Posts tagged: KNG International Advisors

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Underappreciated Ideas: African Superpower

16/01/2023

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Tuesday 16th of January 2023

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Introduction to a series of underappreciated ideas by Dominion Capital Strategies:

This year, we’ll be running a series of episodes on what we think are underappreciated narratives, ideas which should be mainstream in modern economic and investment thinking but which are rarely talked about. Underappreciated ideas can offer interesting long-term investment opportunities and so are important to think about.

For this episode, we want to take you 30 years into the future. The year is 2053, and we are in a metropolis of 40 million people, a cultural and economic centre for the world’s third biggest economy, an economic giant with a population of 800 million and the centre of a regional economy with a population closer to 1.3 billion. We are in Lagos, the largest city in Nigeria, and we’re witnessing the outcome of the next great miracle in the modern global economy’s story.

Capitalism and industrialisation can change things so quickly, it’s hard to remember what the world looked like in the recent past. It is easy to forget that the great economies of East Asia (Japan, China, South Korea) were, not that long ago, low income countries with small economies and widespread poverty. China was an economic minnow in the 1990s. In 1993 China’s GDP per capita was lower than that of Uganda. Twenty years later it’s an economic superpower and a viable challenger to the United States as the world’s largest economy.

Most people’s careers last 45-50 years, followed by retirements of 15-20 years in many cases. This is an investment period for the average investor of 60-70 years. If China can rise from economic obscurity to economic superpower in just 20 years, it’s not fanciful but actually quite practical to be thinking now… who’s next, and can we invest in that story!

Nigeria’s GDP (economic output) has increased 6.3x since 2001, its GDP per capita 4x. And we are seeing a similar economic miracle play out across much of West and East Africa too.

Nigeria is emblematic of the wider opportunity from economic development in Africa. West Africa, and much of East and Southern Africa, is (on average) culturally diverse, with relatively open societies, developing democracies, and legal systems much more closely aligned with European or American systems. In the long-term these are powerful ingredients for economic success.

America’s early democracy, political, and economic development were not a smooth ride! It was a bloody and volatile road to becoming the modern economic and cultural giant the United States of America is today. Many would have laughed at the idea if, in mid-19th century London or Paris, you had suggested that America would dominate the planet within a century. Similarly you may have even been mocked (as your author and narrator once was, literally), for suggesting in the late 1990s that China would become a superpower on par with America within 20 years.

To suggest that this story is over, that China was the last new economic superpower rising from obscurity, doesn’t hold water.

We are already seeing India fast become the new kid on the superpower block, and we think it’s wise to think 15-20 years ahead to who will be next. West Africa is a strong candidate.

What does a story like this mean for investors today? It means thinking about investment allocations for the long-term that take into account what the world could look like. Assuming the poor stay poor has been a terrible bet over the past 200 years. Emerging markets across the world, currently thought of as destinations for aid spending or maybe an ‘adventurous holiday’ by many in the West today, are the economic giants of tomorrow and will be sooner than you think.

What’s more, we as investors can get in at the ground floor on many of these opportunities, via investments in Funds with exposures to these markets or mandates with the flexibility to allocate to emerging long-term trends like these.

Extrapolating the present into the future rarely works. We’re extremely excited about the future and, what’s more, we’re especially excited about future structural trends which are not well appreciated… because that usually means they are under-priced!

Sources: Bloomberg, Yahoo Finance, Marketwatch, MSCI.

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Be greedy when others are fearful

10/01/2023

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Tuesday 10th of Jan 2023

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The first financial report brought to us by Dominion Capital Strategies

It may be difficult to remember, but at the beginning of last year global financial markets were in a bullish mood. Equity markets and bond markets were close to all-time highs. Real estate, private equity, these asset classes too were trading on valuations at or close to their highest levels in history.

Then came a series of negative surprises through the year: continued rises in inflation to the highest levels in four decades, war in Ukraine, an energy price spike (most notably in Europe), COVID lockdowns in China.

When optimistic expectations (reflected at the start of last year as high asset valuations) met a series of unexpected negative events, asset prices declined and volatility increased. This process reflected the mis-match between what the market thought was going to happen vs. what actually happened. That was the story of last year, a bear market for stocks and bonds, as asset prices started off too high relative to what actually then transpired in the real world.

