L1 Long Short Fund : Quarterly Report - December 2021

L1 Long Short Fund Limited

Quarterly Report | DECEMBER 2021

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The L1 Long Short Fund portfolio returned -1.7% (net)1 for the December quarter (ASX200AI 2.1%).



 Over the past year, the portfolio has returned 30.3% (net)1 (ASX200AI 17.2%) and LSF shares have delivered a

total return of 43%.

 The portfolio has returned more than 25% (net) in each of the past 3 calendar years.

Despite significant volatility within the quarter, global

Returns (Net)1 (%)

L1 Long Short

S&P ASX

Out-

markets were generally positive overall, with

Portfolio

200 AI

performance

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corporate earnings upgrades and reduced contagion

3 Months

-1.7

2.1

-3.8

risk on the Chinese property sector from a potential

default by Evergrande. These more than offset the

6 Months

10.2

3.8

+6.3

emergence of the Omicron variant of the COVID-19

1 Year

30.3

17.2

+13.1

virus and more hawkish comments from the U.S.

Federal Reserve ('Fed') on the tapering of bond

2 Years p.a.

29.9

9.0

+20.9

p rchases.

3 Years p.a.

28.4

13.6

+14.8

The ASX200 had a small gain (+2.1% over the quarter)

with the strongest sectors comprising Materials

LSF Since Inception p.a.

12.7

10.5

+2.2

(+12.7%), Utilities (+11.4%) and Property (+10.1%),

Strategy Since Inception2 p.a.

22.6

8.2

+14.4

while Energy (-8.8%), Information Technology (-6.1%)

nd Financials ex property (-2.2%) lagged.

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The portfolio was impacted by our positioning in reopening beneficiaries and sectors such as travel and energy which were aggressively sold off in November due to market concerns around the spread of the Omicron variant. We were able to utilise the sell- ff to add to our positions in selected stocks as well as identify several attractive new opportunities. Equity markets recovered in December as Omicron concerns moderated and investors adjusted to the more hawkish pivot from the Fed.

Over the quarter, the portfolio was marginally negative, with broad-based stock gains (16 individual stock positions contributed 0.3% or more to returns) and a recovery in reopening beneficiaries in December mitigating much of the impact of the sell-off in November.

We expect volatility to remain elevated as the market reacts to headlines and new data surrounding the Omicron variant and central bank actions. The sharp rebound in markets over 2021 has meant that we currently see less upside in equities relative to 12 months ago. However, we continue to remain constructive going forward as we believe the current environment should be well-suited to our investment approach, with bottom-up stock picking expected to become an even more important driver of returns.

L1 Capital is proud to have received several awards and recognition for the Long Short strategy:
For	Australian Alternative Investment Awards 2021

	─	Winner: Best Alternative Investment Manager of the Year
	─	Winner: Best Listed Alternative Investment Product for L1 Long Short Fund Ltd (ASX:LSF)

 Ranked in the top 20 performing hedge funds globally by HSBC for calendar year 20213  Best performing long short fund in Australia since its inception in 20144

1 All performance numbers are quoted net of fees. Net returns are calculated based on the movement of the underlying investment portfolio. Figures may not sum exactly due to rounding. Indices are shown on total return basis in AUD. 2 Strategy performance and exposure history is for the L1 Long Short Limited (LSF:ASX) since inception on 24 Apr 2018. Prior to this date, data is that of the L1 Capital Long Short Fund - Monthly Class since inception (1 Sep 2014). Past performance should not be taken as an indicator of future performance. 3 Based on full year Fund performance versus published universe of ranked funds as at 14 Jan 2022. 4 Ranking in FE Analytics Australian Shares universe.

Quarterly Report | DECEMBER 2021 | L1 Long Short Fund Limited

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Strong full year result, high cashflow conversion and sale of non-coreassets delivered a P/E re-rating.Exited our holding as near-termcatalysts had played out.

Top 3 position in the nascent U.S. sports betting market, significant growth potential in the core online business and continued takeover interest.

Global leader in drilling technology for the mining sector. Strong earnings results (far above market estimates) and robust outlook on exploration spending and medium-termgrowth.

Improving FCF profile and very strong operating trends in all divisions, especially REA, WSJ, Realtor.com and Book Publishing. Continued efforts by management to unlock shareholder value via improved disclosures, targeted M&A, portfolio and cost rationalisation and share buybacks.

Recovering oil price leading to improved investor sentiment, consensus earnings upgrades and strong free cashflow generation.

Shares surged after showing strong operating momentum in early 2021, along with a large buyback program and a short squeeze. Exited holding in January (around $45), near share price peak.

Comment

L1 Long Short Fund Limited

Quarterly Report | DECEMBER 2021

only2021 in Review

After one of the most volatile and challenging years of our investment careers in 2020, we had hoped for a more stable market backdrop in 2021. Unfortunately, 2021 proved to be almost as eventful with the emergence of the Delta and Omicron variants of the COVID-19 virus extending the impact of the pandemic and continuing to add unprecedented volatility to financial markets.

