Reflections on 2002 and Prospects for the Coming Year

Wong Kok Hoi is the Managing Director and Chief Investment Officer of APS Asset Management based in Singapore. He has been the lead manager of the APS Asia Pacific Hedge Fund since its launch in April 2002. Prior to establishing APS, Mr. Wong was employed by Citibank and the GIC in Singapore. He has 20 years of investment experience. The APS Asia Pacific Hedge Fund is an Asia including Japan, equity long/short fund. It was up 20.26% for the year 2002.

Interview with Wong Kok Hoi

1. How did the marketing efforts go at the Goldman Sachs conference in Tokyo, and what are the marketing plans for 2003?

   The trip to the Goldman conference in Tokyo was fruitful. We had more than 10 "one-on-one" meetings with prospective investors. Two fund-of-funds are now looking seriously at investing in our fund. Currently, the fund size is US$10 million. Now that we have built a track-record we are planning a roadshow to the States and Europe early next year. We believe we should meet with some success because our performance has been strong since its inception in April 2002, up 20%, making it one of the best funds this year. This is despite the volatility and uncertainties in the Asian markets.

2. What are the current risks for your portfolio if the United States proceeds with military action in Iraq in the first quarter of 2003? How are you addressing these issues today?

   The APS Asia Pacific Hedge Fund is very much a market-neutral fund, i.e. with low net exposure to the market. We create our alphas from pure stock selection rather than market-directional bets. Therefore, events such as a war in Iraq or terrorists attacks don't affect our fund negatively. We will make money for as long as our stock-picking skills continue to be sharp. This comes from diligent work into company fundamental research and valuation work. This has been our competitive edge all these years.
   

3. The annualised standard deviation for the fund is quite high at 20% per annum since the fund was launched in April 2002. Is this volatility a concern or are you marketing the fund as a high risk/return product?

   I am aware that the investment community in general has a fascination with standard deviation as a measure of risk. At APS we take a different view. We do not see volatility in isolation; we see it together with mean return. In our view, a fund with a minus 5% return with a standard deviation of 5% is a riskier investment than a fund with a mean return of 20% with a standard deviation of 20%, regardless of the angle from which you look at it. I will bet my house on the later fund anytime. We at APS believe that we reduce the risk of the fund by undertaking careful company research and doing detailed valuation work, and by so doing we aim to push the mean return of the fund as far to the right as possible. We don't think by tweaking the standard deviation you are actually reducing portfolio risk. I wish investing was as simple as we studied in textbooks. Since we launched our fund, it has not broken below par value. You can't say that our fund is risky when you don't lose money, can you? We think you reduce your fund risk by not making big bets especially with your short positions and not by guessing the market direction. Hence, we never thought, not even for a moment, that we are running a high risk/return fund.
   

4. You made very healthy returns in going short Japanese banks, is this a trade that you still view as having profit potential?

   Firstly, we don't take trading positions, which is unique for long/short hedge funds. All our positions are established for the long-term. Many Japanese banks have negative equity so although we had made a killing by shorting them we don't think it is time to square our positions yet. I need to see some signs that the economy is about to turn the corner before I square my positions.

5. What other sectors are you finding interesting in Japan for both the long and short portfolios?

   Selective stocks in the drug, video game, electronic, auto and consumer finance sectors make interesting long candidates and the majority of stocks in the remaining sectors are excellent short candidates. In a nutshell, I think Japan is a fertile ground for short candidates.
   

6. What countries and sectors in your mandate are you most optimistic about for 2003?

   We are bullish on the manufacturing, consumer finance, drug, and consumer sectors. We have no preference for any country. We are particularly bearish on banks, property, telecommunications and government-run companies.

7. How are you finding the current conditions to borrow in Korea? Are you shorting individual names in Taiwan through swap arrangements?

   Currently, we do not have short positions in either Taiwan or Korea. However, we are currently looking at some Korean stocks. Swaps are expensive and we eschew paying high costs.
   

8. You also run an extensive relative-value book in the fund. What is the relationship of this book with the investment style for the rest of the fund and the firm?

   That is correct. About 60% of our positions within the fund are correlated in one way or another. We have, for instance, a pair between Japanese banks and Korean credit card companies such as LG Card. We believe that over the long run, credit-card companies are certainly more profitable than Japanese banks. Korean credit-card companies are making a spread of about 13-14% versus the 2-3% that banks are struggling to make. Long-run sustainable ROEs of LG Card for instance is expected to be above 30% as against Japanese banks making negative or low single-digit ROEs. LG Card is selling at a forward PE of about 4x and price-to-book of close to 1x.

   This is definitely a classic example of what we do at APS: investing in companies with strong structural and competitive advantages that will last for at least 3-5 years - and buying them when they are still cheap. We are prepared to hold these stocks long-term and "weather" the market gyrations in between. We will then short stocks that suffer structural weaknesses and are overvalued. Once the positions are taken, we will keep a very close watch on any possible changes in the fundamentals of these companies.
   

9. What are your views on exposure (both net and gross) going into January 2003?

   Initially when we first started out the fund, we wanted to leverage the fund quite substantially. However, with the benefit of our experience so far, we found out that this was not possible. To date, our gross and net exposures have been less than 220% and 15%, respectively. Going forward, our net exposure will decline even further. We really want to generate alpha through our stock picking skills and nothing else.

10. Can you discuss your current views on Venture Manufacturing (Singapore) and Samsung Electronics (South Korea), the two biggest holdings in the fund at the end of November?

    Venture Manufacturing remains the most profitable contract manufacturer in the world today. The company's first-half results, announced in September 2002, showed that the company continued to surprise investors on the upside. Its net profits were up not 5% or 10% but 35% in times when other contract manufacturers are bleeding. Credit must go to senior management. We have invested in and tracked the company for 7 years now; and we think management is first class. We are not selling yet because the company will continue to benefit from the accelerating outsourcing trend.

    Samsung Electronics is a story that most people are familiar with. It is the world leader in DRAMs and TFT-LCD, and is rapidly increasing global market share in the mobile handset business. The company is immensely profitable with free cashflow that alone is expected to be US$5.5bn this year (pre-tax profits exceeding US$12bn). With so much cash, the company is able to invest in building fabs and R&D that pulls it ahead in the technological race, while its competitors lag behind. The amazing thing is that the stock is not priced at 20-25x PE as you might expect, but is priced at about 8x PE! We think that the company will be a very powerful and dominant technology company this decade.
    

Contact Details
APS Asset Management
Singapore
+65 6333 8600
www.aps.com.sg