When we look at the starting point for investors this year, it’s a very different story. Expectations have been reset much lower over the past year (reflected in asset markets by lower valuation levels today).

Inflation is known to be high and is actually now falling in many parts of the world. Energy prices have declined from their peaks last year. Energy costs in Europe are coming down. China is reversing its COVID lockdown policies and re-opening its economy.

Could 2023 end up being defined as having started with pessimistic market sentiment (reflected in lower asset valuations) which then met a reality that was better than expected. The polar opposite of 2022. Lower asset valuations meeting better than expected outcomes, all else equal, results in prices of assets rising.

The balance of expectations and valuations at the start of this year is much more in our favour as investors than was the case at the start of last year. Market expectations today are much less optimistic than they were this time last year.

The lower your starting valuations for assets, the smaller the price declines will be from each incremental negative surprise, and vice versa, the higher the price rise will be from each new incremental positive surprise.

If your starting position is one where market sentiment is overly pessimistic, this increases the probability of positive surprises.

Identifying a moment of overly pessimistic sentiment in markets correctly can therefore be very rewarding for an investor willing to commit to buying assets and thus benefitting from subsequent price rises as those positive surprises roll in.

This begs the question: Are we there yet? Is market sentiment today overly pessimistic, thus creating the opportunity to buy assets and benefit from the asymmetry in positive vs. negative surprises to expectations?

For markets as a whole, we would argue: not yet. We continue to think we could see tests of new lows for stocks in the first half of 2023.

But in some sectors, asset classes, and individual stocks, we are there now. In those specific cases, valuations and sentiment are too pessimistic and offer the opportunity to take the other side as an investor.

This means now is the time to be buying those assets, and to continue buying through 2023. We think some areas of the commodity sector, especially those linked to climate change mitigation, offer such opportunities. Emerging market value is another one.

We have been cautiously but steadily buying into specific sectors and stocks we see as offering this opportunity, the opportunity to, as Warren Buffett puts is, be greedy when others ae fearful.

Sources: Bloomberg, Yahoo Finance, Marketwatch, MSCI.

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Whatever You Do in 2023…. Don’t Blow Up!

13/12/2022

News

Tuesday 13th of December 2022

This hasn't been an easy year...

This year has been a tough one for investors. Both bonds and equities have seen major price declines, in fact a combined stock and bond portfolio has, on average, suffered its worst year for performance in close to a century. Inflation has hit its highest levels in 40 years, while interest rates have been raised in many developed markets at their fastest pace ever. This begs the question: what can we expect in 2023?

Next week we’ll use our final episode of this year to discuss the buying side of the equation, in other words, what assets, sectors, and the timing of such buys, do we think make sense next year given the current economic and geopolitical outlook. This week, however, we think it wise to remind investors of the critical importance of the decision of what not to buy, and how to think about risk management for portfolios.

Avoiding certain risks is fundamental to successful long-term investing, just as much as investing in the right assets is core to investment success. What you don’t buy, is just as important as what you do buy. This year has taught that lesson in a harsh way to many fund managers and retail investors alike.

Trying to predict outcomes in 2023 of the war in Ukraine, inflation levels, interest rates, or economic outcomes, is a fool’s errand. No person or institution has any special insight into predicting the unpredictable. But we can identify a broader direction of travel for certainty itself, in that there is, undoubtedly, much less of it. We also know from previous cycles of war, pandemic, and subsequent inflation (we have been here before), that periods of volatility and uncertainty can last a long time. Inflationary cycles of the past have rarely lasted just 1 to 2 years but have typically resulted in 5 to 10 year cycles of volatile price levels.

We can't predict anything, but...

Although we cannot predict with any accuracy specifics on what 2023 will look like for the economy, we can say, therefore, with some confidence that it will probably look more like 2022 (continued uncertainty, volatile economy and inflation) than it will look like, for example, 2015 (stable positive economic growth, low inflation and interest rates).

This means the investment environment is likely to continue to favour what worked in 2022 (more on that next week!), and most importantly for this week’s episode, next year will likely continue to punish those investments and risk allocations which have recently fallen out of favour.

