How the frog was slowly boiled by interest rates

Interest rates climbed during September. The Swedish 10-year interest rate rose from 3.0% to just over 3.2%. Since Amos Value launched on 6 July, it has risen by 0.6 percentage points. We do not own any speculative companies and are careful with the debt levels of all our operating companies, which means that most of our holdings can withstand rising interest rates reasonably well. However, we are overweight in real estate, where costs are largely driven by interest rates. When interest rates rise, real estate companies become less attractive and their share prices fall.

For a value investor, it is difficult to protect oneself, as real estate company share prices tend to fall when interest rates rise. With rising interest rates, we adjust our intrinsic values downwards, but this also happens on the stock market via falling share prices. The result is that we retain real estate shares, as the margin of safety is roughly the same as before, "thanks to" the falling share prices.

But why own real estate shares at all, one might ask? The simplest answer is that they are cheaper than they have been for a long time, both in terms of earnings capacity and discount to net asset value. The multiples we are currently seeing on companies' earnings capacity have only been witnessed in modern times during the most turbulent period of 2022. At that time, there was even talk of a crisis in the balance sheets of major Swedish banks due to overexposure to the real estate sector. So, we saw pricing as if a systemic crisis were just around the corner. Today, conditions are significantly more stable with good access to capital – but the crisis valuation persists.

A diversified portfolio

Real estate shares have cost us dearly, and it is important to start there. But not everything is negative. A silver lining is simply that we have a diversified portfolio. We own shares in major banks Nordea and SEB, which are likely to be long-term winners in a reasonably rising interest rate environment. They have also performed well during this period. Furthermore, we had the opportunity to take a small position in Avanza Bank when it dipped significantly at the end of the month.

Avanza generally benefits from volatility as brokerage fees tend to increase, but it should also be able to increase its net interest income with moderately rising interest rates. Additionally, it can partially compensate if real estate companies fall further should interest rates continue to climb. The position is small because the margin of safety we saw at the time of purchase was relatively limited. The company itself is fantastic, growing year after year, and also lacks the balance sheet risk that traditional banks are exposed to.

Back to real estate. Just because interest rates are rising doesn't mean companies stand still and wait for better times. Logistea, which is one of our larger positions in the sector, instead acquired properties in both Denmark and Stockholm just days before the turn of the month. They see attractive deals in a challenging environment, and we are not sellers at these levels.

AI winners?

If there's one thing we can confidently announce, it's that Amos Value is not an AI winner. We lack cloud giants like Amazon, Alphabet, and Microsoft in the Nordics, and value companies in chip manufacturing or design are, of course, also absent. However, NYAB, which we wrote about in last month's letter, has an interesting position as a potential winner in electrification and AI infrastructure.

The recently signed agreement with Svenska kraftnät for SEK 1.6 billion for a new power line between Jokkmokk and Boden is proof of this. The project is a cog in the expansion of the power grid needed for a stable electricity supply. This expansion is driven by new server halls, data centres, and other industries. What is particularly interesting for us shareholders is the size of the order: SEK 1.6 billion compared to a market capitalisation of SEK 5.4 billion. However, just like the company's insiders, we have refrained from buying more shares during the month, as the share price has performed strongly. Our position size has therefore consciously decreased somewhat, as new inflows have been allocated to other companies.

Intrinsic value reached

During the month, Avarda Bank reached our intrinsic value, and we have sold the majority of the position. In this case, we had short-term luck in hitting the share price peak. More often than not, it is the opposite; a strong share that is divested tends to continue upwards, at least in the short term. However, this is a price we are willing to pay for discipline. We refuse to become dependent on the next buyer's optimism.

The next time we speak, we will have seen a large number of interim reports, and we anticipate significant movements at the company level – but the overall picture should be stable.