Further to my note at the start of the week, decided to do a few trades today in the end, although maybe not the best day to do it. There was however some news flow from a stock that I have been tracking for a while which has de-rated quite a bit, so that prompted me into action.
The sales were of stocks which may be more vulnerable to a slow down / recession in economies - so decided to exit those as the Scores had been suggesting that for little while so getting back with the programme as it were.
Against that the buys seem to be in a position to cope with the economic climate, based on the news flow mentioned above and the nature of their operations. Subscribers will be able to see details of these in their sheets with brief comments alongside.
Cheers, mind how you go and be careful out there.
Thought I would try something different and write up an individual stock based on how it looks in the Scores to see if that appeals to anyone.
The stock I have chosen for this is perhaps a slightly contrarian opportunity as it is a seller of upmarket branded clothing and accessories, Burberry (BRBY - see fact sheet via the link highlighted name). Consequently it might seem like a strange one to investigate when there is a cost of living crisis brewing up a potential recession and problems in China due to the latest Covid related lock downs.
All of which might put a dampener on sales of their famous check gaberdine raincoats and related checked accessories. Then again those who are prepared to splash out thousands on such items probably won't be too troubled by filling up their gas guzzling Range Rovers & Bentleys, the cost of groceries going up or heating their draughty mansions or swanky Penthouses I guess.
So enough rambling lets take a walk through the financials etc:
CI Score = 65/ 100 against other UK dividend paying stocks in the Compound Income Scores universe, based on an EBIT/ Enterprise Value Yield of just under 10%. It also offers a forward dividend yield of 3.4% which is predicated on these growing at around a double digit rate - which should take care of inflation and maintain the value of that yield at least in real terms for now - so not too bad I'd say. While on the our more broadly based value score across a broader universe of some 1500+ UK stocks used in our VQM model it Scores 61/100 and 61 overall in terms of VQM, dragged down by the poor price momentum.
So overall it is offering slightly better than average value at the moment. It is also worth noting that the current prospective PE of around 15-16x is somewhat below average for the last 5 to 10 years which has usually been close to 20x or above probably reflecting the quality and growth that this one has demonstrated over the years. It is a bit lower right now given rising bond yields and the sell off in higher rated growth stocks recently & perhaps the concerns about recession etc. on retailers.
On the dividend, which has generally grown steadily over the years, apart from the recent pandemic, although they have suggested they will return to pre-covid levels going forwards. So it is yielding an above average 3.4% against the historic average of around 2.5%. On dividend safety (as measured by cover ratios) and dividend growth it also scores slightly better than average with scores of 58/100 & 68/100.
Thus if they can achieve the forecasts which those ratings are based on and get back to their average historic rating of around 20x with a 2.5% yield then this could suggest potential upside of around 25 to 35%. We can gain some reassurance on that as their recent update suggested they were confident of hitting their numbers for this year and their comments on the dividend, they have also seen earnings upgrades where they Score 84/100 and helps to support this view.
Obviously it is too early to say for the year to March 2023 given the concerns outlined at the start, so if one if cautious it might be best to wait to see what they have to say when they report full year numbers tomorrow. However, having come through a bit of a restructuring in the last couple of years and with a new CEO having just arrived it seems they are confident of making progress if their Factsheet (linked to above) is to be believed.
Operating Metrics & Financial Security or Quality
They Score well on this front with a mid teens operating margin and around a 20% ROCE over the last 5 years along with limited borrowings and an improving balance sheet. So on these metric they Score 92 & 80. While it is worth noting that they are looking to get debt to EBITDA in the range of 0.5-1.0x and they have been undertaking share buy backs too in an attempt to achieve this and as part of their capital allocation policy. On the back of this they Score 81 (100 is best) on our SHY score.
Summary & Conclusion
Based on the factors in the Scores covered above Burberry comes out in the top decile in the Compound Income Scores and was purchased for the portfolio after their update and upgrades earlier in the year. Since then it has drifted off with the market and on the back of a sell off in higher rated stocks due to rising bond yields and in this case perhaps their exposure to Chinese consumers too, given the lock downs over there as well as cost of living / recessionary worries.
On valuation grounds it would appear that there might be some upside of around 25-35% (£20 to £21) if they can deliver the currently forecast earnings and dividends and make it back towards their historic average rating. Thus it seems the market might be offering an opportunity to buy a quality branded company at a reasonable price given the current market and economic uncertainties.
On that basis it will remain in the Compound Income Scores portfolio and I think it might be a good opportunity to pick some up for the longer term on even better terms now. If you are a cautious investor then I'd suggest adding it to your watch list and wait for further updates with their final results tomorrow. For traders, looking at the graph below it looks like it could be a potential trade ahead of tomorrows figures with recent support just below 1500p which would be 100p of downside, versus potential towards around 1800p and a recent gap on the chart for a 2:1 reward to risk if that's enough for you. Longer term I've suggested it could get back to around 2000p plus which would be a more generous 4:1 reward to risk.