A prudent approach to risk taking and risk avoidance for 2023 is to avoid the risk of a catastrophic loss. In other words, whatever you do don’t blow up.

Already this year some major investment funds have done just that, delivering negative performance which they are unlikely to recover from for some time. By July of this year Tiger Global, one of the star hedge funds of the last few years of the stock bull market, was down by 50%. Remember hedge funds are meant to be lower volatility and ‘hedge’ risk. If any asset falls by 50%, to get back to its previous highs it needs to double, in other words you need a subsequent 100% return just to break even on an investment made at the last high.

ARK Innovation Fund ETF, another favourite for investors in 2020 and 2021, its fund manager regularly appearing on Bloomberg and CNBC in 2020 and 2021, and lauded almost as a guru for the investing world, started to see major declines in price last year, accelerating this year into a major decline. Peak-to-trough since January 2021 that fund has lost 75% of its value. To recover that loss and just to return to the level the fund was valued at last year, the Fund from today would need to generate a +300% return.

In both cases, it is unlikely that such abnormally high returns can be achieved. Investors who suffer such losses will have to write them off for permanent capital losses that they will not be able to recover in the future. Avoiding such losses in the first place is the way to go.

There are many more examples of funds, and unfortunately individual investors, who in 2021 and 2022 took the wrong type of risk and exposed themselves to potentially catastrophic losses like the examples above. Avoiding such an outcome is absolutely vital.

A fall during a bear market in investments of 10%, 20%, even 30%, does not require a subsequent miracle to return investments to previous highs. These results are within the normal ranges for a bear market and are likely to rebound quickly on any subsequent rally. A 50% loss, or a 75% loss, is a different story, and requires future returns that will likely never materialize.

Furthermore, this bear market is not necessarily over, and further declines could occur for certain riskier assets and positions.

Our risk management advice to investors going into 2023 is first and foremost to think carefully about the risk to which any portfolio is exposed. It is not, at all, a call for liquidity and the abandonment of existing investments; We strongly believe that today there are many attractive investment opportunities for investors trading at attractive valuations. However, we continue to believe that the risk of further bouts of volatility and continued uncertainty in 2023 warrants a prudent outlook, which, from a portfolio allocation point of view, means making sure that, come what may, that happens, there is no explosion. Let's leave the speculation to the speculators. This year and next, what matters more than in a decade is the valuation!
Dominion Capital Strategies

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Bear market update: The end of the beginning

05/12/2022

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Monday 5th of December 2022

We’re now close to 12 months into this current bear market cycle, arguably longer if you count the start of this cycle as when technology stocks started to correct (remember that was all the way back in mid-2021). This is probably a good point to reflect on the current bear market cycle and try to put it into perspective.
The question every investor is understandably asking themselves is: when will this bear market cycle end?

Looking at previous bear market cycles in financial markets is helpful here. There have been twelve major down trending market cycles since the end of the Second World War. Taking a simple mean average of the peak-to-trough declines in those bear markets, we find that the average cycle saw a 33% drop in major stock indexes. We also find that the average length of the cycle was 12 months.

Peak to trough the S&P 500 Index has seen a decline this year of 25%. The Nasdaq Index more than 35%.

We’re definitely not in a position to call the end of this current bear market cycle simply because its now older and as deep as the average bear market. But, and this is an important ‘but’, we can say with confidence that, to quote Winston Churchill, ‘… it is perhaps, the end of the beginning.’

We are seeing areas of the market and specific stocks where valuations are now much more attractive. In fact in some cases there are quality assets trading at their lowest valuations in history. However these remain the exception rather than the rule. This leads us to remain somewhat cautious on the short-term volatility and direction of markets. The current bounce in markets is likely another bear market rally and we could see further tests of lows in the new year.

Despite this less sanguine view for the short-term, we remain bullish on the long-term outlook for high quality businesses trading on now much more reasonable valuations. We continue to favor a targeted strategy of averaging in to these investments, rather than attempting to time the bottom of the current market cycle. There will likely be further opportunities into the end of this year and 2023 to add to equities on possible new lows.

The good news for long-term investors is that, so long as the entry price is attractive and quality of the assets being bought are high, short-term volatility and potential new lows in markets simply offer even better opportunities to add more to these favored investments.

