azValor a Spanish value fund “which broke off of” Bestinver has just released its first letter. The letter is in Spanish but a reader was kind enough to translate the highlights (in decent English) and was kind enough to send a copy of the letter for which we used Google translate to present below!

Unfortunately, this is in Spanish may be you can get the letter in English.  I just thought that may be you were interested in their first letter after they left bestinver. Released today.And just to be accurate current member of azValor ( Mr. Guzman and Mr. Bernard) are both investment managers in bestinver except Mr. Parames who has still ( i think) one year of non competition so he is not officially in azValor although it is presumed that he will join them after it expires.

Main positions (sorry for translation errors).

azValor Iberian portfolio

Acerinox (8.1%): One of the world most efficient producer of stainless steel. 75% of nickel producers are losing money and base prices are near minimum levels. We think it has 70% upside.

Arcelor-Mittal (7.9%): Worldwide leader in Steel, bought after an 87% decline. All chinese producers are losing money and we think this unsustainable will result in capacity closures. If it takes to much time, may be they will need a capital increase, we will take the risk.

Galp (7.6%): Brazil assets have positively surprise in the last 4 years, during this period the stock has decline 40%. We think it has 60% upside.

Semapa (7.4%): Portucel´s holding company, one of the european  vertically integrated most eficient producer. 40% upside using Portucel current market value, that we think is undervalued.

azValor – International portfolio:

37% direct exposure to commodities:

Antofagasta(6.5%): Bought after 72% decline from highs from 5 years. One of the most efficient producer of copper, with solid balance sheet, and a family that has prudently allocated capital, “rara avis” in this sector.

Range resources (4.6%): Bought after 73% decline in the last 18 months. Good balance sheet, one of US the most efficient producer of natural gas, where all producers lose money at operating level (AISC). Although there could be production for a couple of years, there is no incentive to invest until price double from current levels.

ALS (4%): Bought after 70% decline since May 2012. Worldwide leader in inspection and certification for the mining industry. With 28% ROCE and solid balance sheet, we think is undervalued and with better ROCE to play the depressed mining market.

Rio Tinto (4%) Bought after 60% decline from beginning of 2011. It is the most efficient iron producer. With commodity current levels with think it could fall 10% and with normalised price the stock could triple rather than double. 25% of world production lose money at current price.

7% indirect exposure to commodities through business with infinite ROCE/net cash, afected indirectly by sentiment in commodities.

45% in better business although not as cheap:

BMW (4.6%): We still think is best managed company in the sector. Through the preferred share, we pay x4 2015 earnings. If earnings fall 30% multiple just increase at x6, because of accumulated liquidity. We value at 90% more.

Dassault Aviation(4,4%): At our average price we pay PER x5 for a business with 80% ROCE that we now well since 13 years ago, and whose management we admire. 50% upside.

Danieli (3%): After 52% decline in 24 months, the price at which we invested valued at 0 this worldwide leader company in steel plant engineering that has generated an average of €150m/year since 2005. We value the company at an 80% than what we paid.

Dear investor,

The last reason for writing a letter to our investors is to illustrate the results obtained. In our ideal world, this letter would be five years, for that is the minimum horizon to which we invest. We understand however our co-investors must have the necessary information to judge our work. In this letter our successes or not ensalzaremos We hide our weaknesses; We try simply to give them the
information we would like if our roles were reversed.

At the end of the 25th, azValor Iberia lost 9.2% in 2016 (IGBM -10.3%) and 10.2% from the beginning November 13, 2015 (IGBM -15.3%). In azValor International lose 10.4% in 2016 (MSCI -8.5%), and 14% from the launch (MSCI -8.1%).

azValor just born but Fernando and age 20 and investors in 2016. We recall the main points of our philosophy throughout these years:

  • Although we like especially good business (high ROCE) and preferred teams, the most important thing for bright and aligned managers us is to buy low.
  • In general, cheap to buy must be contrary to the market something, or look at a higher average looking term investors.
  • In general, the above is not comfortable, and those who attempt it, put in career-threatening, because in this sector the incentives are very short term and short-term get wrong (or difficult to hit). Who replies indexes do not run this risk.
  • If we can try is because our co-investors we allow your patience to look at longer-term average.
  • However, we have made mistakes in the past, approximately one in ten investments. The majority (2/3) of the errors were due to excessive debt. The rest is concentrated in the retail sector or It is because disruptive technologies.
  • are not included in the above errors of omission (not to invest in something Okay). Although who does not invest in something you can not lose (even to rise), we still hurts not having invested in Inditex, holding it at home”. There are many more such errors, and will remain …
  • The key then is to find businesses in which we assume the reasons by listed cheap, trying to learn from mistakes last. This requires putting 100% focus (our time) analysis companies. It also requires renouncing to have an opinion of everything it is fashionable at the time, in exchange for trying to have the more solid opinion on a few things. This sounds boring but we believe it is more effective.

