Liontrust Global Technology Fund

Q1 2020 review

The Liontrust Global Technology Fund returned -3.4% over the first quarter, outperforming the IA Technology and Telecommunications sector and MSCI World Technology Index which both returned -7.2%.

 

The first quarter of 2020 will be one remembered, discussed and analysed for a long time to come. After a promising start to 2020 for global markets and global equities, COVID-19, originating in Wuhan, China began to spread firstly through China and the neighbouring region before spreading through Europe, America and across the world becoming a Global Pandemic. Initially perceived to be largely a domestic Chinese issue with limited chance of a breakout beyond South East Asia, the Chinese market suffered as the country went into a lockdown and companies for whom China is a critical part of the supply chain or end market were hit as industrial action ground to a halt. As the Virus spread beyond China and economies began shutdown, Governments and Central Banks across the world stepped in with historically aggressive fiscal and monetary action to help deal with the economic and financial impact of the virus. A further shock occurred in early March as a breakdown of relations between OPEC members Russia and Saudi Arabia triggered a crash in already low oil prices punching the already fragile energy sector, various energy reliant economies and skittish equity markets.

The long-term economic outcomes are if anything, even harder to predict. On top of uncertainty over the course this pandemic will take, there are questions about which economies will be most impacted, which sectors will be able to bounce back and over what time period this will take place, as well as the infinite direct and indirect effects of such a sharp and unprecedented shock followed by an equally sharp and unprecedented response.

This leads us on to coronavirus’ impact on technology companies and the technology sector. While there has been much hand wringing over the past few years over valuations in this space, and many speculating that it would see a sharp downturn, especially with those high growth software companies that have been such stellar performers, in recent times this doesn’t appear to have played out. In fact, as hoped, we have seen technology, in particular sub-sectors like software, hold up far better than the wider market. Adoption trends we have seen developing over time like the shift to cloud computing solutions, the need for comprehensive communications software solutions and the necessity of airtight cybersecurity, have all been accelerated by the need for businesses to shift operations to employees’ homes during lockdown. These unique situational tailwinds, alongside the strong cash generation, and clean balance sheets of many companies in the technology sector, as well as the excellent unit economics, sticky recurring revenue and mission critical nature of many software companies has meant that valuations in the sector have held up as have the prospects of the companies themselves.

Fund Performance

 

While of course it is disappointing to have a negative performance in absolute terms, given the extreme market backdrop this quarter, this is reassuringly strong result. This is evident not just in comparison to these benchmarks, but also when comparing to other major global indices such as the S&P500 returning -14.2%, the MSCI AC World Index returning -16.0%, and our local FTSE All Share Index returning a grim -25.1%. While the main comparison should be with the Fund’s peer group and Index, the comparison is worth noting for the reason that it demonstrates the extent to which the technology sector has continued to outperform despite the challenging market and macro backdrop. The Fund also continues to beat its Index and peer group average benchmarks on the 3-year running timescale, demonstrating the Fund’s capacity to outperform over the longer time horizons that we seek to invest in.

Finally, during a period of crisis, the first and most important factor for any asset manager to address is liquidity. The Fund remains in a very liquid position with a weighted average market cap of over £300bn compared to a fund size of c.£60m, no position in a company with a market cap below the £1bn and stress testing indicates the Fund is easily able to be liquidated in its entirety within just 1 working day while remaining below the 20% monthly ADV (Average Daily Volume) threshold even during the market stress seen in March.

Fund attribution

 

Our approach, even during this crisis, is straightforward and hasn’t required adjustment. We continue to focus our investments on themes and companies already on solid growth trends for which, fortunately, the impact of the coronavirus crisis will be minimal or even positive. For many of our portfolio companies, coronavirus has so far served only to accelerate the product adoption curve forward 2-3 years. Many of these positions have yielded the strong returns that have driven the Funds recent outperformance.

Software remains a favoured sub-sector in the portfolio and remains an overweight against our MSCI World Information Technology Index and our largest sub-sector exposure in absolute terms. Software products are uniquely positioned in this crisis in that they still serve mission critical functions for businesses to continue to operate, and a decentralised workforce need just as many, if not more, subscriptions and need more cloud capability as accessing on-premises functions from afar is complicated, can incur latency issues, and may simply not be feasible. Thus, we have seen the current crisis as an accelerant, not only to the ongoing shift to the cloud, but also to software that allows greater efficiency and productivity to a decentralised workforce.

A great example of this is in communications software with a long time holding, RingCentral (+34% Q1 2020). RingCentral provides business with an easy to use cloud communications platform for employees. It is as simple as downloading an app on their own devices (or work devices) from which users can access a suite of own brand or 3rd party communications tools such as standard SMS messaging to Zoom video conferencing. RingCentral has been thriving off a trend to shift processes to the cloud and avoid unnecessary equipment capex by allowing employees to use their own, more familiar, devices for work purposes. Outlook for the company pre-coronavirus was significantly boosted after announcing a recent partnership deal with Avaya that gave it exclusive access to 100 million seats that Avaya sells to (to frame this potential impact it is worth noting RingCentral had only 2 million seats prior to the deal). The shift of vast amounts of workers having to work from home due to Covid-19 means that communications software and platforms like RingCentral are in higher demand than ever to ensure seamless communication and coordination of employees.

