Accounting for the management fee then performance fee, a rise...

Accounting for the management fee then performance fee, a rise of 125% before fees would equate to a more than 100% return after fees. A rational market might compare to an index benchmark in which case VG1 would need to return 125% for every 100% return by the index, e.g. if the market were to rise on average by 10%, then VG1 would need to rise by 12.5% (bear in mind VGI Partners Funds tend to relatively underperform in rising markets but tend to overcompensate for this in falling market periods, on average).

If they say earned only 11% vs. market 10%, you could work out some sort of adjusted value, but the fair discount would be less than 20% IMO (if they were to earn less than 10% over long periods, then it would deserve to trade at a discount, although it is possible it would still rise over time, just at a lower rate, i.e. it doesn’t mean it would necessarily lose money, but it wouldn’t be expected to rise by as much).

Let’s say LICs never ever return to NTA (let alone a premium):That’s where buying with a margin of safety can function to buffer risk.

E.g. Imagine VG1 shares bought at a 15% discount (easy to do currently!). If they were to trade at a 15% discount in perpetuity, then the return for the owner of those shares would approximate the performance of the LIC’s portfolio as a whole, less fees.

So you would miss out on the “turbo charged” returns, but you could still earn a positive return, which could still be a reasonable, healthy return if the portfolio were to perform well.

Further, if the discount were to narrow e.g. to only 10%, then that would boost the owner’s return, even though the LIC would still be being discounted by the market.

So this is all just an application of the principle that price is what you pay, value is what you get (or you get what you pay for!).

This is all quite obvious mathematically but probably worth pointing out.



As you’re aware, essentially all funds make mistakes and have bad underperforming years. 19/20 was VGI’s first negative year since inception in 08/09 over a decade ago, so while it’s too early to judge VG1 over a full market cycle, the unlisted historical performance outperformed so they have their long term track record to stand on and also to justify their fee structure.

The other factor was the VGI shares that were allocated as part of the IPO (this may have been for VG8, from memory, rather than for VG1). It’s true that these are no longer “free” (as they were at the IPO) when buying on the secondary market.

Whilst different funds may have different fee structures, the fee structure was clearly declared in the PDS before the IPO, even with clearly worked examples. So I’d say some of their other justifications for their fee structure would include the IPO’s clear link to part ownership of the Management company, VGI Partners, via the exclusive offer of free VGI shares for those who participated in the IPO (which is unique to VGI over other LICs); the fact it has traded at a premium during its lifetime; their superior methodology; and their long term track record.

So it does come down to performance now as the most important catalyst. Ultimately only performance will justify their fee structure. Historically and over a long period they have performed very strongly and with a high risk/return profile.



I too am attracted to the capital preservation mentality. The combination of high returns despite lower risk taken deserves a higher price premium IMO. During March 2020, the VGI Partners Master Fund actually went up (by 0.7%)! Unfortunately though the next 3 months saw loses totalling 11.0% as they got into trouble with their shorting and USD exposure during the market recovery following the US stimulus and their failure then to maximise their long exposure after the major market downturn.

If they own high ROE companies with favourable long term dynamics and competitive moats, bought at fair value, then they should well outperform the averages. It comes down to their success rate in stock picking being high enough and their making correct allocation decisions at the lows and highs.

Whether or not the short process adds to their skillset in avoiding risky longs, as they say, perhaps they could improve by finding a way to prevent the short portfolio being a drag on their overall returns. I’m glad they chose to remove the shorting from their portfolio in recent times, as IMO there are times to be active and inactive in markets and the past year hasn’t been the time to be active in shorts IMO (I say that with retrospective benefit, but I myself have been very long through this period in my own portfolio). Given that average equities tend to go up over time and also the greater risks involved in shorting, I think this is worth some consideration (a least by us; I’m sure they have considered this on a higher level than me!).

The issue of capital protection interests me, and I find the way it’s managed by fund managers somewhat perplexing. However, I have no formal financial training whatsoever.

Short term mark to market volatility doesn’t bother me, if it’s not due to mistakes. It’s prerequisite to making money in equity markets IMO. I don’t expect to be able to realise large gains if I’m not able to stomach unpredictable negative swings. So that’s the path I take.

Obviously it’s possible for both the long portfolio to go up and the shorts to fall concurrently. That’s the ideal scenario and it’s possible because even if markets are rising, deficient stocks may still drop if their fundamentals play out efficiently. Hence the gross market exposure can be high. However, I wouldn’t be holding much short exposure in this way when the market is anything less than exuberant (unless they can demonstrate that their short portfolio has a positive performance through such periods). Similarly, too much cash hinders returns, if we’re investing over longer time frames.