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Bubbles Bursting (Slowly): Bitcoin, Crypto, Tesla and More

29/11/2022

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Tuesday 29th of March 2022

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Update on market valuations ...

This week we offer an update on our thoughts around market valuations, risks, and most importantly, areas of speculation in financial markets which we still think look like bubbles.

On a series of webinars we hosted last year, we made the point then that investors needed to be wary of multiple speculative investment bubbles that could burst. We saw highly speculative price movements and valuations in asset classes (if you can call them an asset class) like crypto currencies. In the stock market, there were many businesses with valuations that honestly made no sense to us.

Tesla

Tesla, for example, was trading on a valuation of $1.1 trillion, which was greater than the value of every other car company on the planet combined. To put $1.1 trillion into context, the annual Gross Domestic Product of the Netherlands is less than $1 trillion (a G20 economy).

Bitcoin

Bitcoin and other cryptos, we were promised by their backers, were on the cusp of reaching record highs and changing the world, displacing fiat currencies like the old fashioned US dollar, euro, pound sterling and Japanese yen. Prominent evangelists like Sam Bankman-Fried, founder of crypto exchange FTX, sat on panels alongside Bill Clinton and Tony Blair, his face even ending up on the front cover of Forbes and Fortune magazine.

Companies with poor business models and little else other than bullish forecasts commanded outrageous valuations. Zillow Group, a US-listed business that bought homes and then re-sold them online (garnering it the much desired label as a ‘tech’ company) commanded a peak market valuation of $41 billion despite consistently generating negative profits.

Another electric car company cunningly named Nikola (a la, Nikola Tesla) had a peak valuation of $29 billion last year, despite having no working prototype of an electric vehicle and publicly publishing videos of what looked like a working prototype but was actually a model vehicle being rolled down a hill. I’ll just repeat the valuation, $29 billion. To put that into context, one of the world’s largest defence contractors, (the UK’s biggest), owner of some of the most advanced intellectual property anywhere, BAE Systems, currently has a market valuation of $29 billion (and it generated $2 billion of profits last year).

Which would you rather own now?

The aforementioned eye-watering valuations, and many, many more, of last year could not last and these multi-bubbles have been bursting. Some quickly, others more slowly. Tesla stock is down 55% from peaks last year. Bitcoin is down 60% so far this year alone, and is down 71% from peak last year. Other cryptos have fallen 100%, literally losing all their value, while some related businesses (investment funds and exchanges) have filed for bankruptcy. Sam Bankman-Fried is now allegedly on the run following the collapse of his business and allegations of fraud, his location currently unknown and the topic of speculation in the press.

Nikola’s share price, down 96% from peaks last year. Zillow is down 82% over the same period.

Investors must, however, remain very cautious. There is a joke among professional investors that goes something like this: ‘what do you call a stock that’s down 90%? It’s a stock that was down 80%, then it fell another 50%.’

The math of the joke is simple. Take a stock starting at a price of 100, it falls 80%, so the new price is 20. Then it falls another 50% from there down to 10. That is a start to finish fall of 90%. The moral here is that just because an asset has seen a big fall in price, it can still fall a lot more!

Investors must be very cautious, given the big falls we have seen in speculative bubble assets over the past year, not to fall into the trap of thinking they now offer good value at these lower prices.
Dominion Capital Strategies

Bitcoin can still fall 100% from current prices. We remain highly sceptical of all cryptos and see much danger still lurking in that space for investors. Similarly, while some stocks have lost most of their values and rightly so relative to where they were trading last year, others still exhibit speculative excess in valuations, even after the big declines we have seen. Tesla, for example, with a current market value of $590 billion, remains a risky prospect, as do many other stocks.

Some bubbles burst quickly, others more slowly. We think there’s more to come on the downside for the likes of bitcoin, et al.

Dominion Capital Strategies continue to see much better value elsewhere, and that’s where we’re investing.

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How to Invest for the Long-Term (Part 5): Investing in Health & Wellness

21/11/2022

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Monday 21st of November 2022

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Summing up what we wrote last week...

Last week, as part of our ongoing series on long-term investing, we introduced the idea of ‘going up the value chain’.

