The Paragon Australian Long Short Fund generated an overall net return of +26.0 per cent for FY18 compared to the All Ordinaries Accumulation Index of +13.7 per cent.
But zoom out a little and you can see just how volatile the returns have been. The first half of the 2018 financial year saw the fund gain an astonishing +53.1 per cent. In October 2017, the fund jumped 14 per cent higher, following that with another 12 per cent jump in the month of November.
Proving that past performance is no guarantee of future returns, in the second half of the 2018 financial year the fund has fallen 17.7 per cent.
Clearly this is a fund that’s not afraid of volatility, and taking risks. Many of the companies listed below look highly speculative, given earnings to date are non-existent and some valuations are seemingly through the roof.
Mitigating, the fund has clearly done its research, including site visits in China, South Korea and outback Western Australia, and it has a superior long-term track record of investment success, soundly outperforming its benchmark since inception in March 2013.
Electric vehicle theme takes off, then slams on the brakes
In the first half of FY18, the high conviction fund rode the Electric Vehicles theme higher, with its lithium and Cobalt holdings shooting higher.
In lithium, between July and December 2017, the Kidman Resources (ASX:KDR) share price jumped 205 per cent higher, and the Global Geoscience (ASX:GSC) share price soared 161 per cent higher.
In cobalt, over the same period, the Clean TeQ Holdings (ASX:CLQ) share price gained 120 per cent and the European Cobalt (ASX:EUC) share price jumped 74 per cent higher.
The fund first invested in Kidman resources in June 2016 at 14 cents per share, getting in early on the emerging electric vehicles theme, lithium and cobalt being two key raw material ingredients. Kidman shares trade today at $1.60.
The second half of FY18 saw several of the fund’s strong performers correct by around 20 per cent. Half of the fund’s overall decline came from sentiment shifting away from lithium stocks and cobalt stocks, and half came from some of its small cap stocks drifting lower and from some stock specific issues.
Global Geoscience & Kidman the pick of Paragon’s lithium stocks
Shaken but not stirred, the fund is sticking to its guns. It doesn’t believe in the current lithium oversupply anxiety, saying battery metal markets will remain tight. The fund expects strong pricing for the medium term, saying Global Geoscience and Kidman Resources will deliver strong project feasibilities offering exceptional margins versus current spot and contract prices. The fund says Global Geoscience is currently trading at a conservatively fully-diluted and fully-funded Price/NPV of ~0.5 times. The fund has sold its European Cobalt holdings.
Sticking with mining, the fund says the nickel bull market is real, with fundamentals presenting like lithium did 2-3 years ago and cobalt 12-18 months ago. The fund is currently long Western Areas Ltd (ASX:WSA) and small-cap near term producer Panoramic Resources (ASX:PAN).
The fund believes the risk-reward for Agrimin Ltd (ASX:AMN) is asymmetric to the upside and it remains a key high-conviction position. The fund attended a site trip of Agrimin’s outback Western Australian Lake Mackay in April and were positively surprised on the scale and quality of its world class Potassium Sulphate (SOP) project. It says there is no real ‘oversupply anxiety’ bear-case for SOP as all of the other Australian supply contenders are trivial and the large international contenders are in high-risk Eritrea or Ethiopia.
Tech, cannabis and infant milk formula
Away from mining, the fund says strong technological innovation stocks PushPay Holdings (ASX:PPH) and Updater Inc (ASX:UPD) are set to deliver enviable revenue growth and near-term free cashflows. Compared to their sales, both companies trade on nose-bleed valuations.
According to the fund, medicinal cannabis company Cann Group (ASX:CAN) continues to de-risk. Its stage 3 expansion facility has been confirmed, more than doubling to 7,000m2. Cann’s phase 3 potential cashflows will now be ~$150m pa, implying its trading on a very modest forward cashflow of <3x, well below its global peers, the fund says. Cann Group are yet to generate any revenue.
Wattle Health Australia Ltd (ASX:WHA) aims to become the first fully Australian vertically-integrated ‘organic’ infant formula manufacturer pursuing the lucrative Chinese market. The company’s $75 million capital raising to fund its spray dryer facility proved challenging without Chinese brand approvals in place, resulting in a heavily discounted capital raise and rights issue. Whilst the share price correction was significant, the fund says Wattle is now fully funded and has all the necessary ingredients to get brand approvals. Once received, the fund says it will be a game-changer and with the guarantee of its supply chain, provides Wattle key competitive and strategic advantage over some of its peers who are trading many multiples higher.
To round out the fund’s highlighted holdings, it has positions in high quality large caps in upgrade cycles including Seven Group Holdings (ASX:SVW), Origin Energy Ltd (ASX:ORG) and Aristocrat Leisure Limited (ASX:ALL). The companies are all growing strongly with strong operating and financial leverage, according to the fund.