Another portfolio company that has held strong during this crisis is Amazon (+13% Q1 2020). The source of this strength is twofold. First, the demand for its AWS cloud platform has remained high as client businesses continue to utilise cloud applications to manage a decentralised workforce as well as other internet clients such as Netflix and Ocado who have seen a surge in demand relying on AWS’s infrastructure. Secondly, there has been a jump in demand on its delivery platform as the US and other markets go into varying levels of lockdown, customers are forced rely on Amazon and its fulfilment infrastructure for provision of essential goods and commerce. This rise in demand has been so acute that Amazon recently put out a call for 100k new warehouse workers and boosted overtime pay from 1.5x to 2x. Amazon has also put many non-essential items on hold while it focuses on delivering essentials, this not only gives Amazon good PR credit as a corporate citizen but also allows it to continue to operate while other non-essential goods providers (including many competitors) are forced to close.

Our notable underperforming positions include IQVIA and Disney. IQVIA’s recent woes are due to the cessation on the clinical trials the company provides a platform of services for while all healthcare efforts tilt towards tackling the coronavirus. Compounding this issue is its highly leveraged balance sheet, which while understandable due to the normally consistent and reliable nature of the business’s operations, now potentially drains much needed cashflow. This is a concern that we are monitoring closely, however we continue to like the business as offering vital and unique services to pharmaceutical and biotech clients undertaking clinical trials and will no doubt resume operations soon to fulfil this essential societal role.

Disney was a relatively recent addition to the portfolio and had been showing signs of great promise. Our investment thesis centred around the launch of Disney+ as a fantastic opportunity to directly monetise its unique, and frankly dominant, intellectual property as well help spin the flywheel of the wider Disney corporation that can then further monetise this engagement through the sale of merchandise, park tickets and experiences. Unfortunately, it is in these latter parts of the Disney corporation, Parks and Experiences, that the coronavirus has managed to inflict a heavy toll on the company. This began with the shutdown of its Shanghai Disneyland resort (now partially reopened) then Hong Kong and Tokyo, followed by the rest of its parks in the US and Europe for an indefinite period. These parks are being maintained and will hopefully be reopened soon, however for now they cause a great drain on the company’s overall finances as Disney continues to pay a great deal of fixed operating costs. As well as uncertainty in the date of any reopening of the parks, there is uncertainty to what extent they will be allowed to reopen (in Shanghai the resort has partially reopened some parts such as the hotels and restaurants but the main park remains shut) and with what measures in place e.g. temperature checks (currently mandatory in the Shanghai resort), enhanced hygiene protocols and overall capacity limitations. Despite this uncertainty, we remain confident in the long-term investment thesis in Disney. Disney+ has reached 50m subscribers (an incredible feat in mere months) and continues to grow, the underlying IP remains robust, and the parks and experiences will re-open and no doubt continue to be very lucrative.

Portfolio Changes

 

In order to focus on these companies and themes we have exited our positions in Xilinx, Nintendo and Mimecast. Xilinx has been under a great deal of strain due to its reliance on business partners in China that has come under pressure during the US-China trade conflict and a rise in regulatory pressure, particularly on the US side. This along with the fallout from coronavirus first in China then other markets for hardware sales has, in our view, severely compromised Xilinx long term prospects. Similarly, while a great business we exited Nintendo over concerns on its hardware supply chain and viability in the current climate. Mimecast has been a consistent relative underperformer in our portfolio with recent operational difficulties, and after careful analysis, we decided to concentrate our position in cybersecurity to our more favoured, higher conviction portfolio cybersecurity companies such as Fortinet.

Outlook

As discussed above, our honest short-term outlook on overall equity markets is, in a word, uncertain. We don’t know, nor do we claim to know the path ahead, be it the progress of the virus or the chances of an economic recession. What we do know is that technology companies continue to be a fantastic place to invest for the long-term orientated investor. Technology companies benefit from trends that have been taking place for decades and will continue to take place for many years to come including some trends such as e-commerce, cybersecurity, and the shift to the cloud, that will be greatly accelerated by the recent outbreak. Thus, despite scepticism on the impact of a bear market on the technology sector, technology companies have given portfolios invaluable resilience during the recent market downturn. We also believe the current market turmoil will bring up fantastic new opportunities for investors to buy top quality cash generating technology companies at great valuations. By focusing on a company’s key financial metrics supporting a strong investment narrative and a discounted cash flow valuation, we hope to seize these new opportunities and continue to provide long term outperformance in this exciting sector through careful and attentive active management.

Discrete years' performance (%), to previous quarter-end: 

 

Mar-20

Mar-19

Mar-18

Mar-17

Liontrust Global Technology C Acc GBP

6.9

24.9

18.2

44.4

MSCI World Information Technology

12.6

21.2

13.5

42.4

IA Technology & Telecommunications

6.5

19.3

9.6

40.4

Quartile

3

1

1

2

 

*Source: FE Analytics as at 31.03.20

 

For a comprehensive list of common financial words and terms, see our glossary here.

  

Key Risks

Past performance is not a guide to future performance. Do remember that the value of an investment and the income generated from them can fall as well as rise and is not guaranteed, therefore, you may not get back the amount originally invested and potentially risk total loss of capital. Investment in funds managed by the Global Equity (GE) team may involve investment in smaller companies - these stocks may be less liquid and the price swings greater than those in, for example, larger companies. Investment in funds managed by the GE team may involve foreign currencies and may be subject to fluctuations in value due to movements in exchange rates. The team may invest in emerging markets/soft currencies or in financial derivative instruments, both of which may have the effect of increasing volatility. Some of the funds managed by the GE team hold a concentrated portfolio of stocks, meaning that if the price of one of these stocks should move significantly, this may have a notable effect on the value of that portfolio.

Disclaimer

The information and opinions provided should not be construed as advice for investment in any product or security mentioned, an offer to buy or sell units/shares of Funds mentioned, or a solicitation to purchase securities in any company or investment product. Always research your own investments and (if you are not a professional or a financial adviser) consult suitability with a regulated financial adviser before investing.

Thursday, April 23, 2020, 3:55 PM