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Robeco New World Financial Equities: no ordinary financials fund

27-06-2016 | Insight | Patrick Lemmens Don't expect the standard list of banks, insurers and asset managers in the portfolio of Robeco New World Financial Equities. Do expect a contrarian approach to the financial sector. “Investors need to consider the specific risk profile of this fund, though it's certainly not a downside. It is a solid investment fund of above-average quality that has earned the Morningstar Analyst Rating Bronze.”

Speed read:
  • The financial sector continues to be turbulent for now
  • Banks are forced to choose which role they want to play
  • Investing in financial trends: digital finance, aging finance and emerging finance.

There's no sign of things quietening down in the financial sector as yet. In the wake of the financial crisis of 2008, financial institutions in western countries are booking modest levels of profitability. Increasing regulation, fines, historically low interest rates and little or no credit growth are all putting pressure on earnings.

On the other hand, the health and stability of banks and insurers is improving. Balance sheets are stronger, state aid has been paid back and companies and consumers are in better financial shape since the crisis. Some financials are paying dividends again or buying back their own shares.

Meanwhile a technological storm is blowing hard in the financial sector that is set to grow stronger still. “The impact of fintech and blockchain is likely to be more evolutionary than revolutionary and will exert more of an innovative effect than a disruptive force. But one thing is certain – fintech is turning the financial sector on its head,” suggests Patrick Lemmens. He is portfolio manager of Robeco New World Financial Equities, a fund that invests in trends in the financial sector.

“All financials have to invest heavily in IT to keep up. Banks have to choose which role they're going to play: that of provider of an infrastructure for financial transactions of a vendor for financial products. Within five years we will see differences between banks in this regard.”

Financial trends and themes
In the still turbulent financials sector, Lemmens is navigating his fund on a very individual bearing. It is distinct from other financials funds in a number of ways by aiming at long-term trends in the financial world, such as digital finance, aging finance and emerging finance.

Further the relatively large exposure to growth equities, midcap and smallcap equities, financial institutions from emerging markets and companies from the technology and industrials sectors with links to the financial world, is giving the portfolio a unique character. An active share – degree of deviation from the benchmark – of structurally above 80% says enough. The portfolio includes not only the traditional banks and insurers, but also covers credit-card companies and electronic payment businesses, for instance.

“The specific deviations of the benchmark make Robeco New World Financial Equities more risky than comparable funds. In terms of standard deviation and maximum drawdown, the fund is more volatile than the benchmark and other funds that invest in shares of financial institutions,” says Morningstar analyst Jeffrey Schumacher.

“And yet I think this higher risk is more like an extra factor that investors should consider, rather than a downside. Investors are rewarded for taking higher risks, but must also realize that this can work against them too. The management team has the freedom to implement its own ideas and clearly makes use of this.”

‘Investors in Robeco New World Financial Equities are rewarded for the extra risk’

Digital financial trends
With the digital finance trend, Lemmens is anticipating the above-mentioned rise of digital technology in the financial sector. On the one hand, he invests in banks that are leading the pack in IT, such as ING in the Netherlands and the Spanish bank BBVA. On the other hand, the fund manager also invests in technology companies that supply IT systems to financial institutions. Temenos is an example of this.

The aging finance trend refers to the aging world population and the increasing demand for life insurance and financial planning. Though insurers are affected by low rates and low earnings margins on some products, Lemmens is not negative on insurers. This is evident in three major insurance companies – Aegon, Ping An and AXA – that are in the top ten largest positions in the portfolio.

Lemmens: “There's no longer any market for old-fashioned life insurance, but people are arranging life insurance for their pension. And insurers are less dependent for new insurance products on interest rates and are earning higher fees. I also think that the competition between insurers is less intense than between banks.”

The middle classes in emerging markets are becoming more prosperous and demand for financial products is increasing. “People want to arrange credit cards and insurances, but the penetration of financial products in emerging markets is still low,” explains Lemmens. According to the fund manager, good examples of banks in emerging markets are banks in India, Indonesia, Kenya, the Philippines and Nigeria.

“We are constantly looking for banks with a very healthy and stable return on assets (ROA), strong growth and effective management of bad debts. It's not a problem if they lose money with bad debts, but this must be under control and priced in with a solid ROA. Examples include Yes Bank, Bank Rakyat Indonesia, KCB Group, Bank of the Philippine Islands and Guaranty Trust Bank.”

Financial trends in emerging markets
For the emerging finance trend, Lemmens also has Citigroup in portfolio, notably a bank from developed countries. “Citigroup is a bank with the largest planet-wide network and is strongly represented in emerging countries.”

