This article was first published in the first-quarter 2016 edition of Personal Finance magazine.
Conventional wisdom has it that investors with a long investment time horizon should be invested in equities, because, over the long term, these investments will out-perform the other major asset classes of bonds, cash and property.
But with 120 South African general equity funds on offer, how do you choose an appropriate fund? There are a few basic rules of thumb. Look for a fund that has out-performed consistently over terms such as three or five years, has low volatility, and does not charge high fees. And do not overlook lesser-known managers, of which Mazi Capital is one.
The Mazi Capital Prime Equity Fund was ranked sixth over three years, with an annual return of 21.05 percent, and second over five years, with an annual return of 24.07 percent, in the South African equity general sub-category to the end of September 2015, according to ProfileData. The fund’s benchmark, the FTSE/JSE Shareholder Weighted Index (Swix), returned 17.64 percent and 17.91 percent over the same periods.
What is your background and how did you get into the investment sector?
Malungelo Zilimbola, the manager of the Mazi Capital Prime Equity Fund: I grew up on a cattle farm outside Mahikeng in North West province. I went to the University of Cape Town in 1992 and did a BSc in quantity surveying. I was drawn to that degree, because it combined both technical skills and commerce; basically, it teaches you to cost and manage the construction of buildings. But I knew that it wasn’t really for me. Despite this, I started working for a construction and property development company in 1997, but the markets crashed the following year and opportunities in the construction industry dried up. I went back to university and studied a BCom (Hons).
After graduation, I was recruited by Investec Asset Management. I worked there for three-and-a-half years and moved to RMB. I left RMB and launched Mazi Capital in 2006 and created a joint venture with Visio Capital whereby we shared offices, a research team and investment ideas. Mazi and Visio parted ways in 2013, but I am still close to the chief executive officer of Visio, Patrice Moyal.
What is the origin of your firm’s name?
“Mazi” refers to a cow in isiXhosa, my mother tongue. It is a meaningful name on a number of levels. First, cattle are the traditional store of wealth and pride for African people. Second, I consciously chose Mazi, the name for the female cow, instead of a bull, which would have been arguably more appropriate in an investment setting. The cow is a metaphor for all the things our firm rates highly: sustainability, dividends and capital growth.
The first products you launched in 2006 were two hedge funds: a market-neutral hedge fund, followed by a long-only hedge fund. Why did you choose hedge funds?
I thought that hedge funds, which can make money in down- and sideways-trending markets, would be the best vehicles to take advantage of the frothy, volatile investment environment at that time. In the early 2000s, the recovery from the 1998 East Asian crisis was in full spate: the economy had boomed since 2001, when the rand had been at an all-time low of R12 to the United States dollar. I thought that a slow-down or downturn was inevitable, so we launched a market-neutral fund. This investment strategy enables the fund manager to earn returns in both up markets and down markets by investing in shares that are likely to go up and by shorting those that are likely to go down. The two funds now have combined assets of about R300 million.
On a more practical level, I knew it was really difficult to break into the retail investment market. The only way a small niche player like us can be taken seriously is by having a good track record.
What investment capital did you have when Mazi and Visio parted ways?
I lost about half of “my portion” of the assets under management that had been invested by institutional investors (such as retirement and other funds). Many investors, quite rightly, wanted to check whether I could replicate the same performance as before. As of 2015, I am happy to say that all the money, plus some more, has come back, and we manage just under R30 billion of institutional money.
What do you do differently to your competitors?
We have developed a thorough investment process. It takes us a lot of time to make a decision to invest. We subject our decision to a range of scenarios, including changes in currency values, changes in the oil price, and so on. When the going gets tough for our selected companies, as it inevitably does from time to time, we hang in.
As an independent company, we are not bound to outside shareholders who have a short-term focus; we are there for our investors. This gives us the luxury of not chopping and changing our holdings, as we have seen some of our competitors do.
If you look at our portfolio, you will see that over 5.2 percent has been invested in Old Mutual shares since July 2010. We have also been overweight in Naspers since 2010. These constant weightings are true of many of the companies we invest in.
Second, I believe we research a wider range of companies than our competitors. This could be because we also manage hedge funds. I will give you an example of how this benefits us. There are always unpopular companies that asset managers and analysts are not keen to spend too much time analysing. Many analysts just toss their latest financial statements into the corner when they arrive. But can you imagine how differently you would think if you were interested in a company because it presented a shorting opportunity? Short sellers think the price is going to go down and borrow the share certificates from someone else with the intention of selling the shares and then buying for their own account at a much lower price. Unlike long-only managers, they take a keen interest in vulnerable companies. So instead of tossing the statements away, you scrutinise the reports to find weaknesses, to see how much you could safely short the company. And, as a by-product, you would discover, long before your long-only competitors, when the company had transformed from a short- to a long-term buy. The share price could double before your competitors woke up to the fact that something in the company had changed.
Tell us about your research process.
Like other value-orientated investment companies, we search for companies that offer long-term, fundamental value. For us, “fundamental value” encapsulates the sustainability of the business model, the quality of the management team and board of directors, balance sheet strength, the clarity of cash generation, and defensive qualities that enable the company to survive a downturn. The companies that meet these requirements should be accessible at a reasonable price relative to their intrinsic value.
We look at the trading conditions, including the operational environment, the company’s global peers, its unlisted peers, the legislative environment, the state of the suppliers to the company and the macro-economic environment. We then move to issues concerning valuation (share price relative to earnings), including projected profits and cash flows.
The third stage is a critical review of the company’s leadership, including the management team and board of directors. We take this very seriously. At Pick n Pay, for example, we were concerned that the executive management was not strong enough to challenge the board, which was populated by family members. At Tiger Brands, we recognised in advance that management did not have the skills and expertise to expand into Nigeria.
