Transcript: Current volatility strengthens case for international exposure

Is this the end for U.S. exceptionalism?

DR: There’s been a great period where the U.S. really has created a lot of winner-take-all type businesses. But the valuations and the growth there has really priced in a lot of that already. It is the largest, most powerful economy in the world right now, and Donald Trump is really flexing their muscles to take advantage of that. So, there’s definitely still a lot of advantages in the U.S., but also there’s higher expectations, and there’s a lot of opportunities and things they just don’t do there. The U.S. is still filled with amazing companies with great management teams, very, very entrepreneurial, very focused on shareholder wealth creation. But there’s companies like that around the world. The valuations around the world can be a little bit better.

Names he likes in the current moment

DR: There’s a lot of different moving pieces, when you’re evaluating who’s winning from AI. There’s entities that have a high customer interaction cost, like an Uber. Then there’s the providers of these models. Some will win, some will lose. And that seems to change on a monthly basis. But then the enablers behind them all — the actual equipment makers that are really agnostic about which model works, as long as they do — those are the other big beneficiaries of this AI cycle. We have chosen more to align our capital in the enablers. So TSMC (Taiwan Semiconductor Manufacturing Company) is our top holding. If it’s Google’s TPUs, if that wins, they’ll be made by TSMC. If Nvidia wins, they’ll be made by TSMC. Taiwan Semiconductor is an amazing company, trading at about 20 times earnings, growing about 20% a year.

Tencent has shown great results as their AI models are actually helping them monetize users even better. Better than before, and this was very well. So, yeah, there’s definitely a lot of wins for companies around the world with AI.

More names within the AI sector, the AI enablers. This one sounds really boring, but they’ve got a great position: King Slide. They make the rails that actually hold the AI servers, and slide them in and out. In the newer editions of Nvidia servers, instead of one, instead of eight, instead of 16, there’s 30-plus different entities, weighing up to 200 kilograms. So, there’s a lot more demand for rails in general. And these are very high-value servers. King Slide has a huge patent portfolio that’s enabled them to be really the dominant AI server rail kit, and they’re growing very rapidly, even though they’re a very small cost of an AI server.

High bandwidth memory is heavily used in AI and in high demand. And SK Hynix, based in South Korea, is the dominant player there. The memory industry is very volatile, so we really do have to watch for capital expenditures. But it’s almost like an oligopoly. They’re raising prices by hundreds of per cents over last year. And the fact that some of them almost went bankrupt in the early 2020s, we’re seeing a lot more rationality with the capital expenditures, with new capacity they’re building, despite massively high demand.

Wise is an interesting business. Their origin was just cross border payments. And they’ve gotten bigger and bigger. And economies of scale have enabled them to pass back to the consumers, keeping their margins flat, where other companies might let their margins get wider and wider. What this does is it potentially opens up a winner-takes-most or winner-takes-all situation where they just have such scale and such advantages that no one can really catch them. So, they’re growing fast.

And finally, what’s the key takeaway for investors who are considering widening their portfolios to include more international names?

DR: I’ve been investing internationally since 2004 and it’s a normal operating parameter that something surprising is always happening. Some country is invading another country. Some country is going through political change. There’s a regulatory change. So, it’s normal that there is always something that is causing volatility in the market. It’s not usually the U.S. being the main source of volatility. But that’s what’s going on right now. I think the biggest thing to remember is that diversification mitigates the unforecastable. There’s opportunity sets outside of Canada and the U.S.: the AI enablers, the technology companies like TSMC, or the memory makers. Or even just different financial cycles, banks that are in a more stable environment or an environment where interest rates and the net interest margins are increasing. That diversification of opportunities helps reduce the volatility in a portfolio. So, I think that’s the biggest thing to remember when you’re investing, and why one should think about investing outside of North America. The U.S. remains a market with some great companies and some good opportunities, but there is going to be hiccups, and diversification is contradictions in the portfolio. The ideal is you have a portfolio of companies that are really low-correlated to each other and provide you with decent returns without the volatility. I think that’s what true diversification is. It’s contradiction.

Well, those are today’s Soundbites, brought to you by Investment Executive and sponsored by Canada Life. Our thanks again to David Ragan of Mawer Investment Management. Visit us at investmentexecutive.com, where you can sign up for our a.m. newsletter and never miss another Soundbite. Thanks for listening.

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