With this philosophy we have achieved very satisfactory returns over 20 years. These returns were despite what:

  • To have lost money in 1999, when all earned investing in “Dotcoms”.
  • Glad we missed the boom of real estate / banking in Spain between 2004 and 2008.
  • To have fallen by 60% between July 2007 and March 2009.

In all these periods, the common (legitimate!) Question among many investors was: “Can be mistaken this time”? We believe that endure these hard times is the essence of value investing.

See the newly released “The Big Short” (“The big bet”) film, and you will understand how it feels to manager (Michael Burry in the film) in those moments. What comes out less in the film (also comes in other characters) is that the losses tend to be moments of planting future benefits, and it also creates some excitement in the managers. In now fall in azValor no activity in the office Monday Sunday and every one analyst makes a special effort (thanks to all!), some of them being very excited at the potential buying opportunities. Let them.

azValor – Our portfolio

26 Iberian companies in the portfolio. These are the main ones:

Acerinox (8.1%): One of the producers of stainless steel most efficient world, with a strong balance sheet. 75% of nickel producers is losing money and base prices are near minimum. We believe that worth 70% more than they paid for their shares.

Arcelor-Mittal (7.9%): world leader of steel, purchased after a 87% drop. All Chinese producers lose money and we believe that this situation unsustainable capacity closures cause. If you take too long to arrive, you can that an extension is needed, and although it is not our baseline scenario is a risk we are willing to take.

Galp (7.6%): Your assets in Brazil have continued to surprise positively in the last four years, but in that period the stock has fallen 40%. We think it’s 60%.

Semapa (7.4%): Holding of Portucel, one of the integrated producers more efficient role in Europe. Worth 40% more using the market value Portucel, we believe undervalues ??the company today.

43 companies make up the International Portfolio. We will divide into 3 parts: 1. 37% direct exposure to commodities companies; these are the Main:

Antofagasta (6.5%). We buy after a 72% drop from the peak of almost 5 years ago. It is one of the most efficient producers of copper world, with a strong balance sheet and a family that has shown allocate capital wisely, “rara avis” in this sector.

Range Resources (4.6%): we buy after a 73% drop in the last 18 months. With a good balance, it is one of the most efficient gas producers USA, where all the players lose money at the operational level (AISC). While there may be production for a couple of years, there is no incentive investment to at least double the price today.

ALS (4%) bought after falling 70% since May ’12. He is the leader global inspection and certification in the mining industry. With a ROCE of 28% and a strong balance sheet, it is an undervalued and ROCE best way to play the depressed mining market.

Rio Tinto (4%) bought after falling 60% accumulated since the beginning 2011. It is the world’s most efficient iron ore producer. With the current commodity prices “forever” could fall by 10%, and the standard price worth closer than triple double. 25% of the World production is losing money at current prices.

In general in all of them there is a doubt about the pessimism China’s future consumption. Although some material (e.g., steel) share those doubts, our opinion is that the analysis is much more complex, and must include:

  • A comprehensive analysis of the costs of each of the actors
  • An estimate of the likelihood of closure of capacity among those lose money
  • An estimate of the TIR future capacity to accede to the current prices
  • An estimate of future supply and demand in response to the above

Thus, it can be negative in the Chinese steel consumption and positive in Arcelor!

I recommend a book I read a while R. Napier (“Anatomy of a Bear“);

It explains in a bear market bottoms out when the first good news after years of depression have little positive impact on the quotes. It is noteworthy that the closures announced Votorantim (Nickel), Glencore (copper and zinc), Alcoa (aluminum), etc … they have not had any impact on prices. The reality is that companies of commodities They take five years to fall, and the best are targeted -70% since 2011. Know whether or not the bottom, but at these prices we and us conform with the expected IRR.

2.7% indirect exposure to commodities companies. Business Infinite ROCE / net cash, indirectly affected by the sluggishness in commodities.

3. 45% invested in better but not as cheap business. Highlights include:

BMW (4.6%): We still think the best managed company in the sector. Through the preferred, benefits paid 4x 2015. If profits fell by 30% up to 6x multiple only by the amount of liquidity accumulates. The value 90% higher.

Dassault Aviation (4.4%): A change our environment pay for 5x PER 80% of business ROCE we know for 13 years and whose management We admire. Worth 50% more.