To summarise: we think investors who want exposure to long-term growth themes in the global economy, like climate change mitigation or artificial intelligence, should beware of investing in the more obvious front-line businesses exposed to that particular trend, which can often be overcrowded and so over-valued. Typically, the least crowded and most interesting investment opportunities when investing in structural growth trends are discovered by mapping out and searching for investments within the broader value chain for the relevant industries. This process of building out a universe of businesses with differing exposures to the same trend can uncover diverse and appealing long-term investment opportunities at much more attractive valuations.

This week...

We can apply this methodology to an investment theme which touches all of our lives, quite literally. Human health and wellbeing is undoubtedly one of the most important of the investment trends we research at Dominion. There really is nothing more important than the health and happiness of our friends, family, and fellow humans around the world. This is also a trend of extraordinary magnitude, with many sub-trends converging to create a global mega-trend which is transforming billions of lives.

New and emerging medical technologies to treat disease, ageing populations, emerging markets and increasing global wealth, changing cultural attitudes towards wellness and mental health, the utilisation of existing technologies to improve quality of life. All of these seismic changes in the world are happening at the same time and translate into a structural investment trend that investors can gain exposure to: that of people around the world living, on average, longer, healthier and more meaningful lives

As investors we can be part of the solutions to many of the problems standing in the way of all humans living long, healthy and fulfilling lives. When you buy shares in a business that is, for example, offering genetic testing services to help detect and treat cancer, or a company engaged in early stage research to discover new drugs to treat dementia, you as an investor are supporting that business via your capital allocation decisions, effectively providing the capital base for those companies to continue investing in their services and technologies. As capital allocators we really can change the world in a positive way by allocating investments to businesses facilitating change.

Mapping out the value chain in the global health and wellness trend is especially interesting since we are, by the very nature of this trend, having to look at everything from frontier technology in genetic medicine, to businesses involved in looking after the health of pets (a healthy dog makes its owner much happier!). Robotics companies researching and developing ways for people with disabilities to be able to walk again, businesses who provide the services to correct eye-sight problems, suppliers of high quality services to care for the elderly, education providers training the next generation of doctors and nurses, even the manufacturers of the components used in vaccine production. The value chains we can gain exposure to by digging deeper into the theme of human health and wellness is incredible in its scope and breadth.

As people live longer, their need to access healthcare and wellness services increases. As populations live longer, the trend of ‘ageing populations’ supports structurally rising demand for related healthcare products and all of the services that make up the wider value chain already discussed. This is a powerful and predictable driver of an investment trend, and it is self-reinforcing too. As current and emerging technologies help people live longer and healthier lives, it prolongs their lives and thus increases future demand for health and wellness. This positive feedback loop is a powerful driver, if investors can gain exposure to it, for compounding returns on investment over the long-term.

Having some portfolio exposure to this theme also offers an additional risk mitigation benefit. The demand for health and wellness has a low income elasticity of demand and is often subsidised by governments. This means that during periods of macro-economic uncertainty, as we are currently very much living through, the demand for healthcare and related products and services is often largely unaffected. If someone is diagnosed with an illness, they are going to seek out the best treatment they can find and it will increasingly often be an insurance company or government paying, and so the relevant service or treatment remains in demand, whatever the economy may or may not be doing at that moment in time.

It therefore makes a lot of sense for investors to look at their portfolios and ask themselves: am I appropriately exposed in this trend? Given the ongoing uncertainty for the global economy going into 2023, it may even make sense for investors to ask themselves: should I make exposure to this trend a core investment position for my portfolio over the next 12-24 months, not just to gain exposure to one of the most exciting growth themes out there, but to also help my portfolio weather a volatile and uncertain outlook for the global economy.

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Let’s Talk Long-Term (Part 4): Going Up The Value Chain!

15/11/2022

News

Martes 15 de Noviembre del 2022

Investment mistakes

When selecting investments exposed to major growth themes in the economy, one of the mistakes investors make, even many professional ones, is to invest in the most well-known or direct exposures they can find.

For example, by far the most popular way to invest in the electric car revolution over the past five years has been to own Tesla stock, the electric car company pretty much everyone knows. Another example is in climate change mitigation, where renewable energy companies like solar panel manufacturers have been very popular places to invest.

