Outperforming the Market

Doing it the VP Capital Way

BY JOHN SO, PORTFOLIO MANAGER AND CO-FOUNDER AT VP CAPITAL

VP Capital Fund I delivered a +12.9% return for the
March quarter of 2021. This compares with the S&P/
All Ordinaries Accumulation Index which was up +3.6%
and the S&P/ASX Small Ordinaries Accumulation Index which was up +2.1%.

The March 2021 quarter saw a continued rotation away
from companies with high revenue multiples and low or non-existing earnings to more traditional sectors such as the banking and consumer sectors. In addition, a sustained recovery in China resulted in strong commodity prices throughout most of the period and as such, many mining companies experienced positive share price reratings. The market experienced heightened volatility in the second half of the quarter, as rising yields and falling bond prices challenged the central bank tagline that rates

will remain low over the medium-term to support a recovery coming out of covid-19. The Fund continues to
take a positive outlook on the equity markets and in select opportunities. However, it has recently made the decision to derisk its portfolio and sell out of some positions, partly to weather volatility and to look for better entry prices. The Fund believes a number of potentially deep-value investments remain in the portfolio, which the Fund is optimistic could result in positive tailwinds for this year.

In summary, since inception in 1 February 2018, the Fund has returned approximately +98% after fees and expenses in a little over 3 years.

Should you wish to discuss any of the above in detail, please contact admin@vpcapital.com.au

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Portfolio review

During the initial part of the March 2021 quarter, the Fund remained positively exposed to the technology and fintech sector, capturing what was probably the most recent ‘leg up’ in the last three months from these sectors. Positions the Fund held which contributed positively during the first month of the quarter included companies in the prolific buy-now-pay-later space – Zip and Sezzle – which at times traded at discounts to Afterpay following the latter’s substantial share price gains towards the end of 2020. In addition, the Fund also captured positive tailwinds from the results announcements of the likes of Hub-24 and Super Retail Group as it took positions ahead of reporting season.

Leading into the second half of the quarter, the Fund began disposing of some of its technology and fintech positions. This decision was further cemented by the fact that momentum moved quickly against these sectors as a result of rising bond yields globally and a view that long-term discount rates were increasing. As such, the Fund was mostly able to avoid some of the more recent volatility, including the market retreat at the end of the quarter following on from the Bill Hwang saga, which resulted in rapid share price depreciations in companies trading on expensive GMV or revenue multiples.

Recent volatility

The Fund takes note of a number of recent, interesting
developments in the markets that occurred during the
March 2021 quarter:
the January 2021 short squeeze on GameStop and
what appears to be an influx of retail investors;
the concurrent buoyant cryptocurrency market, with
Bitcoin achieving fresh highs during the quarter;
the recent market correction, especially within the
technology sector, as long-term bond rates traded up;
and
the more recent March 2021 Achegos Capital
Management saga which resulted in significant falls in
parts of the US markets, most notably ViacomCBS.

In its stead, the Fund increasingly built positions in consumer businesses, some of which helped substantiate the quarter’s returns. Positions in this space during the quarter included Adairs, Aristocrat Leisure, Collins Food Group, Event Hospitality and Management Group and Harvey Norman. In addition, the Fund also had a position in Cettire, which experienced a significant re-rating since its recent IPO. While Cettire is not a traditional consumer business (ie it is online), its growth vis-à-vis its relative valuation was too appealing to disregard, notwithstanding the Fund was cautious around companies with limited earnings and a predominantly technology angle.

A number of primary market opportunities also contributed to the Fund’s positive performance, such as Pentanet and TAO Commodities.

Lastly, the Fund maintains a positive view on commodities. These include positions (some of which were touched upon in previous quarterly reports) in IGO Group, Nickel Mines and Fenix Resources. The performance of some of these companies during the quarter has been more lacklustre than expected, partly driven by industry conditions (eg in the nickel space, Tsingshan announced it will soon supply nickel matte to Chinese battery producers, dampening market expectations of a supply shortage).

While each of these episodes were unrelated and driven
by different circumstances, it is apparent that the market
is unlikely to behave in the same way it did as the second
half of 2020. Specifically, volatility is expected to be
higher, driven by a combination of additional retail capital flowing into the various markets and heightened market sensitivity to the downside risks, as investors look beyond the pandemic and start factoring in the normalisation of interest rates, withdrawal of fiscal stimulus and the consequences of a significantly expanded public balance sheet as governments around the world addressed the challenges created by covid-19.

While the Fund remains of the view that there are several positive tailwinds – eg the rollout of the vaccination program, travel bubbles emerging, high savings rates and pent-up demand, low interest rates (at least for now) – the

Fund is also cautious about the markets and will adopt a
more selective approach to identifying opportunities. VP
Capital’s preferred option is to generally maintain some
degree of cash holdings and take profits sooner, as there
are likely to be better entry opportunities during volatile
periods.

Other opportunities

The Fund’s positions in private investments also remain positive. In particular, one opportunity which the Fund had invested into several quarters earlier in the online gaming space (and mentioned in previous quarterly reports) is now yielding substantial returns in the form of cash dividends. The estimated annual dividend yield on the Fund’s initial entry prices now exceed 100%, and the Fund has already recovered all its principal investment from dividends. As a result, the Fund has taken the decision to increase the valuation of this investment at prices the Fund understands where significant volume has transacted recently during the quarter.

A second private investment in the hydrogen electric vehicle space is expected to make a positive contribution in either the June 2021 quarter or September 2021 quarter. The opportunity, which the Fund invested into in 2020, has announced that it will be acquired by a Nasdaq-listed special purpose acquisition vehicle at an uplifted valuation several multiples of the Fund’s initial entry price (based on the special purpose acquisition company’s closing price at the end of the March quarter). The deal has been publicly announced and, barring unforeseen circumstances, is expected to be completed