Danieli (3%): After falling 52% in 24 months, the price at which we invest valued zero this company a world leader in engineering steel plants, which has generated an average of EUR150mn / benefit year since 2005. Value by 80% more than what we paid.

The economy and future markets

The global economic releases and is responsible to explain everything that is going. At that, our position is:

  1. The economy is the sum of complex interconnections impossible to predict. Distrust of official narratives and correlations without proven causality.
  2. We are especially skeptical of opinions bleeding opportunistic coup today expressed with a disconcerting flatly.
  3. No one has hit on a sustained basis in this field. Yet anticipating the evolution of the main macroeconomic variables (impossible) one would have to guess how and when will deduct the market.

Something different is trying to understand what is going on and find the causes. For this we turn to the Austrian School of Economics in search of light. Today we shines like this:

  • Central bankers are Keynesians: seek to promote demand

Aggregate and fear deflation resulting from overcapacity.

As these parameters are debatable, its application concerns us particularly.

On a desert island, two people have a demand infinite aggregate and until we begin to hunt or fish may not start trading (or eat!). If you think an example too simple, it can complicate: prints money, the dollar falls, oil up to remedy the drop in the USD and the interest rate to bring it zero. The result is a siren song that crowd entrepreneurs investing in unconventional gas extraction in the USA. They will create a million jobs. Bingo! QE is then removed, turn up the USD, oil falls, and all businesses lose money EBIT level. Them rates rise (the IRR of high energy yield over 15%) and stop Following is the default. We seek to understand a priori the risks incurred for not succumbing to these siren. Specifically, we are more comfortable in business have fallen far since it began the second ronde QES.

  • debt and deflation do not get along. We believe that the political will possible (they call it “stimulus”) to prevent the free market naturally purge past excesses, whose reflection, debt, reaches

Today we highs in the major countries of the world. Although some like Japan they have failed (yet), see this pearl:

“There are no limits to our action to bring inflation up to target STI”

Mario Draghi, on the cover of the Financial Times of January 22, 2016

We can not say they were not warned … and yes, indeed, there is no a priori… limits (public works Policy?, negative QE?, Types Additional? Citizen’s Basic Income? …)

? Historically (and more since “send” Keynes) the easiest solution It is inflation / devaluation. When it arrives, titles fixed income, now at record highs of course, turning the wet paper. if arrives, we believe that our portfolio will protect our purchasing power. And if it fails, we think we will fall below the average because We gather together businesses where very pessimistic scenarios already discounted. With this we said goodbye, thanking the trust and support us They have shown at all times.

The commercial team, led by Beltran Parages will be happy to answer any questions you may us.

I wish you a Happy New Year 2016

Alvaro Guzman de Lazaro Mateos

Chief Investment Officer

PS we accompany appendix an attempt to explain simply the “Austrian boilerplate” We used to follow (not predict!) the economy, if you could find it interesting

Appendix 1: Our “template” to follow the Austrian economy

How do crises arise?

Credit growth well above the growth of savings generated an economic boom and the perception that there are entrepreneurs opportunities. These invest, and after a while check the error: no sustainable savings in the economy to buy the units they They hoped to sell, and selling prices are not expected. They have wrong investment!

How can “fix”?

These erroneous liquidating investments and allowing factors (Labor, land, capital) again where there is demand for them. Is there is need for:

1). Closing of insolvent companies. For this dismissal should be easy.

2). Few regulatory obstacles to the creation of new businesses, few taxes, respect for private property and legal security (this, for attract investment)

3). Why are not arranged / take to get ready?

When the mantra of politicians around the world is necessary to avoid short-term pain (unemployment) blocked the main gate to the solution. In a environment of high debt, the effect is that crises last longer, recoveries are less solid, and no one explained the reasons …

4). What helps this “template”?

Unfortunately, almost no face to predict what might happen. Without But it is useful to guide us about the consequences of the political decisions to be taken. We put some examples (the list is not exhaustive):

In Spain, if the new government promotes legal security, mobility factors, controlling public spending and low taxes, attract capital and it will grow well. To the extent that not to do so, we will grow less and some businesses could see more affected than others (eg banking). As long as we in the Euro, there is less margin than you think to very harmful measures (see Tsipras: its promises and subsequent acts).

If saliésemos of Euro, unless it was with very wise leaders, there will be devaluations and an expansive public spending, both very negative things. In USA we will look at whether the Fed will be able to hold its plan increases rates if markets fall further, or to weaken the growth. If you do not, or even back stimulus measures, We analyze the possible impact on future inflation, together with the measures adopted by the new government after the elections this year.

azValor