But what's the problem?

The problem with this is twofold: first, it means that the limited number of these investments can become so popular that their share prices rise out of proportion to the quality of the company, and so become overvalued. An overvalued investment is typically going to offer lower long-term investment returns, as investors its our job to find under-valued investments. Second, investing in these more crowded ideas limits the opportunity set for us. Often there are not that many pure-play electric car companies, or wind turbine manufacturers, for example, and so with a limited opportunity set it is difficult to diversify our investments.

How to use the chain to our favour...

A way around this is to do something we at Dominion call, ‘going up the value chain’. In any industry there will be what is known as a ‘value chain’. This is the chain of services and products that supply into an end product. Each stage in the value chain will often be an entire industry in its own right. Let’s use one of our aforementioned examples.

Tesla is a well-known, and quite crowded, way to invest directly in the electric car trend. But Tesla is supplied by many companies who manufacture or own the designs to complex components like battery packs, sensors, even interior products like seats. Then there are the automated robotic systems in Tesla’s factories, then there is the software that those factories run on.

Already we have touched on half-a-dozen separate industries which facilitate the manufacture of electric cars, and in each there are companies we can invest in. If Tesla sells more electric cars, it also demands more of these second-order products, services, and software to produce more of those cars, and so we can still play the same trend, but in a smarter way by going back up the value chain.

Here are some examples:

And we do not have to stop there. Again, continuing our example, we can go back up another step of the value chain. Who supplies the component manufacturers and software suppliers, who themselves supply Tesla and other electric car companies? In this case, there is another set of suppliers who produce, for example, the brushless electric motors that go into the car seat, or who code the software that automotive component suppliers use to design their products.

Again we can invest in these third-order players who still have exposure to growth in electric car demand.
Dominion Capital Strategies

This process can be continued until eventually we reach the other end of the supply chain. In the case of electric cars, this brings us to mines. Literally the mine face of a copper mine, this is where the process starts in the production of an electric car, at the rock face of a mine in Peru, or Indonesia, perhaps Chile, or Mongolia.

The metals we need to produce complex products like an electric car, or a solar panel, or an iPhone for that matter, are primarily produced from mining operations digging this stuff out of the ground and processing it to produce metals like copper, cobalt, nickel, and steel, without which none of the long-term investment trends we and anyone else invests in would be made possible.

In the case of some trends, like electric cars, the input materials like copper and cobalt make up a significant proportion of the cost of production. This means that even at the opposite end of the value chain for their supply, the increase in demand for the end product (electric cars) will also increase demand substantially for the primary product (copper, cobalt).

Then, how do we invest effectively?

This means we can effectively invest in the trend at any stage of the value chain, from car production, to component supply, software services, to mines producing the primary metals. This opens up a much broader array of opportunities in which to take advantage of the trend, and critically also means we have a better chance of finding a means to invest which is less crowded and offers a lower entry-point valuation for us as investors, thus improving our investment returns outlook.

This way of thinking can be repeated across any major investment theme in the global economy. For example, in artificial intelligence or cloud computing, the upfront providers of these complex systems are often big tech names like Alphabet (owner of Google), or Microsoft, and these are fine companies to be sure. We would not turn our noses up at owning them. But once again, we can go back up the value chain.

What infrastructure and components do Alphabet, Microsoft, et al., need to run these cloud and artificial intelligence systems? What about the software needed to design and produce those components? There is an entire universe of businesses doing just those things, critical suppliers to the cloud computing giants, owners of the technologies that power the computers running artificial intelligence algorithms. Once again, by thinking about going up the value chain, we open up a much broader opportunity set for us as investors to play the same trend, but in a much smarter way.
Dominion Capital Strategies

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Let’s Talk Long-Term (Part 3): Software that Saves Lives

08/11/2022

News

Monday 8th of November 2022

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Summing up what we wrote last week...

Last week we identified four primary characteristics we think are critical when deciding which trends to invest in for the long-term.

As a reminder these were: (i) the scale of the change (i.e., you want the trend and its implications to be as big as possible), (ii) the breadth of the trend (ideally there are multiple angles from which to play the theme), (iii) predictability (the more conviction we can have in the expected outcome, the better), and (iv) valuation (current valuation levels for companies exposed to the trend should be attractive).

