"In this Angle we have often dwelled on our equity investment approach. Most of our readers will know by now that we hunt tirelessly for wide moats, strong management teams and a margin of safety. We have, however, not written much about our philosophy. The term “investment philosophy” is often used in marketing material, possibly because it creates an impression of a mysterious wealth of investment knowledge which has been distilled into the Holy Grail. We see it more practically as our “non-executive board of directors” - offering firm direction but not detail. We summarise our philosophy into three words, Consistent, Conservative and Contrarian. Consistent refers to our methodology, conservative to our assumptions when we value companies and contrarian to where and when we look for opportunities. The first two are relatively easy, the third is not. Consistent and conservative instil discipline in our thinking and methodologies; contrarian instils courage, guts.
In investing “contrarian” simply means to buy an undervalued Microsoft when Apple’s profit and share price is soaring. Or perhaps one of the best examples of our contrarian approach is acquiring ING Group when the very existence of the European Monetary Union is uncertain. Listed in Amsterdam and with most of its assets being European, the Group is caught in the teeth of the gale. The share price tells the tale.
ING Group is a Dutch financial services giant with total assets of €1.2 trillion. The Group generates approximately 70% of profits from banking activities and the remainder from insurance services. Roughly 80% of banking profits are generated in Europe, mostly in the Netherlands, Belgium and Germany. ING’s banking subsidiaries includes ING Direct, the World’s largest direct bank, whose operational efficiency makes it a lethal competitor and also a valuable asset for the Group. ING Insurance generates approximately 25% of profits in the Asia/Pacific region and the remainder about equally in Europe and North America.
Why do we like this business? In short, it is a strong brand with wide distribution and a number of dominant market positions. The bank as well as the insurance business is well capitalised. Despite the tremendous turmoil in Western Europe, ING has been performing well operationally. In 2011 the Group made €4.5bn profit, up from €3.9bn in the previous year.
We added the share to our buy list when it was trading at €9.20; the price is currently €4.80. How did we make such a mistake?
At that stage the company was trading at a 4% discount to tangible net asset value which is generally an attractive entry point for a profitable business. Since then the tangible net asset value has grown by 21% but the share price has dropped by 47%, the result is that the company currently trades at 40% of net tangible assets. Sometimes cheap stocks just get cheaper, and sometimes they get much cheaper.
Naturally we cannot ignore the current uncertainty with regards to the value of European assets; nobody knows how big the hole is. We don’t know either, but we think we know how big the hole is not.
Consider ING Group’s total exposure to the so called “PIIGS” countries:
The Group’s tangible net assets currently exceed its market capitalization by €26bn. This is roughly equal to 40% of the total PIIGS assets on ING’s balance sheet. In our view, it is unlikely that ING will only receive 60% of its entitled cash flows from these countries. Naturally there are many other possible risks, like a contagious banking crisis or large losses in other areas where ING operates, but being contrarian is not risk free. We think the margin of safety is wide enough for our clients to have some exposure to this particular financial services group. If anything but the worst case scenario materialises, our clients should make money."
REF : PAUL BOSMAN
"The PSG Angle is an electronic newsletter of PSG Asset Management."
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