Approach
This exchange-traded fund is the listed entry point for the unlisted Magellan High Conviction, after converting from a closed-end structure in August 2021. Magellan believes sustainable competitive advantages enable companies to earn lasting returns above their cost of capital. Concentrating on financial services, consumer franchises, IT, healthcare, industrials, and infrastructure trims the universe to about 4,000 names. Quantitative and qualitative screening cuts this down to about 200 stocks. These filters exclude measures incorporating current market prices, although Magellan seeks firms that have enduring competitive advantages, lucrative reinvestment potential, low agency risk, and low business risk to facilitate predictable cash flows. Relying mainly on discounted cash flow techniques, analysts elongate the model’s duration for wide-moat stocks and vice versa.
Targets must be discounted sufficiently to intrinsic value to give a margin of safety. Stocks are ranked along qualitative and valuation dimensions, from which Magellan constructs an ultraconcentrated portfolio of eight to 12 of the best ideas. Unlike the Magellan Global strategy, there are no hard limits on the portfolio’s “combined risk ratio” (a proprietary risk measure based on historic stock beta and drawdown risk). The portfolio can hold up to 50% cash, which aims to provide protection in a falling market. From November 2020, the portfolio has unhedged currency exposure, having previously been actively hedged based on the managers’ views. Magellan publishes an intraday net asset value on its website to help price discovery. It is calculated using live prices and foreign exchange movements but doesn’t use futures, so it might be a lagging indicator in highly volatile markets. The vehicle targets a spread of 7 basis points on either side, but they can widen notably during volatile periods.
Portfolio
Magellan ignores index weightings when building this ultraconcentrated portfolio of eight to 12 companies. Historically, the manager has tilted towards consumer-related and technology sectors while steering clear of commodities. By its nature, sector concentration is large, and as at January 2022, 62% of the portfolio was exposed to information technology and Internet and e-commerce, while consumer discretionary and financials names accounted for less than 10% each. The manager’s preference for giant-cap multinationals with strong franchise value also leads to a strong bias towards North America. At year-end 2021, the portfolio held only three stocks outside of the United States, with Chinese ecommerce giant Alibaba the portfolio’s smallest holding.
However, the managers carefully assess the portfolio’s underlying earnings exposure by geography, and on this basis European and emerging-markets ex-China exposure was around 32%. No single position can exceed 20% of the portfolio, and no more than four stocks can be weighted at over 12.5% each. The portfolio can hold up to 50% cash. At the end of 2021, the cash position was 5%. Turnover ranges between 30% and 40% and is lumpy given that a single stock initial purchase or exit represents a sizable trade. Given the strategy’s high level of concentration, it is suitable as a supporting player, composing only part of a more broadly diversified portfolio.
People
CIO Hamish Douglass co-founded Magellan and has been this strategy’s key decision-maker. In February 2022, he announced an indefinite leave of absence due to medical reasons, forcing a new lead portfolio manager. The firm called on Douglass’ co-founder Chris Mackay to step into the lead role as replacement. Mackay was Magellan’s CIO from 2006 inception to 2012, before choosing to focus on managing the listed MFF Capital Investments. At the same time, former head of research Nikki Thomas rejoined Magellan as comanager on the flagship strategy, after departing in 2017 following the decision to cease development of the non-US strategy she managed. Thomas had a four-year stint comanaging Alphinity’s global equities strategy. In early 2018, Chris Wheldon rejoined the group as assistant portfolio manager, concentrating on the High Conviction strategy as comanager. He had previously spent eight years at Magellan working as an analyst in the franchises team and as head of the industrials team, before a stint at US-based Davis Advisors.
There is the backing of a strong team of investors and analysts, however. This includes Dom Giuliano, who was promoted to deputy CIO in December 2014, and Gerald Stack, who oversees the team as head of investments and is chair of the investment committee. Similarly, portfolio managers Chris Wheldon, Arvid Streimann, and Stefan Marcionetti have experience as a sounding board to Douglass at the portfolio level.
Performance
Magellan High Conviction unlisted fund has delivered performance slightly below benchmark and category average since its inception in July 2013 to January 2021. Significant underperformance over 2020 and 2021 has undone the strategy’s respectable track record. Measured over all rolling three-year periods, it outpaced the benchmark over 75% of the time during its history. The returns have also exceeded the manager’s target absolute return of 10% per year. Indeed, 2016 was a setback when positioning into Brexit, then the Trump reflation rally, saw the fund lag the market. This underperformance was more than made up for in 2017 by almost 10% outperformance, driven by holdings in Apple and Facebook.
The year 2018 was more volatile, but the strategy still managed to achieve a positive return of 3.4% and beat out the benchmark. Notably, however, it lagged the flagship Magellan Global strategy by around 6.4% as the latter’s more-diversified portfolio did better during the more volatile periods of the year. The portfolio kept pace in 2019’s strongly rising market, with many of its tech holdings appreciating significantly. But the strategy’s punchy approach fell significantly behind the index throughout a volatile 2020 market. Active currency hedging also detracted value over the year to October. Fortunes weren’t any better in 2021, trailing the benchmark by a similarly wide margin, as volatility returned to technology names and Alibaba sold-off heavily.
About Fund:
The Magellan High Conviction Trust seeks to invest in outstanding companies at attractive prices, while exercising a deep understanding of the macroeconomic environment to manage investment risk. This vehicle is the listed entry point for the unlisted Magellan High Conviction. CIO Hamish Douglass announced a medical leave of absence from Magellan in February 2022, leaving a big void to fill. His indefinite absence exposes Magellan’s lack of succession planning across the investment team and the broader business. The firm has had to step outside the immediate team, albeit to somewhat familiar faces. Magellan co-founder Chris Mackay returns to the fold as lead manager; he had relinquished the CIO role in 2012 to focus on managing MFF Capital Investments. Portfolio manager Chris Wheldon provides some continuity, having been comanager alongside Douglass since rejoining the firm in 2018 after a stint at a USbased manager.
(Source: Morningstar)
General Advice Warning
Any advice/ information provided is general in nature only and does not take into account the personal financial situation, objectives or needs of any particular person.
