Enhanced dividend move and first oil buy in a decade

In our latest Insider Interview, Austin Forey, manager of the JPMorgan Emerging Markets Growth & Income (LSE:JMGI) Investment Trust, explains how its move to paying an enhanced dividend hasn’t altered the approach to looking for high-quality growth companies.

In part one of our interview, Forey addresses a tough spell for performance over the past four years, and explains that he’s been finding valuation opportunities in areas he hasn’t owned in a long time, including buying an oil company for the first time in a decade in the fourth quarter of last year.

Forey also explains the qualities he looks for in a business, and names Taiwan Semiconductor Manufacturing Co Ltd ADR (NYSE:TSM) as an example of a long-term success story, having first invested in it 20 years ago.

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Kyle Caldwell, funds and investment education editor at interactive investor: Hello, and welcome to our latest Insider Interview. Today in the studio, I have with me Austin Forey, manager of the JPMorgan Emerging Markets Growth & Income Investment Trust. Austin, thanks for your time today

Austin Forey, manager of the JPMorgan Emerging Markets Growth & Income Investment Trust: It’s a pleasure, thank you for having me.

Kyle Caldwell: So, Austin, let’s start with the announcement last year of the investment trust moving to pay an enhanced dividend. Under this policy, the aim is for the annual distributions to be equal to 4% of the net asset value (NAV). Why has the board introduced this policy?

Austin Forey: Sure, I mean I think in a way that’s a question for the board but I know that they’re hoping to broaden the appeal of the trust and, obviously, with their shareholders who want regular income, and so if we can do something to meet those aspirations that’s great as well.

It’s also possibly even more important to say that there’s no implications for the way that we manage the portfolio, so that’s not changing. We’re going to deploy the same investment process we’ve used for several decades already now. So, this is really a change in terms of what the shareholders get out of the company rather than the way that the asset managers work inside the company with the portfolio.

Kyle Caldwell: As you’ve just mentioned, it’s business as usual, but just to clarify, under this new policy, it doesn’t mean that you’re now having to look at income-producing companies more than you did previously?

Austin Forey: No, the board’s been very clear that they don’t want us to narrow the investment universe. They want us to be able to do what we’ve already been able to, which is to really follow the best opportunities that we can find anywhere, whether they’re paying dividends or not.

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Kyle Caldwell: Let’s now move on to how you invest. The focus is very much on looking for high-quality growth companies. What are the key attributes or characteristics that you are looking for in a business?

Austin Forey: Maybe I can just step back a bit. You know, we don’t do this out of a sort of set of religious beliefs or something. We do this because we’re really trying to find the very best investments that we can for shareholders, and we know that things that can compound for very long periods of time will ultimately tend to deliver much better returns than anything else.

If you think about what that means when you translate it into looking at businesses, it means that a company that can reinvest capital and grow its earnings consistently, not just for a year or two, but maybe for five, 10, even into decades, will ultimately produce a much, much better outcome. So, that’s the core of what we’re trying to do, and we think of various ways to identify good companies, if you like, or superior companies.

But then there’s another side to it I shouldn’t neglect, which is that you need to pay a sensible price. You can’t just pay a crazy price. If you pay a [crazy] price for a great business, it’s not going to be a great investment. So, there’s a balance between the value the company is creating underneath, how much we pay and the extent to which that value is then reflected in the share price.

Kyle Caldwell: Could you give our listeners and viewers a flavour of the types of companies you own? Could you highlight some businesses that you’ve held for a long time?

Austin Forey: Sure, I mean, this won’t sound very original today, but we have a very big shareholding in Taiwan Semiconductor Manufacturing Co Ltd ADR (NYSE:TSM), or TSMC as it’s known, which is a hugely successful Taiwanese business. It’s really the world’s leading producer of advanced semiconductor chips.

And it’s one of the few companies that’s come out of emerging markets to reach trulyglobal-class operations anddominate its market around the world. So, no one else has come close to being able to replicate what they do. It’s a company that’s very well known today. It’s very big company. It was actually the first $1 trillion company in market value terms created in emerging markets. We’ve owned that stock for well over 20 years now, continuously in the trust.

So, back when we bought it, it wasn’t such a big company, it wasn’t such a well-known company. I think the way you get to those kinds of things is really trying to understand what the competitive advantage of a business is. Very often as investors, people like to make numerical forecasts about the future. But the reality is the future is always highly uncertain, and we like to try and concentrate on things we think we can have an opinion about and have some chance of being right about.

Understanding competitive dynamics and why one company does better than other companies, that’s actually in many ways much easier to do than saying our sales forecast for this market in 10 years’ time is X. Because there’s an enormous margin of error on that. But ultimately, if you have a company that does something better than other companies that do the same thing, it’s likely eventually to be a much better investment.

Kyle Caldwell: Is there a typical number of companies that you hold in the portfolio?

Austin Forey: We have around 50 stocks in the portfolio. That’s pretty typical. It’s sometimes been a little bit higher than that. It’s been up towards 60 occasionally. It’s occasionally been just under 50.

One of the reasons that it would tend to go up and down is if we’re buying much smaller companies, which is one of the advantages. You can do that in an investment trust where you don’t have to meet daily cash flows from investors all the time. But you’re not going to put as much money in a tiny company as you could in a much bigger, more liquid company. And so if that happens, the number will creep up a little bit. But really, we’re very happy running a pretty focused portfolio.

