MSTR Q&A with Peter Bull, Morningstar’s Head of Equities

We’re pleased to announce that the MSTR International Shares Active ETF (Managed Fund) has received a Lonsec ‘Recommended’ rating in 2021. Investors in the multi-asset portfolios will already have exposure to MSTR through those portfolios. Alternatively, investing in MSTR is as simple as buying shares via financial adviser, stockbroker or online broker account. Use the ticker code: MSTR. 

Morningstar’s investment team likes to challenge the untested business models that run rampant in the trendier of-the-moment companies, instead focusing on stocks with proven fundamentals and robust moats.

The Morningstar International Shares Active ETF (Managed Fund) (MSTR), launched in 2019, puts this theory into practise. Concentrating on high-quality companies, it’s a distillation of Morningstar’s investment philosophy – taking a holistic, long-term view with strong company fundamentals at its core.

In referencing fundamentals, we speak specifically to the cashflows that investments generate. Daniel Needham, Morningstar Investment Management’s Global CIO & President defines fundamentals as follows: “The way to think about that is when you have a term deposit or a bank account, you get interest on that bank account, and the money you put in and the interest are the fundamentals of that bank account. When we say fundamentals, what we mean are the cashflows that you get as the owner of an investment, which is often a company or a share of a company.”

By centring fundamentals in the investment process, MSTR is positioned to take a steady approach to returns. Ultimately, this means a smoother ride over the long-term to achieving an investors’ financial goals.  

Peter Bull, Head of Equities, Morningstar Investment Management Australia, answers some questions about MSTR.

• What are some of the best opportunities or highest quality stocks we see right now? 

We’ve done really well with semiconductors (essential materials – ‘the brains’ – used in a range of electronic devices) like TSM recently, and we continue to like them. Our process is naturally drawn to them and we would continue to hold them on a selective basis unless they become drastically over-valued. Semiconductors can be subject to demand cycles but they also have considerable strengths as they become more ubiquitous and specialised every year. It’s a space where you can be both value-conscious and benefit from significant competitive advantages on the supply and demand sides.

We also continue to like a lot of Japanese companies. Some people label them as having ‘lazy’ balance sheets, which is true to a degree, but that also reduces equity risk and can positively impact valuation.

Luxury retail is another recurring theme for us with names like LVMH, Richemont and Christian Dior. These are profitable niche companies with pricing power and favourable dynamics that play out over the long-term.

We hold almost no cash in our equity portfolios and we are consistent about that. The fund targets a very low cash balance, but we nevertheless pay a lot of attention to the cash levels held on our companies’ balance sheets, which has a direct impact on the overall equity risk and valuation of the portfolio. The returns on cash are exceedingly low, and at times certain cash exposures guarantee low or negative real returns. We don’t believe that would be in the best interest of our clients given that they have come into our fund for equity exposure. We do invest in a way that protects them on the downside as well.

How would you describe your portfolio construction process?

We start by determining the metrics to analyse both quality and earning power for a global universe of companies. Quality for us means durable profitability and balance sheet resilience. Once we’ve established earning power and a risk framework to capitalise it, we look further into the reinvestment dynamics of companies and how that can impact future profits. From there we select about 300 companies based on the competing criteria of quality, value, and liquidity.

While the process is systematic, it’s ultimately secondary to the investment objectives which are very practical and tangible real-world outcomes. We’re not particularly concerned with style definitions of quality, value, or growth. However, as characteristics of individual companies, they are critically useful concepts.

Is the increasing popularity of active ETFs crowding the market, and if so, how does that affect MSTR’s opportunities? 

The more the better. With their ease of transacting and reporting, ETFs represent an efficient channel for all types of investors. For a long time in Australia, investors could invest in active international funds, or ones that charge reasonable fees, but not both within the same fund. Globally listed equities are special in that they are an incredibly efficient asset class in terms of transaction costs, but they are also an incredibly rich, nearly unlimited opportunity set. There’s no reason that that unique combination shouldn’t translate directly into better outcomes for Australian investors. Locally listed ETFs facilitate that, whether they’re active or passive.

Within Morningstar, we are also very fortunate that are there are substantial in-house resources and specialists to make sure we’re following best practices around things like disclosure and ensuring that investors get the best deal possible.

How does your investment philosophy enable capital preservation and a smoother ride over the long term? 

Morningstar is very focused on capital preservation and valuation which form the basis for how we run the portfolio. A lot of managers talk about capital preservation and limiting drawdowns and those are worthy goals. But we take it a step further and pay attention to recovery periods from downturns. If you have a fully invested equity portfolio that would recover from sharp a downturn in two or three years instead of 10 or 20, that has a huge impact on investor outcomes and behaviours. Investors come to us for equity exposure and they should be able to weather a couple years of downturn. However, nobody should have to endure a permanent loss of capital or put themselves in a position where that is a significant risk. To the best of our ability, we will not put them in that position, while at the same time lock in the growth returns that they require.

Lonsec disclosure:

The rating issued 04/2021 is published by Lonsec Research Pty Ltd ABN 11 151 658 561 AFSL 421 445 (Lonsec). Ratings are general advice only, and have been prepared without taking account of your objectives, financial situation or needs. Consider your personal circumstances, read the product disclosure statement and seek independent financial advice before investing. The rating is not a recommendation to purchase, sell or hold any product. Past performance information is not indicative of future performance. Ratings are subject to change without notice and Lonsec assumes no obligation to update. Lonsec uses objective criteria and receives a fee from the Fund Manager. Visit lonsec.com.au for ratings information and to access the full report. © 2020 Lonsec. All rights reserved.

Morningstar disclaimer:

This document is issued by Morningstar Investment Management Australia Limited (ABN 54 071 808 501, AFS Licence No. 228986), (‘Morningstar’). Morningstar is the Responsible Entity and issuer Morningstar International Shares Active ETF (Managed Fund) (MSTR). © Copyright of this document is owned by Morningstar and any related bodies corporate that are involved in the document’s creation. As such the document, or any part of it, should not be copied, reproduced, scanned or embodied in any other document or distributed to another party without the prior written consent of Morningstar. The information provided is for general use only. In compiling this document, Morningstar has relied on information and data supplied by third parties including information providers (such as S&P Dow Jones, MSCI, Barclays, FTSE). Whilst all reasonable care has been taken to ensure the accuracy of information provided, neither Morningstar nor its third parties accept responsibility for any inaccuracy or for investment decisions or any other actions taken by any person on the basis or context of the information included. Past performance is not a reliable indicator of future performance. Morningstar does not guarantee the performance of any investment or the return of capital. Morningstar warns that (a) Morningstar has not considered any individual person’s objectives, financial situation or particular needs, and (b) individuals should seek advice and consider whether the advice is appropriate in light of their goals, objectives and current situation. Refer to our Financial Services Guide (FSG) for more information at morningstarinvestments.com.au/fsg. Before making any decision about whether to invest in MSTR, individuals should obtain and consider the disclosure document. For a copy of the disclosure document, please go to https://morningstarinvestments.com.au/how-to-invest/mf-pds/