The Fund returned -4.5% in the quarter ended 30 June 2022 (Q2-22), 3.2% behind the benchmark MSCI Emerging Markets Index (both returns in ZAR). This continuation of recent underperformance leaves the Fund 22.7% behind its benchmark over the last year, and 0.9% p.a. behind since inception in December 2007. This is well below what we believe the Fund should be returning, and we are mindful that it is materially below investor expectations too. It is important to note, however, that this underperformance has all been concentrated in the last 15 months (since March 2021) and that before this 15-month period of underperformance, the Fund had materially outperformed the benchmark by more than 1.9% p.a. over the almost 15 years since inception up until that point. We believe the drivers of this underperformance are largely short term in nature, and many of the stocks owned in the Fund are materially undervalued. In this regard, the weighted average upside to fair value in the Fund is currently over 100% (i.e. on average the shares in the Fund are worth double their current share price) and the five-year IRR (five-year earnings growth + annual dividend yield + derating/rerating) is 23% p.a..

The biggest positive contributor to performance in the period was the Fund’s largest holding, Naspers and Prosus (which we treat largely as a single exposure from a risk perspective). The position returned 37.5% in the quarter, contributing 2.4% positive outperformance. In previous quarters, Naspers/Prosus had detracted materially as they underperformed relative to Tencent, the asset that makes up three quarters of our NAV for Naspers/Prosus. At one point, the discount at which Naspers and Prosus traded just to the value of the 29% stake in Tencent had reached over 50% on an aggregate basis. This discount became the source of much frustration (both amongst management and shareholders), and our engagement with management and the board was accelerated in order to elicit some form of value unlock for investors. Previous attempts (such as the unbundling of MultiChoice in South Africa and the creation of Prosus in the Netherlands), whilst being steps in the right direction in our view, had largely been unsuccessful in stemming the tide of the widening discount.

In late June, Prosus announced measures to deal with the discount. Most significantly, they announced an ''open-ended multi-year share repurchase programme of Prosus and Naspers shares''. This is expected to enhance the NAV over time given the huge discount at which the two shares trade to their intrinsic value. Furthermore, the lockups on holding Tencent shares have been removed, with the consent of Tencent. This allows them to sell Tencent shares over time and use the proceeds to do Naspers and Prosus share repurchases. They have committed to do so in a rational and responsible manner such that sales are a small percentage of the daily Tencent trade volume. The immediate reaction of the market to these announcements was very positive and we expect that we are still in the early stages of value unlock, with more to come. For this reason, the position size has seen only small sales to offset the share price move and is now the largest position in the Fund. The Fund’s second largest holding JD.com returned 26.4%, contributing 1.7% of positive relative performance. JD.com remains materially undervalued and, in our view, is a long-term winner in the Chinese ecommerce space with the leading business model (complete fulfilment through their own warehouses and drivers, thus controlling the customer experience) and with margins well below normal and significant market share gain opportunities from Alibaba and other players. Wuliangye Yibin, China’s second largest baijiu (spirits) producer, returned 40.2% and contributed 0.6% of positive relative performance. The Fund’s (relative) underweight position in TSMC, the largest stock in the benchmark, added 0.3% after it returned -14% in the quarter, while NetEase’s 15% return added 0.2% relative return. Offsetting the above were a number of detractors, mainly within commodities and technology. The largest of these was Mercado Libre (2.6% of Fund), Latin America’s largest ecommerce operator, which almost halved and cost the Fund just over 1% of relative performance. AngloGold (a 2.7% position), which returned -29.8% in the period, cost just shy of 1% of relative performance. South Korea’s Naver returned -26.1% and cost 0.8%, while Brazilian fintech group PagSeguro and Anglo American each cost the Fund 0.7% of relative performance. We have retained the positions in all of the aforementioned stocks with upside to fair value being around 100% in most cases.

The sell-off presented us with the opportunity to increase the Fund’s exposure to those businesses that we believe will likely be long-term winners and whose share prices could potentially be multiples of current levels if they are successful. These loss-making long duration stocks now make up approximately 10% of the Fund and the larger holdings include Mercado Libre (Latin American ecommerce & fintech), Delivery Hero (largely Asia and Middle East food delivery), Coupang (Korean ecommerce) and SEA (SE Asia ecommerce and gaming). One year ago (at substantially higher prices and valuations), the Fund had only 3.5% collectively invested in these stocks (compared with 10% of the Fund today) and didn’t own Coupang or SEA at all due to valuation.

We remain committed to our investment philosophy and resolute in the application of our investment process during this time of opportunity, to restore the long-term alpha of the Fund for our valued investors.

The Fund returned -0.2% for the quarter (Q4-21), 4.6% behind the benchmark MSCI Emerging Markets Net Total Return Index, which returned +4.41% for the period. For the year as a whole, the Fund returned -7.5%, 13.3% behind the benchmark return of 5.7%. This has been the worst (relative) performance year for the Fund since its inception and we apologise to investors for this underperformance. Whilst a year like this is both unpleasant and uncomfortable, it is also not totally out of line with the Fund’s history: in 2018, the Fund was 12.5% behind the market (this was followed by 15.82% outperformance of the market in 2019). In turn, calendar year 2015’s 11.5% relative underperformance, was followed by two successive years of outperformance (2.8% p.a. and 2.1% p.a., respectively). Over three years, the Fund has now outperformed the market by 0.8% p.a., over five years it is 2.2% p.a. behind and outperformance since inception stands at 0.8% p.a.