Given the challenging macroeconomic backdrop, as well as the continued headwind to our investment style (value and cyclicals underperformed growth stocks for the 5th consecutive year in 2021 and in 10 out of the last 11 years in Australia), we are very pleased to have delivered robust returns for our investors, with the portfolio generating a net return of 30.3% in 2021.

useThe Long Short Strategy has now delivered a return above 25% (net) in each of the past three calendar years. We believe there are two primary attributes that have underpinned this performance:

 The depth and quality of company, industry and macro research carried out across the investment team; and

 The unique and flexible structure of the Long Short Strategy that enables us to enhance portfolio returns, while providing downside protection in market sell-offs.

Company, industry and macroeconomic research

personalDetailed, bottom-up stock research remains the investment team's primary focus and the core driver of portfolio performance. 2021 once again demonstrated the team's ability to identify 'winners' through extensive company and industry research across a diverse r nge of sectors. The table below provides a summary of some of the largest contributors to portfolio performance over the year, m ny of which were the top performing stocks in their given sectors.

The table also highlights the number of positions we have exited (refer to the gold highlighted boxes) as near-term value catalysts played out and/or the positions reached our view of fair value. This demonstrates our focus on continually refreshing and rotating the portfolio to ensure it reflects our highest conviction ideas (refer to page 8 where we further outline some of our key ideas going f rward).

Figure 1: Key contributors to portfolio performance in 2021 (in alphabetical order)

Company and sector

Bed Bath & Beyond

R tail

Cenovus Energy

Energy

Downer

ForIndustrials

Entain

Gaming

Imdex

Mining Technology

News Corp

Media

NOTE: Gold boxes indicate stocks exited during the calendar year.

Quarterly Report | DECEMBER 2021 | L1 Long Short Fund Limited

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Figure 2: U.S. CPI Economic Forecast - Q4 2021

7.0%

6.0%

5.0%

4.0%

3.0%

2.0%

1.0%

Source: Bloomberg. Data as at 5 Jan 2022.

				L1 Long Short Fund Limited
only		Quarterly Report | DECEMBER 2021
	Comment
	Company and sector
		QBE		Delivery of its best earnings result and outlook in many years. Premium environment continues to
		I surance		remain very favourable. Strong profit leverage to higher interest rates given $28b investment book.
		Tabcorp		Lotteries performance ahead of market estimates with positive growth outlook supported by game
			design changes and further digital penetration. Demerger of wagering business to be completed by June
		Gaming
		2022.
		Teck Resources
			Strong operating performance along with rising copper, coking coal and zinc prices. Construction of one
use		of the world's largest copper mines (QB2) remains on track.
		R sources
		Telstra		Return to underlying earnings growth led by improving Mobiles segment, cost initiatives and reducing
		Telecommunications		NBN headwinds. Successful sale of a 49% stake in towers portfolio, and scope for further monetisation
			of infrastructure assets. Exited our holding in December given reduced upside to our valuation.
		Treasury Wine		Initially invested after the over-reaction to China tariff news (duties of ~120% to 220%). Management
		Estates		then demonstrated an ability to reallocate their wine portfolio and adjust for the China loss over time.
		Consumer Disc.		Position exited at a ~50% gain.
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		Wells Fargo		Improving compliance and operational performance, falling bad debts and progress towards removal of
		B nking		'asset cap'. Exited our holding in June at a >50% gain.

NOTE: Gold boxes indicate stocks exited during the calendar year.

From a macroeconomic research perspective our views are typically formed from hundreds of conversations the investment team co ducts with management, industry and sector experts both in Australia and offshore. Over the year, there were three areas of f cus (outside of direct stock-related research): inflation, vaccine/COVID-19 and the M&A wave, with these conversations proving to be instrumental in forming and refining our views.

Inflation

We first flagged our views on rising inflationary p essures in our March 2021 Quarterly Report after we held numerous company meetings in early 2021 across many sectors with countless anecdotes of rising input costs and supply chain difficulties. We believed there were elevated risks and higher inflation would be far bigger and more persistent than the consensus view and would overshoot relative to central bank expectations. Accordingly, we positioned the portfolio

Forto mitigate against this risk. The chart below outlines the consensus estimate for

U.S. CPI in Q4 2021and illustrates how forecasts rose fr m ~2.5% in March/April 2021 to ~6.5% by calendar year-end as the market adjusted its view that the

inflation spike was likely to be far bigger than expected. At the end of November 2021, U.S. Federal Reserve ('Fed') Chair, Jerome Powell retired the use of word 'transitory' to describe the inflation outlook and acknowledged that the 'risk of higher inflation has increased'.

The Fed pivoted to a much more hawkish tone over the quarter, with a tapering of its bond-buying program announced in November and a further acceleration in December in response to an exceptionally tight labour market and higher inflation risks.