My own view is that investors should be looking to take risk in an informed way, not to diversify risk away completely. There are plenty of ways that investors and retail investors or anybody can achieve that. Our job is to give them returns, and returns come by trying to focus on the risks you want to take and maximising the pay-off you can get from them.

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Kyle Caldwell: I next wanted to move on to performance. In your annual results last year, I thought you were very honest and upfront about the challenging performance period over the past four years. Could you summarise why performance has been challenging over that period?

Austin Forey: Maybe I should start the answer by saying, I think if you can’t be honest with your clients, you’re in big trouble as an investor. Equally, if you’re not going to be humble, the market has a remarkable way of reminding you that you need to be a humble as an investor.

Ultimately, our job is to look after other people’s money, and that’s a serious responsibility and not something we should ever take lightly in any way. So, part of what I’ve always tried to do is be open and upfront with the board of the trust, with the shareholders in the trust, about what we’ve done that’s worked and what hasn’t worked.

If you go back to 2019, 2020, we had a couple of exceptionally good years of performance. In retrospect, the portfolio was not only full of businesses that were performing well in their own right, but the market was applying a higher and higher valuation to them as well. And a lot of what happened in the last four years was that valuation premium coming out of those companies.

In many cases, their underlying business actually continues to do fine. I could give you a single example here. We owned stocks in China in 2020, whose earnings in the next four years outgrew the Chinese market by around 50% in four years. So, the companies we owned in China were doing better than the average company in China. But their valuations got so high that the travel back towards a reasonable valuation more than offset that excess earnings growth. And, actually, those stocks cost quite a lot of performance.

So, a big part of what happened to us was that we failed to see, I think in retrospect, that interest rates could go up as much as they did after the pandemic. We failed to see some of the implications for equity valuations. And, yeah, we made some mistakes. I mean, this is a business where if you can’t live with mistakes, you shouldn’t be in it because if you’re a great, great investor, you’re going to get 40%, 45% of your decisions wrong all the time.

So, yeah, it’s been a very tough period. Having said that, if I look at where we are today, the valuation on the portfolio is entirely back to where it used to be for the longest time. So, we’re not taking excessive valuation risk anymore, and we’d like to think we’ve achieved that without really giving up the kind of underlying quality of the businesses we’re owning.

So, we feel in a much better place already, and, actually, the last few months, the last half of the last year, things are much more encouraging for us. So, we hope that we can put that period behind us.

Kyle Caldwell: Did you make many changes to the portfolio in order to attempt to get performance back on track?

Austin Forey: We’re always making some changes to the portfolio. I think we’ve made a bit more change than usual. This is not a strategy where we’re trying to churn the portfolio very, very regularly. As I said earlier, we take pretty long-term views in general. But there are changes we’ve made in terms of buying stuff that we hadn’t owned for a long time. I’ll come back to that in a minute.

We’ve taken some money out of some of our technology investments in the last few months because they’ve done extremely well and we’re just trying to be cautious and not end up with a very heavy dependency to one area.

We’ve bought some industrial businesses around emerging markets, which have led us [to a] bigger weighting there than we’ve had before. But, yeah, we’re always looking to change the portfolio. It’s very much a function of what companies we can find and then when the market presents you with an opportunity in those companies.

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Kyle Caldwell: You mentioned in the first part of your last answer that you now own some stocks that you haven’t held for a long time. Could you run through some of those?

Austin Forey: Yeah, I mean, probably the one that surprised the board the most is when I bought an oil company for the first time in a decade in the last quarter of last year. That company is Petroleo Brasileiro SA Petrobras ADR (NYSE:PBR.A). It’s a big state-owned oil producer in Brazil. It is a pretty serious business. It has been around for a very long time. I expect it will continue to be around for very long time, and our thinking there was really twofold.

First, it’s a business that is going to exist and be around. It had pretty reasonable economics. It pays enormous dividends. And so we’re expecting to get quite a lot of return in that investment just from the dividend alone. But on top of that, I’d say that part of investment is trying to think about the things you’re not thinking about, if that doesn’t sound too crazy.

The back off last year, everyone’s given up on oil, the oil price is down, no one’s interested. This is in contrast to all sorts of other commodities areas where commodity prices are going up, stock prices are going up, but oil is a bit of an outlier. And you just need to have that space in your head where you think, what’s it priced for? I mean, is it priced for nothing ever getting better? And if it’s priced for nothing ever getting [better] and it’s not really priced for things getting worse, then you have a little bit of a one-way or an asymmetrical opportunity taking place.

So, Petrobras is a big solid company. We have a reasonable position in it. I think we’ll do fine. I should say we in no way forecast any of the events that just happened over the last weekend, which clearly in the short term are likely to affect the oil price.

But the point is, when the oil price is $60, you have to start thinking, how much lower can it really be? And if the opportunity is that it goes higher, then maybe there’s an opportunity in oil stocks and Petrobras is an interesting and solid way to get exposure to that.

Kyle Caldwell: Austin, thank for your time today.

Austin Forey: Thank you very much.

Kyle Caldwell: So, that’s it for our latest Insider Interview. For more videos in the series, do hit the subscribe button and hopefully I’ll see you again next time.