China's Ping An and the UK's Barclays Bank – two top ten positions – are in Lemmens' opinion perfect examples of financial institutions that are wrongly perceived by the market. “The Chinese Ping An is much more than just a life insurer. It's also a major player in the area of fintech. That means it's also part of the digital finance trend. And it's the same story at Barclays. It is mainly seen as an investment bank, but it's also a strong retail bank. It has always invested heavily in technology, so it's able to offer better services to companies and consumers. And that's not being valued by the market,” according to the fund manager.

A fund for the longer term
The difficult market conditions for financials are also affecting Robeco New World Financial Equities. Over the last three years the fund didn't manage to beat the index – MSCI All Country Financials NR EUR – with its return of 5.74%1 versus 7.21% for the benchmark. Lemmens: “Some investors are asking why we didn't realize an outperformance. This year the strong numbers of Ping An, Visa and Temenos failed to compensate for the poor earnings numbers of KKR, Blackstone, EFG International, Aegon and SVB Financial. But I consider the fundamentals of the companies in which we invest to still be healthy.”

Analyst Schumacher has also noticed the headwind in recent years for the fund through its investments in emerging markets. “And the holdings in Aegon and Delta Lloyd were painful, too. Robeco New World Financial Equities is a fund for the long term. Investors need to be aware of that.”

Small but experienced management team
Schumacher finds the management team of New World Financial Equities relatively small. Lemmens is the lead manager and is assisted by co-managers Folmer Pietersma and Christian Vondenbusch. Johan van der Lugt and Jeroen van Oerle are involved in the funds as analysts.

“Lemmens is very experienced. He has been analyzing the financial sector his entire career and is crucial to the fund. The knowledge and expertise is concentrate around him and that is definitely a risk. But Vondenbusch and Pietersma are great sparring partners. The management team is of a high quality. The managers also invest in their own funds and Morningstar likes to see that. It brings their own interests in line with those of their investors. Robeco New World Financial Equities is a solid investment fund of above-average quality that has earned the Morningstar Analyst Rating Bronze. Which is why we expect the fund to beat the benchmark over the course of an economic cycle.”

1Share class D, gross return in EUR, based on NAV.

Morningstar Rating for Robeco New World Financials D EUR

Morningstar Analyst Rating for Robeco New World Financials D EUR
Bronze (as of April 2016)

Process: Positive
Performance: Neutral
People: Positive
Parent: Neutral
Price: Positive

Morningstar operates independently and uses two different methods to analyze and rate mutual funds: the first is quantitative – based on historical returns (the Morningstar Rating, also known as the ‘Star Rating’). The second is qualitative in nature, focusing on several characteristics of a fund (the Morningstar Analyst Rating).

The Morningstar Rating uses an automated process with a scale of one to five stars to assess a fund’s historical returns. These returns are adjusted for risk and compared to the fund’s peers. Funds that have performed better than their peers over a period of several years receive four or five stars. Funds that perform less well are awarded one or two stars and those in between, three stars.

Forward looking
Since only historical data is used in the Morningstar stars calculation, the valuation is backward looking and says nothing about a mutual fund’s future performance. This is where the Morningstar Analyst Rating comes in, which is forward looking and takes into account factors that affect the future performance. The Morningstar Analyst Rating is given by an analyst after a thorough analysis of the fund. He awards the qualifications of Gold, Silver, Bronze, Neutral or Negative.

In order to arrive at an Analyst Rating, the Morningstar analyst assesses the five Ps of a mutual fund: People (management team), Parent (fund company), Process (investment process), Performance (for risk adjusted return) and Price (ongoing charges). Each P is rated with Positive, Neutral or Negative.

Based on the overall analysis, the analyst gives a positive (Gold, Silver or Bronze), neutral (Neutral) or negative rating (Negative). Mutual funds that are rated as Negative have a low score on one or more of the Ps. In the case of the Neutral rating, the Morningstar analysts believe that the fund will not make a negative or positive difference at the current time. Funds with the Gold, Silver or Bronze rating – ‘medalists’ – are expected to structurally achieve higher overall returns than similar funds and/or the benchmark in the long term – over an economic cycle. They are the winners of the future.

Under Review
A mutual fund can also have the status Under Review. The Morningstar analysts put a fund Under Review when there is a major change in the fund or the fund house, for example if the fund manager has left. They then determine whether the change affects the investment philosophy and revise their rating if needed.

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