The reasons behind the Fund’s sometimes uncomfortable swings in relative performance are multi-fold, with the biggest factors being the high active share, high off-benchmark exposure, a concentrated portfolio (rarely in excess of 100 stocks compared to a 1 600 stock benchmark), and the fact that, given our long-term (five year+ time horizon) valuation-driven approach, we are often invested in a number of companies that are disliked or out of favour. Examples of this today would include JD.com (and China internet more broadly), Magnit and AngloGold (all top 10 positions) as well as several others. Of the 20 largest stock detractors for 2021, two were stocks we don’t own that did well (Gazprom and Al Rajhi Bank) and a further two were stocks where our positions were smaller than the benchmark and the stocks did very well, costing us relative performance (Infosys and Taiwan Semiconductor Manufacturing Company. Of the remaining 16 stocks making up the largest 20 detractors, only two have been sold to zero (New Oriental Education and Turkish food retailer BIM). This further illustrates our belief that the long-term outlook for the stocks owned is very attractive.

For Q4-21, the biggest positive contributor to alpha was AngloGold, up 39% for a +55 basis points (bps) contribution to relative performance (stock returns in ZAR throughout unless otherwise specified). Naspers & Prosus contributed +51bps, whilst NetEase (Chinese gaming) contributed +43bps. The final two material positive contributors were Alibaba (Chinese e-commerce and an underweight of a stock that did poorly that is big in the benchmark) and LVMH (global luxury). These contributed a combined +62bps, split fairly evenly.

As one would expect in a very negative quarter, there were several material detractors.

Four of the top detractors were Brazilian stocks. PagSeguro (card acquisition and digital banking), the top detractor, returned -45% in the period and cost 74bps. Sendas, a Brazilian cash and carry retailer and overall the second largest food retailer in the country, was the second largest detractor. The stock returned -28% and cost 70bps of relative performance. XP Inc. (securities broking and wealth management) was the third largest detractor and fell 25% and cost 51bps. Stone (card payment acquisitions) was the next largest detractor, falling 49% and costing 49bps in relative performance. Finally, Yandex (Russian search, ride hailing and general tech) returned -18% and cost 43bps.

Ordinarily we would spend much more of this piece dissecting the drivers of the performance listed above; however, it is more useful to rather look at the year as a whole to understand why the Fund underperformed by such a significant margin. Whilst in summary it was simply a year of poor stock selection, one can break down the drivers of underperformance in 2021 into five categories that all played a role.

1. China education: The single biggest impact on relative performance came from the Chinese tutoring/education stocks. These cost the Fund around - 3.2% of relative performance, mostly concentrated in New Oriental Education (EDU). The key driver here was the government effectively converting the industry into 'not for profit'. This massive regulatory change was unprecedented and more far reaching than we had anticipated.

2. China Internet: This sector cost the Fund around -1.0% of performance taking into account the performance of the stocks held in this sector (which mostly did poorly) and the stocks not held or underweight (which boosted performance). The Fund has around 24% exposure either directly or indirectly (via a fair share of Naspers & Prosus) to China Internet, reflecting our conviction on the potential opportunity in several names in this sector.

3. Country weights: The Fund has nothing in Saudi Arabia, a market that was up 36% (in dollars). The Fund also has less in India and Taiwan relative to their benchmark weights as we saw better opportunities elsewhere from a bottom-up perspective. Unfortunately, these markets did very well (up +/- 25% in dollars in 2021) and this cost the Fund relative performance. Some of the stocks we held in India also did not perform as well as the Indian market as a whole, which further exacerbated the underweight. The combined impact of Saudi Arabia, India and Taiwan on the Fund was -5%.

4. Stocks not owned: The Fund holds less stocks through the cycle compared to a benchmark of over 1 550 stocks. This concentration vs the dilute benchmark is a deliberate part of our process of selecting the best investment opportunities on a risk-adjusted basis within our investment universe. Generally, the stocks we don’t own have no material negative impact on performance; often the impact is positive as the bulk of the benchmark does poorly. In 2021, however, these zero weights cost the Fund over 3%. This is an abnormally large amount and proved a difficult headwind to overcome.

5. Low cyclical sector exposure: Cyclical industries like energy, basic materials, industrials and banks did relatively well in 2021. We typically do not have as much exposure to these stocks relative to their weight in the investment universe as we have a preference for less cyclical assets/''better'' businesses. The overall impact on relative performance from having a lot less cyclical exposure was an additional -2% (approximately).

Portfolio activity

There were several new buys in the quarter, with the largest new buy being Petrobras (1.5% of Fund at year end), the Brazilian oil and gas group that trades on 4x free cash flow and offers an extremely attractive 20%+ dividend yield. This very attractive valuation provides some comfort in the event the left-wing former president Lula da Silva returns to power in elections later this year.

The Fund also purchased a 0.9% position in Taiwan-based MediaTek, a well-diversified fabless (design chips but outsource production) semiconductor company. Revenue at MediaTek has grown 19% p.a. cumulatively over last 10 years, in the process making it the fourth largest in the world and largest mobile chip system vendor by volume, overtaking Qualcomm. MediaTek has navigated the evolution of demand for its products very well, with management having steered the company through multiple product transitions from optical disk drivers to TVs, feature phones, smartphones, and others. MediaTek trades on 15x forward earnings and generates ROEs of 25%. With FCF conversion of over 100%, it also offers an attractive 6% dividend yield.

Sales to zero included Barrick Gold, Prudential PLC and Turkish food retailer BIM. In the case of BIM, we took the view that the combination of unpredictable policymaking, a free-falling currency and potential food price caps undermined the conviction in the long-term earnings power of the business to a degree that could not support the continued investment in the company.