Humans don’t change: Expert names 2 ASX shares that exploit our urges

Ask A Fund Manager: Atlas Funds Management’s Hugh Dive tells how inevitable his real estate stocks would rise again after the initial COVID-19 crash.

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Atlas Funds Management chief investment officer Hugh Dive

Image source: Atlas Funds Management

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Ask A Fund Manager

The Motley Fool chats with fund managers so that you can get an insight into how the professionals think. In this edition, Atlas Funds Management chief investment officer Hugh Dive explains why the ASX shares that are his two biggest holdings are so fantastic.

Investment style

The Motley Fool: How would you describe your fund to a potential client?

Hugh Dive: I’m Hugh Dive from Atlas Funds Management, here to talk to you about the Atlas High Income Property Fund. This is an income-related property fund. We’re owning a bunch of real assets and are executing a covered-call strategy over the assets that we hold. So this allows us to collect dividends

We’ve chosen real assets, namely listed infrastructure and listed property, in that their distributions aren’t particularly volatile, and so they’re much easier to write calls over. Unlike, for example, the banks or miners, where the distributions can be very volatile. [Real estate ASX shares] don’t move around that much. That’s a great thing for us. 

Secondly, we’re selling a covered call strategy over this, allowing us to harvest extra income for our investors. Systematically, we’d see that investors overestimate the blue sky, and that results in close to 80% of our calls that we sell expiring worthless, and that’s a good source of income for our investors. This allows us to pay investors 7%, or 1.75%, every quarter. 

The fund has been running since early 2017. It’s listed on the ASX under code AFM01

It’s a growing one that’s doing quite well at the moment, in that real assets are viewed as quite popular, and the covered-call strategy is working well.

Biggest convictions

MF: What are your two biggest holdings?

HD: The two biggest holdings are Shopping Cntrs Austrls Prprty Gp Re Ltd (ASX: SCP) and Arena REIT No 1 (ASX: ARF)

SCA Property Group is a group that owns 91 shopping centres, and these are not the glitzy Westfield centres you see in the centre of the city, but generally a Woolworths Group Ltd (ASX: WOW) or Coles Group Ltd (ASX: COL) with a Dan Murphy’s or a BWS right next to it. So, very consumer staples sort of retailing. 

[It had] done very well during [COVID-19]. People still had to eat. People still enjoy drinking alcohol. 

The 91 shopping centres are worth around $4.4 billion, and the part we like about it is they’re very long lease terms. The average lease term is close to 10 years, and it’s all linked to inflation. So, this would be a beneficiary of further inflation, particularly food inflation, in that the landlords of shopping centres, like SCA, have base rent plus a turnover rent component, so they get a bit of extra when more money’s going through. So, food inflation is a very good thing for this company.

The second-biggest holding we have in the portfolio is a company called Arena REIT. That is a company that owns 256 childcare and healthcare centres across Australia. Again, a very long lease term. We like long lease terms. The lease term there is even greater, at 20 years — all linked to inflation. 

We saw during March 2020, Arena REIT fell very heavily, thinking that people weren’t going to go to childcare centres. Then the government stepped in. Despite the fact it was down close to 40% in March, [there was] absolutely no change to their earnings. All tracking along. It’s all linked to inflation. 

One of the great parts about Arena REIT is their lease structure’s quite different to most property trusts in that they’re triple lease backed. That means the person renting the centre has to pay maintenance costs, any ongoing taxes, and any improvement costs into it. So it means there’s a very clean pass-through, whereas the likes of Dexus Property Group (ASX: DXS) or Scentre Group (ASX: SCG) actually have to pay to upgrade their assets. 

So very stable, very high visibility on earnings, and very long-running earnings. They’re two companies that are our two biggest holdings, and we’re very, very happy with how they’ve been going. 

MF: Is the fact that Arena’s agreement with its tenants a little bit different, is that a consequence of the childcare industry, is it? 

HD: Correct. There’s often quirks in the different sectors. For example, one of the quirks in the office property trust area is tenants get offered incentives, and that incentive moves around from 10% [to] 30% of the lease, and that’s generally structured in terms of fit-outs or even just straight out cashback. So, you pay a headline rate of $1000 a square metre, but you really might only be paying $700. 

MF: I see the Arena share price has done really well. It’s now well above its pre-COVID high? 

HD: Yeah. It was quite a wild time during COVID for a lot of these property trusts, where the market viewed that anything to do with a real asset or real estate was suddenly worthless and it was all going to go down. 

But what’s shown over the last couple of years is that that is not to be true. 

There was a view that toll roads were going to be stranded assets. No one’s ever going to use a toll road. Certainly, no one’s going to an office again. Shopping centres were going to be cavernous, empty houses filled with pigeons, and childcare centres and medical centres weren’t going to get used. 

And it’s all proved to be false. 

One of the benefits of experience and having done this a long while is that these extreme situations rarely play out, and you have to attach a low probability to fundamental changes in human behaviour. 

When I look at disasters for real estate, in 480 BC, the Persian king Xerxes sacked the agora in Athens, and that impacted Athenian retail sales, as shoppers were put to the sword and the city was burnt. But a mere 10 years later, it was all rebuilt, and Athenian retail sales continued to increase. And indeed, I was actually at this several-thousand-year-old shopping centre about a year or two ago and bought some items there. 

Human beings will bounce back. It didn’t turn out to be that human beings would permanently sit in their caves and never come out again because that’s just against human nature. We like to dine out. We like to buy things. And in offices, we like to congregate together in order to increase productivity. 

MF: Even caves are real assets, so someone’s got to rent those. 

HD: Ha ha ha, yeah.

Motley Fool contributor Tony Yoo has no position in any of the stocks mentioned. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has no position in any of the stocks mentioned. The Motley Fool Australia owns and has recommended COLESGROUP DEF SET and Shopping Centres Australasia Property Group. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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