On the other hand, when the right people are appointed and they have the correct relationship with the board, it is wonderful to see. I am thinking of the Telkom turnaround story: the combination of Jabu Mabuza, the chairman, and Sipho Maseko, the group chief executive officer, who together have unlocked the potential of the company. They have moved the strategy from cost-cutting to rolling out new products and expansion through acquisitions.
The fourth component of our evaluation process is risk assessment. We debate what can go wrong with a company, the potential for permanent capital loss; we argue about the optimum size of an investment, the liquidity of the company, and the environmental, social and governance components.
In terms of the Association for Savings and Investment South Africa’s rules, the fund could invest 25 percent offshore and a further five percent in Africa. However, the fund is underexposed to foreign equities.
Correct. As I said, one of our requirements is to be close to the management of the companies we invest in. We can’t do our work otherwise. It is vital that we are able to pick up the phone and speak to them. We do not have the relationships in place to do this with offshore companies. And many South African listed companies, such as SABMiller, Aspen and Steinhoff, have wide-ranging exposure to overseas countries, so we can get geographic diversification by investing in those companies.
Why did you choose the Swix as the fund’s benchmark and not the FTSE/JSE All Share Index (Alsi)?
Our clients prefer the Swix to the Alsi. The Swix free float (the number of shares available for buying and selling) represents that proportion of a share’s capital that is held on the South African share register and excludes the foreign shareholding.
Are you concerned about the growing popularity of exchange traded funds (ETFs)?
No. Most people are drawn to ETFs because of their cheap pricing. We offer good value for what our investors get. Our annual management fee is 1.14 percent, including VAT, and our latest total expense ratio was 1.32 percent. The post-fee return above the index has been 7.8 percent and 5.4 percent over 12 months and five years respectively.
It is striking how similar the top 10 investments of many funds in the general equity sub-category are. Could your fund be accused of being a closet index-hugger? Is there a herding factor among general equity fund managers?
Not at all. Yes, many companies have similar top 10 holdings. Naspers, MTN, SABMiller, British American Tobacco and Sasol, for example, feature in a lot of portfolios, but not in the same weightings, and you cannot see from the latest fund fact sheet when they were acquired and at what price. We do attribution analysis (analyse the portfolio and see which investments have added to performance and which ones have caused losses) on an ongoing basis; this means we calculate which companies have added or detracted from our performance relative to our peers.
A company could appear in the top 10 of two different funds but be underweight relative to the index of one and overweight relative to the index of the other. As an example, we were overweight in Naspers and underweight in MTN and both of these shares were among the top 10 holdings of the fund. Another fund manager could have opposite views on both of these shares, but both would still appear in the top 10 list in its portfolio.
The other factor to consider is that the “tail” of the portfolio – those companies that fall outside of the top 10 – could be completely different to our competitors.
What are some of your most successful investments in smaller companies?
Afrimat is a wonderful little company that we have done well from. We bought the shares at R5 a share in 2012, and they are now trading at R27. It is an open-pit mining group, supplying industrial minerals and construction materials to a range of industries across South Africa. The company makes aggregates (materials used in road construction) and has done well from increased municipal spend on road maintenance.
Cashbuild is a well-run retailer of quality building materials. It has 222 outlets and sells directly to a cash-paying customer base. Customers are small contractors – home-builders and improvers. We bought Cashbuild at R21 share; it is now trading at over R315.
Mpact is one of the leading paper and plastics packaging businesses in Southern Africa. The company is a market leader in corrugated packaging, paper manufacturing and recycling. It has a plastics manufacturing business that makes packaging products for the food, beverage, personal and homecare market in South Africa. It has a great management team that has ensured that Mpact has achieved economies of scale and cost-effectiveness. We bought Mpact when it listed at R14 share, and it is now more than R46 a share.
The Rhodes Food Group produces convenience meals. It caters for all income groups and recently acquired Bull Brand. The company is one of the main suppliers of convenience foods to Woolworths. It listed in 2014; we bought the share at the listing price of R12; it is now trading at over R20 a share.
The size of your fund is R185 million, which is relatively small for a fund in the equity general sub-category. The middle-of-the-pack performer, the Allan Gray Equity Fund, has assets of R40 billion, while the Coronation Top 20 Fund weighs in with R20 billion. Do you think that the small size of your fund contributes to its success?
I would not attribute the out-performance of our fund to its relatively small size. Our institutional assets – that is, the assets we manage for pension funds, and so on, outside of this fund but within our company – are valued at about R30 billion and are invested in much the same way, in the same companies, with similar out-performance. Our investment strategy is very scalable.
The criticism of bigger funds is that their sheer size prevents them accessing the smaller companies that can give their performance an edge. With combined assets under management of R30 billion, how do you overcome this obstacle?
There is no substitute for patience. We take our time buying shares. If you wait and take things slowly, you can buy at the right price and in sufficient volume.
Your fund has admirable risk statistics; compared with other equity general funds, its unit price is less volatile, and it has had fewer negative months over the past three years. Your risk : reward ratio, as measured by the Sharpe ratio, is also superior.
Yes, we have been told that. We do not monitor our risk statistics daily, or even quarterly. We know that, if we pay attention to our portfolio construction and share selection, the rest will fall into place.
Which investors have made the biggest impact on your investment style? And which qualities do you think are essential for successful fund management?
I think I have read every book by George Soros; I am a big fan of his independent thinking and style. On the local front, I have respect for David Foord of Foord Asset Management and for my mentor at RMB, Charles Booth.
In terms of which qualities make for a good fund manager, I think of my favourite animal, the hippo. I like it because it is very adaptable: equally at home on land and in the water. But best of all, the low-profile hippo has the power to surprise. I like the idea that, as a fund manager, you must look beyond what is apparent, to a different level.