Given the long term return from equities exceeds cash, why have long periods of time where a Fund has 20-30+% cash? Just as you want to concentrate your portfolio to your best ideas, why put 20-30% (1/4 of the net fund size) into cash? Holding significant cash reserves because the market is overvalued doesn’t work. I think it’s fine to make significant changes at the market extremes, but trying to anticipate potential corrections with the intent to deploy the cash is unreliable as there’ll be too many times where you get it wrong. Too often the market overreacts even when it’s slightly expensive and I don’t think it’s a good idea to be buying and selling all the time. I think funds that stay fully invested tend to do well. I understand there’s optionally from cash, but capital protection can also come from holding quality, etc and if the market falls, you can switch between stocks (e.g. from ones that fell less to ones that fell more). I think 90% of the time the ideal cash is about 5-10% IMO. I’d say that’s probably close to what I hold now.

IMO, a cash of 25-30% as a default weighting is too much to carry on the way up. The 130/30-style funds are even better IMO, but they should allow the manager the flexibility to go to cash, so not being forced to maintain 130% long at all times, even at the obvious height of a bubble.Obviously I look stupid if the next market movement is south, but it’s not about looking silly, it’s about making money. In summary, I think the net exposure most of the time should be minimum approximately 80% with the flexibility to vary the gross even to over 100%.

Whilst I agree that VGI has performed admirably in relation to capital protection, e.g. favourable up/down capture, relatively low volatility, high quality stocks bought fairly and moderate cash balances (the Master Fund has increased manyfold since inception), I do wonder whether they’ve handicapped themselves (in spite of the great returns they’ve achieved).

I still wonder whether they could have outperformed even more had their returns not been hampered by aspects of their capital management, specifically cash levels +/- short levels.

As I’ve stated, I’d prefer to accept volatility as I regard capital preservation as avoidance of permanent capital loss.

The other way they’ve preserved capital, of course, is by their having grown it!

I think that the bubbles are fairly easily spotted and in these types of periods cash and shorts could be transiently ramped up. I don’t think we’re in a bubble right now. It’s debatable where we are and whether or how far overvalued the equity markets are. We’re in a different period where there’s both lots of liquidity and high PE, but it’s hard to judge overall as we’ve never been in the same situation.

If you just look at 1 or 2 metrics out of context, people make conclusions of what will happen next based on historical comparisons of just those metrics. I’m not saying “this time it’s different”, but we’ve never been exactly here and that’s why economic predictions are unreliable, but I don’t feel like it’s a bubble. It’s never been this exact complexity of the combination of where we’ve come from and all the factors now (+ throw in a little bit of quantum theory (think butterfly flapping its wings in a forest or of black swans)).

Given it doesn’t feel like a bubble, during the vast majority of the time, when the markets are in those in-between periods, that excludes the obvious lows (e.g. March 2020) and the probable bubbles, even if a fund holds circa 20-30% net cash, so even when the market occasionally corrects 5-10 or so %, do they deploy a meaningful amount of that? If not, I really think they would actually perform a lot better by being closer to fully invested most of the time.



I think they do have to keep quiet about their short book for obvious reasons. At times when the short exposure is higher, it makes sense to hold some extra cash in case any shorts need covering, but the times when the shorts are increased probably tend to correlate with when cash would be increased also anyway.

By the way, I think funds should be able to publish and comment on their short holdings in the same way funds are allowed to purchase then discuss their long purchases; it’s no different. This argument that they profit from talking down stocks is nonsense. They profit no more than when managers present their longs. Besides, they have more to lose if their theses are exposed as being inaccurate.



As for WAM, I agree it’s not an original idea (but neither is value investing etc). There’s US-based 1607 Capital on the register of VG1 itself. They run a fund investing in discounted LICs and saw value in VG1.



As for index funds and ETFs/ETMFs, they have their own problems, including the extraordinary popularity of passive funds bidding up the prices of the stocks they are forced to own plus the adverse tax consequences versus the company structure of an LIC. Also, the tax consequences are borne by the beneficiary, so when you look at comparison figures this isn’t taken into account so the ETMF can say how well they did but that’s not a true reflection of what the ultimate recipient of the distributions experiences. Hard to find an accumulation index fund in Australia - if anyone knows of any accumulation index funds, please let me know!