Kerr Neilson dives into Europe

The Platinum Group boss sees good value in a recovering Europe.

Summary: In an exclusive interview, Eureka Report’s chief reporter Cliona O’Dowd asks the Platinum Group boss – a specialist offshore investor – where he currently sees good investment value. Europe is a stand-out region, along with China and Japan, while he is less keen on the United States.
Key take-out: Neilson says he has been cutting back his holdings in defensive stocks and focusing more on undervalued European financials. “The timid can still buy fairly defensive companies, but we don’t think that’s where you’re going to make any money around the world at all.” (Kerr Neilson)
Key beneficiaries: General investors. Category: Portfolio construction.

Australia’s best known offshore investor, Kerr Neilson of the Platinum Group, is back doing what he does best. That means he's getting in before the rest of the pack. Just now, he’s getting into Europe … and not just EU-based defensives. He’s buying into badly beaten-up European banks, which he sees as the next sweet spot in the market.

Neilson, who made more than $1 billion from the flotation of ASX-listed Platinum Asset Management in 2007, is also convinced that our dollar will drop lower in the months ahead.

He sees limited value in the US stockmarket right now, and thinks it may backtrack slightly in the near term.

Meanwhile, Japan is one of his preferred picks, while emerging markets are still on his radar.

Cliona O’Dowd: What’s your view on Europe right now?

Kerr Neilson, Platinum Group: We’re far from negative on Europe. If you look at the periphery, each and every one [countries] has a current account surplus. The significance of that is these countries are no longer dependent on foreign funding because they have contracted to the extent that they are now self-funding from a currency flow point of view. That may not tell us that they’ve bottomed, but I think there’s enough evidence to suggest that they have.

In places like Ireland, we’re seeing house turnover starting to change; house prices in Dublin are rising. In Spain we’re seeing less of that, but at the same time there’s a huge number of independents starting their own businesses. These are signs of an economy that has shrunk to a point where people are saying, “well what am I going to do about it?”

We’ve been buying companies like Italian bank Intesa Sanpaolo. Intesa holds 20% of the deposit base in Italy and currently trades at 0.6 times book value.

(Intesa Sanpaolo is one of Italy’s largest banks, with a market capitalisation of €24.98 billion ($A35.75), according to Bloomberg. Its current share price is €1.54, up from €1.34 a year ago).

We’ve also been buying Bank of Ireland in some of our funds. We think it’s an interesting story. Coming out of this, we think BOI could look quite impressive.

(Bank of Ireland provides a range of banking and other financial services to customers in Ireland and the UK, and has a market cap of €6.9 billion. Its current share price is €0.23, up from €0.094 a year ago).

Essentially, we’re going after the jugular. We’re not looking for defensives in Europe; we want to participate in the improvement.

CO: What other companies do you currently hold?

KN: We hold others but we’ve been tending to reduce some of them. Henkel, which is in consumer goods and industrial adhesives, and Adidas are holdings we’ve been reducing.

(German-based Henkel operates in three main industries: laundry and home care; toiletries, and adhesive technologies. It has a market cap of €28.94 billion. Its current share price is €72.55, compared with €61.21 a year ago).

(Sportswear manufacturer Adidas has a market cap of €16.64 billion. Its current share price is €79.6, up from €64 a year ago.)

We hold companies such as TNT Express, a cyclical, and also Pernod Ricard, which has most of its business now outside France.

(TNT Express is an international courier delivery company with headquarters in the Netherlands. It has a market cap of €3.75 billion. Its current share price is €6.89, down from €8.89 a year ago).

(Beverage maker Pernod Ricard, based in France, has a market cap of €23.5 billion. Its current share price is €88.60, compared with €87 a year ago).

So we’ve got a fair smattering but we’ve been tending to cut back on the defensives and we’re tending to now go to the financials.

We’ve been progressively selling down the brand names like Adidas and Pernod. We used to have BMW, which we sold out of. The one exception is, I’ve been nibbling away at Puma, which is I think going to make a turnaround.

(German-based carmaker BMW has a market cap of €49.7 billion. Its current share price is €77.48, up from €58.54 a year ago.)

(Sportswear manufacturer Puma has a market cap of €3.29 billion. Its current share price is €218, down from €236 a year ago).

CO: Do you still see a lot of value in the region?

KN: I see a lot of value. I think all the second guessing has already been built into the price.

CO: Is now a good time for Australian investors to look to Europe?

KN: Yes, I believe so. For investors who want more security, they can look at companies like Ericsson AB, which is going to be hugely influenced by the rollout of Long Term Evolution (LTE). (LTE is also known as 4G).

(Swedish-based telco Ericsson has a market cap of SEK285 billion ($A46.7 billion). Its current share price is SEK86.45, up from SEK61.1 a year ago).

The initial stage of a telco’s rollout is putting up stations and towers. The next stage is to actually get high utilisation out of those towers, which is where the company really starts making money.

Ericsson has been bidding for market share, because once you’ve got your footprint you can then get the follow-on business. They’ve been effectively doing some loss leading to make sure that they re-establish their credentials in Europe as the leader.

So it all depends on how you want to play it. The timid can still buy fairly defensive companies, but we don’t think that’s where you’re going to make any money around the world at all. Andrew Clifford (Platinum’s chief investment officer) gave a talk recently, and he used the words “risk” and “uncertainty” interchangeably. That completely threw the audience because they associate risk as bad. What he was trying to convey was uncertainty is what you should own now, not certainty.