This week, we’ll give an example which matches these criteria but also expands further on them. It’s important for long-term investors to remember that you do not need an investment trend to necessarily be driven by revolutionary new technology or, in the case of last week’s episode, literal change in the earth’s climate. Sometimes it can be the application of existing technologies in new and innovative ways that can create a significant enough change in the world to match our strict criteria for long-term investing.

Software is nothing new...

It is the code that tells computer systems what to do. Mathematicians, starting with Ada Lovelace in the 19th century, wrote software for computers before computers had even been built, they did this in anticipation of their creation.

A new development in recent years, though, is cloud-based software offered as an ongoing service to users, known as SaaS (software-as-a-service), and the application of this software into fields which have traditionally not seen very much innovation in IT.

There are many areas of the modern economy which have seen little change in communications and IT technology for decades. Some sectors, like entertainment for example, have seen radical change, moving from analogue broadcasts of TV and radio signals in the 1990s to high-definition streaming of music and video direct to the home and mobile device today, but other sectors over the same period have effectively stagnated.

Healthcare is a primary example here. While medical technology has advanced considerably in many aspects, the software and IT systems relied upon by national and local healthcare bodies have not. It is not uncommon to see fax machines, communication by letter or text message used by hospitals in industrialised nations like Japan or the UK. Similarly, many healthcare systems and companies operating in drug research and development will often not have any unified data collection and interpretation software systems at all, instead relying on a maze of siloed data sets and missing out on the opportunities of a joined-up system.

Things are changing, finally, and potentially in large part due to the pandemic

The COVID 19 pandemic which started in 2020 created a pressing need for healthcare systems to try and cope with unprecedented demands on their services, while also navigating entirely new challenges like developing and then distributing vaccines to hundreds of millions of people. The old way of doing things wouldn’t work and as such, existing technology and software providers who had solutions for healthcare were brought in to help make the changes needed to meet the challenges of the pandemic.

The reluctance of healthcare to trial and use new technologies is understandable in normal times. The cost of failure is so high, literally people might die, that trialling and implementing new systems for communication or data collection, are often avoided, while old processes, despite their inefficiencies, are at least known to work and so usually remain the preferred option.

But the pandemic has changed this. SaaS and data science businesses which might have taken a decade to establish themselves as providers to the healthcare industry have been fast-tracked in to help deal with the unprecedented challenges of COVID. And in many cases, they worked.

The vaccine distribution plan for the United States and United Kingdom (combined populations of 400 million), where more than 90% vaccine uptake was needed with multiple vaccine types and doses per person needed, was handled by a single SaaS business which had hitherto seen little success in providing its services to healthcare. That same business is now looking to be the first technology company to fully unify the UK’s labyrinthine healthcare system onto one digital platform, which could save the health service there hundreds of millions of pounds and save thousands of lives.

Even outside of healthcare we are seeing SaaS businesses save lives with existing platforms being used in new ways. Cloud-based software businesses like Cloudflare, which operates a global server network and offers low cost cyber security services, has a system advanced enough that it was able to detect the digital signatures of a likely Russian invasion of Ukraine before the event. It was instrumental in supplying Western governments with the information they needed to warn and prepare Ukraine for the eventual invasion.

What is more, Cloudflare’s systems are powerful enough that after the invasion started and Russia attempted to shut down Ukraine’s capacity to communicate, Cloudflare was able to keep Ukraine’s internet up and running, a critical advantage which, along with the forward notice of the invasion, contributed significantly to Ukraine’s success in repelling Russia’s initial invasion.

These are just two examples of world changing, life-saving applications of existing SaaS business models. Software has evolved beyond just offering us spreadsheets and useful ways to video call each other. It is saving lives and in the second example we gave, helping to preserve European democracy. Not bad for lines of code.

Looking forward...

You can see how this trend matches our investment criteria for long-term trends very nicely. The implications of this trend are already huge, with a broad array of applications and ways to play the trend. And with markets seeing a major correction this year, many of the companies providing these software services are now trading at 80 to 90% discounts to prices from just a year ago, and so valuations are now much more appealing too.

