Bob Desmond just added this tech giant to his portfolio - Here's why
In this episode of The Pitch, Claremont Global's Bob Desmond shares why investors should always focus on quality companies.
Note: This episode was recorded on Thursday 31 October 2024.
As a high-conviction fund manager who typically holds no more than 15 companies, Claremont Global's Bob Desmond isn't one to trade much.
So, it's interesting to learn that he's been making some major moves this year.
This includes the sell-down of his position in Nike (NYSE: NKE) - which he pitched as part of Livewire's Outlook Series for 2024, and staking new positions in financial technology provider Jack Henry (NASDAQ: JKHY) earlier in the year, and more recently, in global tech giant Amazon (NASDAQ: AMZN).
But it's the "why" here that is really important here, compared to the "what".
Nike is "an amazing business with very good organic growth and very good returns on capital scale advantages", Desmond says, but the quality of the business started to disintegrate in 2024. The direct-to-consumer model didn't work - and management turned out to be the straw that broke the camel's back.
On the other side of that equation, Amazon is increasingly becoming a higher quality company - with earnings becoming far more stable and management investing heavily in growth - particularly in its AWS, digital advertising and hyperscale businesses. The valuation isn't too bad either, Desmond says, and surprisingly trades below slower-growing companies like Costco (NYSE: COST).
In this episode of The Pitch, Desmond shares why he believes investors should always focus on quality companies - no matter where we are in the market cycle. He also outlines how the Fund has performed in recent times as Momentum has outperformed Quality, and talks through his major portfolio moves during the year.
Edited Transcript
Ally Selby: Hello and welcome to The Pitch brought to you by Livewire Markets. I'm Ally Selby, and today you'll be learning why you should always focus on quality companies no matter where we are in the market cycle. To do that, we're joined by Bob Desmond from Claremont Global. Thanks so much for joining us today, Bob.
Bob Desmond: Quality for us is not an earth-shattering magic formula, but for us, at the end of the day, it's a business that has an enduring competitive advantage, which allows us to look out a long time into the future and have confidence around its earnings. Its competitive advantage in its business model and numerically that tends to look like decent organic growth, high margins, high returns on invested capital, and strong balance sheets. The key thing for us is the predictability of that business. It doesn't have to be super fast growth, but it's the predictability of the earnings and the stability of the competitive advantage.
They are. As you'd expect, obviously, with the higher margins, the strong balance sheets, the defensive earnings, I think that's a key thing as well. And then I think also psychologically, if you own quality when you get into down markets, it's a lot easier to deal with mentally because one of the big tricks to managing money is the psychological impact. So when you know that you own quality, the average business we own is over 80 years old, they've been around and you know that they'll be defensive and it allows you in downturns to be more aggressive rather than fearful.
How do you define quality?
Why do you believe investors should be focusing on quality stocks at this point in time?
I always believe investors should be focusing on quality stocks, to be honest, Ally. The keyword there is investor. So if you're an investor, you are trying to look for long-term returns. Obviously, if you're someone who's what I would call a speculator or someone who trades markets, well then obviously you want to move where the action is. But I think if you're looking to compound capital over long periods of time, you should always be looking at quality.
We talked before about the predictability of earnings. Are those quality businesses more defensive in the case of a market downturn?
You backed Nike as part of Livewire's Outlook Series for 2024. The stock's down 27% year to date. Did you see the quality attributes of that stock decline during the year?
I think we also evaluated management incorrectly. That was probably the final straw for us in that we just did not have confidence in the management and that is a business that does need good management. It became increasingly clear to us that they had lost a lot of good people. You've seen the CEO's been fired. Now they brought in Elliott Hill, who I think is absolutely the right person to turn Nike around.
And I think the third part was also, it was always part of our risks thesis, that consumer businesses scale looks to be less and less of an advantage. We've seen that in lots of parts of the consumer sector and it appears to be the case in Nike now. We'll see. I'm sure that Elliott Hill over a number of years will do a good job, but we always start from what we know today and it just didn't tick our quality boxes. So we exited.
The fund has underperformed over the last 12 months. If you are investing in quality businesses with reliable earnings, why did that happen?
Do you see that reversing anytime soon?
Not really, to be honest, but then no one ever sees bear markets come in. You can look back to when interest rates were 5-5.5% and no one predicted that stock markets would be up 40% in the last 12 months. It always feels like what's current will last forever. But there are risks, there are high valuations. We've got an election we've got to get to. There are lots of geopolitical risks. The market is primed for good news continuing, and sometimes that doesn't always happen.
Is there a quality business that you've added to the portfolio recently? And if so, what's the thesis behind that stock?
We've added two names this year. We tend not to trade very much. One was Jack Henry (NASDAQ: JKHY) earlier in the year, and then more recently, it was Amazon (NASDAQ: AMZN). Now that's a business we've followed for a long period of time. It was always on our watch list rather than the approved list because its earnings weren't that stable and the multiples were always very, very high.
I think more recently the earnings have become a lot more stable, but the key thing for us there is you can see that they've invested a lot ahead of growth. And you can see them now running a lot of growth ahead of that investment. Plus the mix of businesses - so, if you look at their highest margin businesses, that is going to be the AWS business, the hyperscale business, and also their digital advertising. So, with the growth in those businesses, you can see a very easy path to margins inflecting upwards over time into double-digit realms.
If you run the numbers, we think you can easily see mid-teens to high-teens growth there over the next five years. But the key thing, as well, is the valuation. So, that normally trades at 50 times earnings. We bought it at 30 times earnings. It is interesting that everyone goes on about the Mag 7 and their valuations. Compare that to something like Costco (NYSE: COST), which trades at 50 times, which is probably only a 10-11% grower. So, it was a quality valuation that ticked all our boxes. So, we bought it in that big sell-off we had in September when the Yen was unwinding.
A global portfolio of 10-15 quality growth businesses for the long term
Claremont Global is a high conviction portfolio of value-creating businesses at reasonable prices. For further information, visit their website or fund profiles below.
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Claremont Global Fund (Hedged) (Managed Fund) (CGHE)
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Ally Selby is the deputy managing editor at Livewire Markets, joining the team at the end of 2020. She loves all things investing, financial literacy and content creation, having previously worked for the likes of Financial Standard, Pedestrian Group, Your Money, Sky Business and Sky News.
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Ally Selby is the deputy managing editor at Livewire Markets, joining the team at the end of 2020. She loves all things investing, financial literacy and content creation, having previously worked for the likes of Financial Standard, Pedestrian...
Expertise
Ally Selby is the deputy managing editor at Livewire Markets, joining the team at the end of 2020. She loves all things investing, financial literacy and content creation, having previously worked for the likes of Financial Standard, Pedestrian...
Expertise
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