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Stock stars look under the surface

Eric Johnston
The Australian
Sep 11, 2023
Eminence Capital CEO Ricky Sandler, left, with Sohn Australia co-founder Matthew Grounds. Picture: John Feder

Investors looking for signs of another bull market will be waiting for some time, says influential New York-hedge fund manager Ricky Sandler.

Even so, stock pickers shouldn’t be sitting around trying to ride the momentum but instead focus on the “much more interesting things happening beneath the surface,” says Sandler, the founder and chief executive of $US7bn ($11bn) Eminence Capital.

Sandler quickly emerged on the radar of a number of Australian investors as the fund boss delivered one of the top performing stock picks at last year’s Sohn Hearts & Minds investment manager conference. For players like Sander, who has a third of the funds he runs under a short strategy, the real opportunities are in individual stocks rather than the broad market. And a big shift in the drivers of shares over the past two decades has delivered significant opportunity.

Investors need to look through the momentum of the market and focus in the details of individual stocks. Picture: Getty Images

Here he points to the fast-paced rise of passive investing through ETFs or other index trackers, and this has meant that shareholder pressure is not being exerted to the degree it once was.

Compounding this is thematic-based investing or environment, social and governance-only funds that have a narrower mandate, which means pressure is not always being applied in the right place.

With shareholder votes being increasingly outsourced to proxy advisers, this has given boards and management the space to be “either uninterested or lazy or just not acting in the best interest of long-term shareholder returns,” Sandler says.

Most estimates of the US market have passive funds sitting with ETFs or index trackers at around 18-20 per cent of share holdings. In some companies it can reach as much as 50 per cent. More recent analysis points out real estate is among the most passively-owned sectors.

This means inside any market there may be a lot of stocks moving around “not necessarily based on their long-term fundamentals”.

“This is creating good opportunities for stock pickers that have kind of adjusted to this new world,” Sandler says.

New picks

Sandler returns to Australia to make a new pick at this year’s Sohn Hearts & Minds conference that will be held at the Sydney Opera House on November 17. The conference, established to raise funds for medical research, is now in its eighth year.

The format of Sohn is relatively simple. Some of the world’s top fund managers take to the stage and present their buy case for a single stock. It is rare for fund managers to go public on their top trading ideas and Sohn shines a light on their investment processes. All the proceeds from the day go directly to Australian medical research.

Conference organisers are hoping to this year pass the $60m mark for funds raised across the eight conferences so far. Last year Sohn went on the road in Hobart and partnered with a number of Tasmanian medical research facilities.

The Sohn conference puts fund managers centre stage where they release their best stock pick. Andrew Macken from Montaka Global Investments appears at a previous conference. Picture: Nikki Short

There Sandler picked California-based tech play New Relic, a company that allows organisations to monitor IT systems. He had a fundamental belief that New Relic was undervalued compared to its rivals and its earnings had been “misperceived”.

The tech company has since surged nearly 70 per cent after getting a buyout offer led by private equity play TPG, in a cash deal that values the company at more than $US6.5bn.

When Sandler first started looking at New Relic 15 months ago the San Francisco-based company was losing money, but still returning a healthy profit margin. This was the reason behind the pricing mismatch.

“That situation often creates opportunities for investors like us where we’re looking at the earnings power of a business and other investors are looking at the actual earnings.”

Barrenjoey co-executive chairman and Sohn Australia co-founder Matthew Grounds says Sandler fits the bill in terms of the aim of the conference.

“This is about bringing to Australian investors and the public, the fund managers that they wouldn’t otherwise sort of get the opportunity to see. I think that that’s proof in the pudding because I think it’s pretty clear that Ricky’s fund and his performance and their approach is attractive to the high net worth investors in this part of the world.”

Previous conferences have had names including Berkshire Hathaway’s Charlie Munger, Ray Dalio of Bridgewater Associates, Ark’s Cathie Woods and Bill Ackman of Pershing Square Capital.

“We’re always pushing ourselves to do one better than the last has been,” Grounds says.

Entain pressure

Sandler remains tight-lipped about plans for his November pick. However he has been in the spotlight in recent months given his fund is currently piling activist pressure on UK gaming major Entain, that operates brands Ladbrokes and Neds in Australia. His fund has hit out at Entain’s acquisition spree and its bid to raise cash by selling a large chunk of new shares. He has said this cuts shareholder value and could in turn draw out a takeover for Entain at a deep discount. Sandler’s fund has been adding to the pressure by adding to its stake in Entain.

The Entain case is a template for the type of companies he targets: companies that need to have a change in investor perception.

Sandler’s hedge fund is putting global gaming and wagering operator Entain, which operates Ladbrokes and Neds, under pressure. Picture: Vince Caligiuri/Getty Images

“We’re looking for good companies that will grow and continue to be kind of more profitable and more valuable in the future.

“And I think there’s scope for improvement … it’s a company whose business is pretty solid and healthy, and has a bit of a negative investing perception today that we think can change materially over the next two years.”

China is another area of opportunity given its perception that it is a market that is becoming uninvestable.

“We love when people call entire swathes of things uninvestable because usually there’s some diamonds in the rough.”

Even if US interest rates have hit the peak or still have higher to go in order to curb inflation, the high level of fixed loans among American homeowners and businesses suggests the economy there hasn’t yet seen the full impact of higher rates.

But this will happen over time, which means the market will be range-bound Sandler says. And this means stock pickers will have to work harder in order to deliver outsized returns.

“I think everyone is focused on a soft landing or where’s inflation going to fall and where interest rates are going. Nobody’s focused on picking interesting, idiosyncratic stocks.

“I think the system is healthy enough that I’m not worried about something really bad happening. So we can play offence.”

The Australian is a media partner of Sohn Hearts and Minds. Information and tickets can be found here.

This article was originally posted by the The Australian here.

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