The latest apparent scandal of these strange times is that Tory MP Jacob Rees-Mogg has been “profiteering” from coronavirus.
In a luridly phrased front page splash, the Sunday Mirror reports the shocking news that Somerset Capital Management (SCM), an investment firm in which Rees-Mogg owns a large stake, has been telling investors that this is a “once in a generation” change to reap big profits from the stock market.
Certainly, these are tumultuous times on the world’s stock exchanges. Most major indices have taken a hammering since the start of the crisis – the FTSE 100 is down 28%, the S&P 500 has lost 23% and the MSCI Emerging Market index is down around 20%.
It’s this state of affairs that prompted Mark Asquith, who runs SCM funds focused on small and medium-sized companies in emerging markets, to tell investors that “history has shown us that super normal returns can be made during this type of environment”. Asquith points out that smaller companies in emerging markets are down around 30%, while markets like Brazil are down 50%. “Market dislocations of this magnitude happen rarely, perhaps once or twice in a generation,” he says.
To the Sunday Mirror, this is a surefire sign of Rees-Mogg’s company heartlessly profiting from a crisis while those suffering job losses or pay cuts suffer. Their piece quotes newly crowned Labour leader Keir Starmer saying that “nobody should be seeking to take advantage of this crisis. We should all be asking ourselves what we can do for our country and each other”. Former shadow chancellor John McDonnell goes even further, telling the paper: “This is about as sick as it comes. Profit seeking from suffering is nearly as low as you can get.”
It’s a good soundbite, of course, but it rests on a ludicrously misleading portrayal of what SCM is actually doing. The whole point of investment funds is to identify when markets have oversold shares, making them undervalued. Large market sell-offs present those opportunities, as markets often overreact. The fund managers at SCM hope to be able to identify these shares that have been oversold, buy them while cheap and see their prices rise as the rest of the market realises the shares in question are undervalued. You could describe this as profiting, but it hardly comes at the expense of anyone else (except perhaps those other investors selling shares should SCM’s stock picks turn out profitable).
Indeed, when markets have fallen, investors being willing to purchase shares is broadly beneficial. Buying shares pushes up the price of shares, which makes financing for companies easier. Companies with higher share prices can also issue new shares for higher prices, increasing the amount they can raise. Added to that, creditors look more favourably upon companies with higher share prices, lowering the cost of borrowing.
Such financing is likely to be vital for firms currently struggling in the global economic downturn. It can mean the difference between going bust or staying afloat. With that in mind, the idea that investors should sit on their hands and not buy into shares deemed cheap in the current crisis is not just wrongheaded, but dangerous.
It’s also worth looking at the sort of companies which SCM is accused of exploiting. The Mirror points out that some SCM funds have been purchasing private hospitals in Brazil and pharmacies in South Africa. These companies are not likely to be massively undervalued by the market right now, given the obvious increase in business they are expected to see due to the pandemic. But SCM clearly sees them as good businesses to own. And, given the excess demand the pandemic is creating, these companies may want to expand their operations. By SCM and other investors owning shares in these companies, their share price is in theory higher, increasing the amount that can be raised.
This isn’t the first time that SCM – and by extension Rees-Mogg – have been accused of a “disaster capitalist” approach, callously taking advantage of others’ hardship. Last year SCM’s focus on emerging markets was held up in some quarters as the real reason Rees-Mogg was such a committed Brexiteer.
There were several versions of this argument. One claim was that outside the EU, Britain would do more trade with emerging markets, allowing SCM to cash in. A slightly more sophisticated argument was that Brexit devalued sterling meaning that profits earned abroad in other currencies are larger when converted back into sterling. A weaker pound, therefore, boosted the sterling return of the emerging market holdings of SCM funds.
Neither of these conspiratorial arguments was worth taking seriously. They relied on the unconvincing idea that Rees-Mogg’s support of Brexit was insincere, as well as a pretty bad understanding of how investing works. What’s more, the actual performance of SCM funds was nothing to write home about, suggesting the disaster capitalists’ grand conspiracy wasn’t actually bearing fruit.
Nor are SCM’s funds doing particularly well during this crisis (along with everyone else, it should be noted). According to performance data on FE Analytics, from the start of February, most of SCM’s funds have lost somewhere between 20% and 30%. Somerset Emerging Market Small Cap has lost just over 28%. In comparison, that fund’s benchmark, the MSCI Emerging Market Small Cap Index (which tracks the share price of small companies in emerging markets), has lost around 24%, while the average loss for funds included in the emerging market sector by the Investment Association is just over 19%.
With this in mind, the supposedly controversial comments from Asquith about shares going cheap should be seen for what they are: adverts for the fund. The value of the holdings of their funds have declined while investors, worried about markets during the pandemic, have sold out of SCM’s funds. SCM is simply trying to keep existing investors on board and attract new ones by pointing out that now may be a good time to buy shares.
Indeed, you can find similar claims in promotional literature from pretty much any actively managed investment fund. Managers regularly claim to have identified undervalued/oversold opportunities which will deliver above market average profits. It doesn’t mean they always succeed, of course – in fact, they rarely do. Indeed, the failure of active managers to provide returns above the market average has fuelled the growth in passive index tracking funds over the last ten years or so.
So, whatever the dramatic-sounding stories might say, SCM are not disaster capitalists profiting from the misfortune of others, but one of many companies hit by the recent market sell-off trying to drum up business.
SCM may well be wrong. Markets might end up declining further, and the companies they buy could turn out to be duds. Or they may be correct, buying into undervalued companies and seeing profits from capital appreciation. Either way, describing their approach as profiting from others’ misery is nothing short of preposterous.
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