Certainty was what everyone was absolutely craving a year ago. It’s precisely where you don’t want to be [now]. They’re the stocks in our databanks that suggest they are two standard deviations above where they should be in the historic ratings.

CO: Tell me about the performance of your European and international funds?

KN: Generally, our European fund has been a huge performer [the fund’s one year return was 45%] and our international fund is up 40%-plus this year.


CO: Are you seeing a lot of inflows into the European and international funds?

KN: We’re starting to [see inflows], but people have just been so scared. Investors were just petrified and looking for term deposits. As rates have come down we’re starting to see investors come back, but it’s been quite tentative. We would have thought it would have been much more voluminous, but it’s not. It’s not as if we’re losing market share if you want to look at it in those terms. I think people are just still scared.

CO: Are you expecting a rise in inflows in the coming months?

KN: I’m pretty sure people will be more courageous. First of all, they don’t really have a choice considering interest rates are so miserable. That’s the main factor. As well as that, they’ll also start reimagining the world in a different view. Quantitative easing (QE) is all about inducing people to take risk. QE isn’t going to just taper. It may taper in the US but it’s going to continue in Britain, it’s going to continue in Japan. Meanwhile, credit has become more readily available in China. So it’s not as if there’s been no credit response going on in other countries. Free exchange controls means these responses wash across countries, across the exchanges.

I certainly empathise with investors feeling they are being diddled on their savings rates, but that’s how countries are getting the engine of growth going again. We can fulminate as much as we like, but that’s what’s happening.

CO: Moving onto the US, is that a region where you still see value?

KN: Yes, in specific areas. We’re making a big push into parts of the internet that are now reviving because of the arrival of mobility. Mobile phones change everything.

CO: What are some of the companies you hold or are looking at in the US?

KN: eBay is one company we’ve been looking at. (Online auction house eBay has a market cap of $US68.4 billion ($74.4 billion). Its current share price is $US52.7 up from $US48.5 a year ago).

There’s also a lot of smaller names we’ve been nibbling at, where we can’t really get a very big position and nor do we really want very big positions. That’s because there’s still a lot of substitutional risk, where you think you’ve got the best product and then some other fool comes out with a similar product. Some of these companies are in Asia. We find those companies interesting and they are quite advanced in some aspects, particularly in messaging.

Japan is also coming right and getting its act together. The excitement around the Olympics will also lift spirits.

I think the US may backtrack a little [in the near term], but not because of the taper. I just think it’s the excuse around tapering, but the reality is the market has gone up 20% this year on re-ratings rather than on extra earnings power. It’s just been a re-rating story, not an earnings lift that exceeded expectations.

CO: Where do you think the US market will be at the end of the year?

KN: I don’t think it’ll be higher than here.

CO: So you’re a bit more cautious on the US at the moment?

KN: Yes, we’re tending to be [more cautious] and taking money to other places and companies that we find interesting.

CO: What are your preferred markets right now and for the months ahead?

KN: We like Japan, we think it’s clearly in a bull market. We also think China offers some terrific value, while for specific types of stocks we find Korea very interesting. Korea is the cheapest industrial market in the world, selling at under 10 times earnings. The whole market’s cheap, including financials.

CO: What about emerging markets?

KN: I don’t want to use a broad brush and tell investors to stay away from emerging markets. We’ve been buying some housing stocks in say India and Brazil. We’re going into the heart of darkness, we’re not flapping around the edges explaining to everyone why it’s so risky. It’s all about the price [of companies].

CO: What advice do you have for retail investors?

KN: Essentially, I think there are plenty of stocks in the market that still reflect the past rather than the future.

I’m quite clear that the retail investor perceives risk, but what he/she does not do is link risk with price.

I think the surprises are going to be on the upside where we have places such as Europe, particularly on the periphery, where countries are doing a lot better than people think. I was talking to an importer of olives recently; he said they’ve halved in price now in Greece. That gets a supply response, it gets a demand response. That’s how markets work. When you can buy a house on the bay in Dublin for half what you would have paid a few years ago, it’s interesting.

People say Japan is in trouble because it’s got a shrinking population. Well firstly, no one uses that case against Germany, which is in the same situation. Secondly, these are global companies investors are buying. They often earn as much as half their profits abroad. In fact, investors should turn it around and buy those stocks because they’ve got half their earnings in say, emerging markets.

At the moment I think retail investors are not only risk averse, but they’re not thinking through the case.

CO: Where do you see the Australian dollar in the next 12 months / two years?

KN: It could get down into the 80s, I think. It’s not going to be strong. The Aussie might recover a little and I think we’re going to see a bit of a rev here, because China looks to be accelerating a little, but it’s a broken trend. But after that, if it gets to 95 cents, sell it as hard as you can. It’s no longer a strengthening currency, it’s a weakening currency.

CO: Although you don’t invest in the Australian market, what’s your view on the domestic economy?

KN: That was another associated belief, you know when the election’s out of the way [things will change]. I don’t see any of that. We’ve got to have a rethink about labour productivity, we’ve got to think about regulations. We have to get our productivity up and our exchange rate will come under pressure.

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