We are not just excited about the investment opportunity here. We are genuinely excited to see how software services like those already mentioned and many others will transform the world for the better in coming years, helping in every aspect of human development, from disease prevention to education, from the alleviation of world poverty to radically improving healthcare outcomes and protecting Western democracy, the future in this trend is likely to be an extraordinary journey… and a journey with significant rewards for investors who get it right.
Dominion Capital Strategies

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Let’s Talk Long-Term (Part 2): Investing in Climate Change

31/10/2022

News

Monday 31st of October 2022

Listen to this financial market update by playing this audio...

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Summing up what we wrote last week...

Last week we introduced the idea that investors should be thinking about the long-term and investing accordingly. This translates into trying your best to ignore short-term noise in financial markets and to instead focus on investing in relatively predictable sources of growth.

This week, we’ll take this idea a step forward with an example. But first, let’s discuss the characteristics we’re looking for in more detail that define an ideal long-term investment trend.

Substantial:

First, we want it to be substantial, in other words, the bigger the trend is in its scale, the better as this creates a larger source of potential value creation from the scale of the change.

Broad:

Second, we want broadness too, in the sense that there are multiple angles from which we can potentially invest in the trend. The more diverse the opportunities to invest, the better.

Predictability:

Third, we want as much predictability as possible. As discussed last week, predicting the future is extremely hard, so the more predictable our investment future is the better. Finally, we want a good entry point in terms of valuations. There’s no point investing in a trend if valuations of the potential investments are already so high it precludes investing in the first place!

Summary:

To summarise this, our ideal long-term investment trend is: (i) substantial, (ii) broad, (iii), predictable, and (iv) good value.

Climate change is a great first example here. It is, arguably, the optimal long-term trend from the perspective of the first three of our criteria. It is substantial, in fact that is an understatement. Tens of trillions of dollars of capital will have to be invested over the coming decades into transitioning the world away from fossil fuels and into alternatives, while also mitigating other sources of emissions in complex and varied industries from agriculture to construction.

Climate change as a theme is very broad, offering opportunities to invest in every sector and in every geography, since this is a global problem that touches every sector of the economy.

But, is climate change predictable?

It is also predictable to a certain extent. We do not necessarily know the timing of climate change, its effects, or the pace of mitigation efforts, but we can say with a high degree of certainty that it will involve a lot of investment in greener generating capacity (wind, solar, nuclear, grid infrastructure investment), it will also certainly require major investment in energy efficiency and technologies that do more with less energy across multiple sectors, from air conditioning systems to transportation technologies, from street lighting to data centres, all will increasingly be looking for solutions to reduce energy consumption.

The path to investing in long-term trends is, hopefully, becoming clearer. We are not making specific predictions about what the profit or loss on a particular business will be next quarter, or next year.

Dominion is making predictions about the likely 5-year, 10-year, and 20-year path for demand for products and services they know for a fact already works at supporting this trend. And they have the reassurance of the understanding of a trend we know offers considerable margin of safety for investments, in the form of its scale, breadth, and predictability.

The more research we do, the clearer it becomes to us, for example, that climate change mitigation does not work without major new investment in nuclear power, and so we can invest accordingly. Similarly, it’s almost impossible to reach net zero without major demand increases in renewables and associated input materials, and so we can invest accordingly.

Now you may have noticed we have missed out one of the characteristics of our ideal investment trend, the last one: ‘good value’.

Does investing in these sectors as part of the climate change trend offer good value?

Value is a function of the price paid and the quality of the asset, whatever you are buying. Optimally you want low price and high quality. The quality part takes time to research, but we can assure you, with respect to climate change, quality is out there in buckets. And everyone knows prices of virtually all stocks have been coming down this year, especially so in some of the suppliers into this trend.

Hopefully this is now putting the current market weakness into context as an investor. Nine months of weak stock markets, from the perspective of the long-term minded investor, simply dramatically improves the value function. In other words, the same quality exposed to the same long-term trend is now on sale at much lower prices!

For the long-term minded investor, now and over the coming months, with prices and valuations much lower compared to the past decade, is a very attractive opportunity to ramp up positioning in a long-trend like climate change, or in an investment strategy with exposure to this trend. Further price weakness in markets only makes that opportunity look even more attractive.
Dominion Capital Strategies

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