Performance Comments
June marked the end of the first half of 2025, which was quite volatile and treacherous to navigate. We went from a broadening of the market out of the Mag7 to a sharp 20% drawdown after geopolitical events, followed by a wave of risk-on sentiment that pushed markets to new highs. Usually, all this uncertainty would translate into more cautious markets, but the opposite happened. It is not as if all the issues have been resolved: debts are piling up, (financial) institutions are hollowed out, the ‘everything bubble’ continues, geopolitics drives commodity prices up, tariffs and trade-wars have the potential to push inflation back up, private markets have to exit investments (wall of maturities), household finances in the bottom-20% are stretched, private stable-coins challenge central bank authority and, to top it off, climate risks in the form of extreme heat, floodings and wildfires are threatening lives, finances and insurance models. We believe the market is complacent. This can be partly explained by the low participation of active management in daily trading. CBOE data showed that only 10% of NYSE trading is active management, versus 80% in 1995. That is an important number to keep in the back of your mind.
Despite all this doom, the gloom is certainly in the market performance itself. In absolute USD terms, the Fund is up by double digits for the year, in line with the reference index. This also holds true for the month of June. Despite not owning any of the Mag7 (which are back in favour), the Fund was able to keep up with the reference index. Besides the drag from the Mag7, we also saw payment companies in the US struggle with private stable-coins that, if we believe the believers, would threaten the payment infrastructure of companies like Visa and Mastercard. However, as in the past, we think these beliefs are misguided. Payment companies remain relevant, and their services will not become obsolete. There are many reasons for this, too many to discuss here, but at its core, the value-added services of payment companies are required to run any infrastructure, albeit fiat or crypto. Fraud prevention, KYC/AML and chargebacks are still needed on the new rails. Besides that, when you look at the stable-coin requirements in detail, fiat currency is not replaced. In the end, stable-coins need to be backed up by T-bills, paid in USD. Payment processing companies must still perform that heavy lifting from one account to the other and, as we have seen in China, can play an important role in processing any type of transaction instead of becoming obsolete technology. Unfortunately, the hype narrative took over again, which caused the underperformance of US payment companies in June. On the bright side, our Chinese exposure to payment companies and banking software recorded a stellar performance, up 30-40% for the month. Our payment exposure in Brazil also added to performance in June, as did the takeover rumours for Allfunds.
We see a similar picture for the first half of the year in terms of contributors and detractors. US payment names and the Mag7 have been the biggest drag on performance YTD, while our emerging-market payment exposure (with China in the lead) and our European brokers/investment platforms did very well. In the end, the positives and negatives cancelled each other out from a relative perspective versus the reference index, while showing a strong absolute performance in the first six months of the year.
Zooming in on June, the Fund was up in absolute terms and flat relative to its reference index. Allocation showed a small plus, especially in Consumer Discretionary, Consumer Staples and Healthcare (after a weak performance last month). Selection was slightly negative, mainly caused by not owning the Mag7. Upcoming FinTech performed best during the month (+6.8%), followed by Enabling Technology (+4.6%) and Established FinTech (+2.9%). The stocks that contributed most to performance were Allfunds (+21.6%), Yeahka (+40%) and Lakala (+38%). The worst performance came from Rakuten Bank (-12.5%), Paymentus (-14.2%) and Paycom (-10.7%). The portfolio’s current positioning comprises 38% Established FinTech, 40% Enabling Technology and 22% Upcoming FinTech.
Market Review
The UST 10-year yield decreased slightly in June to 4.2%. The Bloomberg Commodity Index ended up 2.1% for the month, spiking at +7.4% intra-month, driven by Energy. The VIX ended up at around 17 versus 18 in the previous month.
Thematic Insights
FinTech stocks provide natural hedges against rising inflation and a potential economic slowdown. Physical payment companies (payment processors and merchant acquirers that focus on physical stores as opposed to e-commerce) tend to benefit most from this natural hedge. Fundamentals for payment companies have been strong and the outlook remains positive. We do see a slowdown on the software side, which is why we have repositioned the portfolio away from the more expensive software names and towards the cheaper, quality payment companies. We also believe high-quality companies will benefit more than their loss-making, hyper-growth peers, as long as access to credit is declining and borrowing costs are rising. This is because quality companies can fund growth from their profits and cash reserves. Management can also make a substantial difference, and most high-quality companies have a team that has gone through several economic cycles and can navigate most market conditions.
C-suite level discussions are focused on digital strategy, which has moved from “nice to have” to “must have” to remain competitive and meet the needs of all stakeholders. Shareholder rewards have gone to digital leaders: clients expect services to be able to continue in the event of another lockdown, and staff expect the right tools to perform their jobs in a work-from-home environment.
Portfolio Activity
We did not buy or sell any new positions in June. We also did not decrease or increase positions.
Outlook
The FinTech sector benefits from strong secular growth trends, such as the move away from physical cash, the digitalisation of financial services and the rising role of cybersecurity. The pandemic accelerated these trends through both push and pull forces – businesses have started to invest more in digital infrastructure so they can remain open during any future lockdowns, and consumers are demanding digital services for reasons of health, user experience or convenience.
Our investment process aims to select the highest-quality companies that can benefit from these trends to build a well-diversified portfolio. We believe the most important factors to watch are company-specific fundamentals such as revenue and earnings growth, return on equity (ROE), cash flow return on investment (CFROI) and balance sheet strength. We also monitor macroeconomic factors such as interest rates, inflation and growth. We diversify between Financial and Technology companies, aiming to create a stable, disciplined portfolio that can weather a multitude of market conditions. Within our FinTech mandate, our portfolio management style is best described as “quality growth at a reasonable price”.
Certain segments of the FinTech market are extremely interesting from a valuation perspective. Payments, for example, is a segment that has been sold by many generalists and is only held by a handful of specialist long-only funds. Despite the extremely good fundamentals, active managers and passives all accumulate positions around the Magnificent 7 stocks. As a result, the quality growth at a reasonable price strategy proliferates, particularly in the payments sub-sector where growth (both earnings and top-line) is higher than the market, quality is extremely high (this segment produces the top 10% of CFROIs globally), and valuations show a discount to the market.
Sincerely,
LO Funds–FinTech investment team
