
underperformed). Similarly bad over 2 years: 34 of 160 funds outperformed (79% underperformance)
 Size bias emerging: ALL of today’s very large managers who were top 15 over 10 years no longer appear in
that list over 2 years. Foord still performing admirably, however.
Conclusion: it is important to have exposure to smart, active managers who still have the flexibility of smaller
size on their side.
It’s a minefield out there and the stats are not great

9. Investable universe – 5% portfolio weight

10. Trade requirements

11. What happens when you become too big? Investments that
don’t count

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Investment structure - Pros and Cons: segregated managed
accounts vs unitised funds
Segregated portfolios – the backbone of Anchor’s current offering
Pros:
• Ability to tailor to specific client circumstances – eg income yield
• Lack of flow influence on performance – can be good or bad!
Cons:
• Tax consequences of repositioning and resulting lack of flexibility
• The ever-present challenge of fair allocation
Unit trusts – small, but rapidly growing part of Anchor’s business
Pros:
• Typically the best look into a managers’ skill – “shop window”
• Ease of diversification / repositioning without CGT implications
Cons:
• One-size-fits-all doesn’t necessarily make sense for all investors
• Flow influence on every investor’s performance

13. Unit trust suite
• Anchor BCI Equity
• Anchor BCI SA Equity
• Anchor BCI Managed
• Anchor BCI Worldwide Flexible
• Anchor Flexible Fund

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Anchor BCI equity fund – stellar performance since
inception Since inception
Year to date

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 Lower interest rates and yields for longer; inflation low.
 Strong dollar
 Weak commodity prices – demand (slowing Chinese investment growth) and supply
led (Aussie iron ore)
 Growth stock bias
Market outlook: The consensus has been…
Recently, we have witnesses some dislocations
 Patchy / weak growth data in the USA
 Weaker dollar vs Euro
 Commodity prices picked up into early/mid May; subsequent relapse.
 Highly rated growth stocks running out of steam

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German government bonds recently experienced one of the sharpest
increases in yields (in %) in history

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The German yield curve has steepened materially, but term premium
remains well below historical average – suggests more to come at
long end if inflation expectations rise

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WHY?
1. Mario Draghi’s recent ECB address seemed to indicate a possible
willingness to not extend QE beyond Sep 2016 (this was the
market’s assumption)
2. Recent German CPI inflation data was in line with expectations (ie
not lower)
3. USA GDP data for Q1-2015 was disappointing: 0.2% vs 1.0%
predicted
All of the above have been USD-negative

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The impact of money flows: Chinese foreign reserves are now
shrinking (export weakness?) and they have been big buyers of
government bonds – particularly US Treasuries
China foreign exchange reserves y-o-y % ch China holdings of US Treasuries
Source: Bloomberg

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As bonds sell off, the discount rate for equities goes up – this is
negative for valuations….
….but it appears to us that global equities offer a reasonable premium
to bonds, providing some valuation cushion

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Conversely, the picture for SA equities is quite different: the JSE SWIX
index appears expensive relative to bonds, which in turn could have
some downside risk
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-4
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4
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May-05 May-06 May-07 May-08 May-09 May-10 May-11 May-12 May-13 May-14
Spread SA 10 year yield SWIX EY %
Bond yields have begun to
tick up, in sympathy with
global peers…
…while equity yields in turn
look low relative to bonds

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JSE valuations – in most cases, on the high side…

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…while Resources are pricey due to depressed earnings bases

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The most important “China-centric” commodity is still well-supplied
China consumed 64% of the world’s iron ore
imports in 2013, but is slowing rapidly
Australia is likely to supply 325mt more
ore by 2020, while Chinese demand
would likely only have grown by 230mt
Source: Macquarie Research

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Property: still looking expensive despite the sell-off; wait
for valuation-driven opportunities
Property vs bonds JSAPY index – 12% off highs

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The key debates flowing from the above:
1. Is European QE going to be short-lived? We don’t think so – they
have only just begun and the US printed money for 5 years.
Europe’s structural issues are more severe than the US (lack of
policy coordination, demographics / immigration)
2. Will Europe’s economy improve at a faster rate than the United
States? Possibly, but still off a very low base
3. Does the weight of money flow count for more than physical
supply/demand fundamentals in respect of the direction of
commodity prices now? Quite possibly, but perhaps for a short
time period. Implication: resources could enjoy a technical bout
of strength, but we think remain structurally challenged

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Current positioning:
 We remain sceptical of the resources story – China’s growth model
isn’t about to reverse course and most commodity prices need to be
much higher for the sector to offer value
 We have been selectively trimming back exposure in the industrial
/ financial space. Typically valuation driven (ie. where highly rated
growth stocks have just become too highly rated, or EPS has
disappointed) eg. Mediclinic, PSG.
 Retain / add to niche exposure – eg Transaction Capital, Peregrine.
Discovery and Investec looking like good value now.
 Higher than usual cash balances
 Stock picking set to become even more important than before!

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