As we enter a central bank tightening cycle that may see the first U.S. rate hike in March and potentially three or four rate hikes across 2022, we continue to believe that short duration (value/cyclical) stocks remain better placed than long duration (growth/defensive) stocks given that backdrop. Furthermore, we continue to maintain our positions in energy, gold and commodities which have tended to outperform in a higher inflation environment. These sectors remain under-owned and are still trading 'cheap' versus the broader market.

Quarterly Report | DECEMBER 2021 | L1 Long Short Fund Limited

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Deals (No.) (RHS)

Value ($b) (LHS)

L1 Long Short Fund Limited

Quarterly Report | DECEMBER 2021

onlyenhancing protection. An additional factor we believe is a 'game-changer' in the fight against COVID-19 is the encouraging data from antiviral treatments such as Paxlovid from Pfizer. Paxlovid has been shown to deliver an 88% reduction in COVID-19 related

Vaccine recovery

From a vaccine perspective, despite the emergence of the Delta and Omicron variants over the year, our research continues to give

us confidence that the reopening story remains on track and is not fully factored into market expectations. With the recent

emergence of the Omicron variant, we conducted numerous calls with doctors and medical experts to determine the impact the

variant may have. Our research indicates that while the Omicron variant is more contagious, it is much less likely to cause severe

illness or death. Existing vaccines have also been shown to provide strong protection from severe illness with booster doses further

hospitalisation or death in trials of unvaccinated COVID-19 patients when taken within five days of the first symptoms of illness. The

useeq ity investors and M&A lawyers strongly supported this view with consistent feedback of deal pipelines being at record levels. As ill strated in the chart below, 2021 turned out to be a banner year for Australian M&A and exceeded even our bullish expectations

tr atment should remain effective against the Omicron variant and received FDA approval in late December with Pfizer planning to produce 120 million courses by year end.

M&A wave

We first spoke about our bullish views on the M&A cycle in our December 2020 Quarterly Report where we thought we were on

the cusp of a major M&A cycle not seen since 2007. Our anecdotal feedback from conversations with investment bankers, private

with $450b worth of deals announced over the year, compared with a 10-year average of $206b. With takeover offers (or merger proposals) for Z Energy, Oil Search and Link, the Strategy was a beneficiary of the M&A backdrop given our skew to undervalued companies that have strategic appeal.

We expect this robust environment to continue in 2022 with our market feedback continuing to indicate a very robust environment for deal making supported by improved corporate confidence, cheap debt and equity funding, and a supportive economic backdrop.

Figure 3: Announced M&A activity involving an Australian Company

$500b																																3,500
																												$450
$450b
$400b																																3,000
$350b
																		$274
$300b			$268																				2,500
$250b	$203	$224							$211		$205			$206
$200b			$162			$143					$178					$172				2,000
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										$117
$150b									$104
$100b																														1,500
$50b																																	1,000
$0b
For

Source: MST Marquee as at 31 Dec 2021.

Quarterly Report | DECEMBER 2021 | L1 Long Short Fund Limited

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L1 Long Short Fund Limited

Quarterly Report | DECEMBER 2021

onlyBuilt in flexibility of the Long Short Strategy

In addition to the detailed stock and macro research outlined above, another key factor we believe has enhanced performance is the unique and flexible structure of the Long Short Strategy relative to many other funds.

There are three enduring advantages of the Strategy that have enabled us to deliver strong returns to investors over time. We are able to:

 Adjust market exposure - flexibility to adjust our net long to reflect the prevailing risk-reward of the market.

 Short stocks - ability to generate returns from both rising and falling share prices (and protect against the downside when

	markets are falling).
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	Invest globally - access to a broader set of opportunities outside of Australia to best leverage our research insights.

Market exposure

Figure 4 below outlines the movement in our net long exposure relative to the movement in the ASX 200 index and demonstrates how this flexibility positively contributed to portfolio returns. We typically adjust our net long exposure to capitalise on market dislocations and periods where we see an asymmetric risk/reward profile. With the market crash in March 2020, we significantly stepped up our net long exposure to capitalise on what we saw as a 'once in decade' investment opportunity. We steadily increased this exposure through 2020 as we gained greater confidence on positive vaccine news and improvement in corporate earnings

personaltowards the end of the year.

In 2021, we increased our weighting in energy and commodities to provide further insulation to rising inflation risks. We maintained our net exposure above the long-term average with corporate earnings expected to surprise to the upside and further market tailwinds from massive monetary and fiscal stimulus, rising M&A activity and continued economic reopening. With the positive performance over the year, we exited several 'winners' and trimmed our net long exposure in December. Our net long exposure remains higher than its historical average as we continue to have a constructive outlook on markets - valuations of equities remain very compelling compared to bonds, M&A activity is likely to remain robust and 'reopening stocks' should gradually recover back t wards their pre-COVID levels.

Figure 4: LSF Net Long Exposure vs ASX 200

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Source: L1 Capital. Index is shown on total return basis in AUD.

Quarterly Report | DECEMBER 2021 | L1 Long Short Fund Limited

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