Of course nobody knows what the future holds and it is possible that they might be hit more than currently forecast by the economic difficulties around the world and that markets might sell off more this summer. So mind how you go and don't forget to take a (Burberry) umbrella with you in case of summer showers.
If you have enjoyed this post and would like to find other similar ideas and opportunities across the UK market, then do check out our Scores and how you can gain access to them by clicking here.
A note for subscribers about a further enhancement to the recently added expanded All Scores Section, although it may also be of interest to others & potential subscribers too.
In addition to the Haugen QVM, SHY and Conservative formula Scores across some 1600 UK stocks, we have added some new absolute & relative price momentum indicators. These are available for all these stocks in addition to the Triple Trend Momentum indicators on the 500 or so original Compound Income Scores stocks. They are designed as a quick way to identify stocks with the strongest and weakest trends based on the absolute total returns over 12 months and their relative performance over the last 12 months too less the latest month to make allowance for short term mean reversion.
Those with positive trends on both of these measures (those with the strongest momentum trend) will be flagged as Buy, while those positive in just one of those are suggested as Hold. Finally those with negative trends on both of these (the weakest momentum stocks) are suggested as Sells. Now these should probably not be followed blindly, but I hope that subscribers will find them useful in quickly identifying if a stock that Scores well and they are researching is in a strong upward or downward trend and being aware of that before taking further action.
The thinking behind this is based on the Dual Momentum research popularized by Gary Antonacci in his various research papers and his book called Dual Momentum Investing which all suggests that this can help to deliver higher returns at lower risk. He did mostly suggested applying this to sectors or as an overlay to index asset allocation as a way of reducing turnover and downside in more negative market periods. Nevertheless I think it could be helpful at the stock level too which is why I have added it to the All Scores as a quick guide to the strongest and weakest stocks in terms of momentum, particularly as we are currently going through one of those periodic more difficult times in the market. If subscribers do have any questions or feedback then do please get in touch. Or if you'd like to become a subscriber then please see here for details of how to sign up for access to the Scores and these momentum indicators plus the associated portfolio.
Further note for subscribers.
Footnote on next scheduled update & Monthly Screening. Having avoided extra turnover last month and as I will be holidaying abroad for the first time in a few years around the end of the month, I will probably bring forward this months screening to next week & I will endeavour to keep the Scores updated assuming the hotel wi-fi is up to the job. Not sure if I will have the time or inclination to do a detailed performance update this month though, but lets see, adios Amigos for now.
Introduction / background comments
Another tricky month for investors as economies Worldwide struggle with the fall out from the Russian invasion of Ukraine in terms of its impact on supply chains and inflation. In addition these macro economic concerns are reinforced by the Geo-political concerns as NATO countries ramp up their military & humanitarian support for Ukraine. This is being done despite the potential of Ukraine & other Eastern European Nations joining NATO having led to the invasion, according to the Russians. As a result they now accuse the West of fighting a Proxy war, although I guess they were damned if they did and damned if they didn't. Hopefully it might come to some peaceful resolution soon, although a long drawn out messy affair or a War of attrition seems more likely at the moment. Markets continue to struggle against this background and as Central Banks grapple with the now non transitory inflation along with trying again to reduce the stimulus that they have been dishing out to varying degrees since the GFC and more recently during the Pandemic.
As a result Bond yields seem to have finally broken out to the upside to bring to an end (for now) the long bull run they have enjoyed since the early 1980's. I say for now as if these moves lead to an economic slowdown / recession and a market rout then it is always possible that inflation could come down quicker than expected & the tightening might not be as large as currently discounted. Some also worry about deflationary pressures resuming after the current inflation surge is over, although I'm not personally convinced by those arguments at present.
Alternatively, as in the past, Central Banks may again halt their tightening programmes and once again open the liquidity taps again if markets cut up rough and economies seem to be heading for a serious downturn. This might lead to another rally in bonds if inflation is by then showing signs of coming down again and equities might then join in the fun down the line if any or all of that comes to pass.
Of course that could be wishful thinking or it "could be different this time" to coin an expensive phrase - with more persistent inflation and Central Banks therefore having to push on with rate rises and draining liquidity to bring inflation under control despite the damage to economies and stock markets. Or there is an outside chance that they could pull off a dampening of inflation along with achieving a rare soft landing. I won't believe in either of those until I see them, but as ever time will tell I guess.
For now the sell off in bonds and equities seems likely to continue as investors anticipate further rate rises from Central Banks and are starting to worry about / discount tougher times or a recession ahead. Having said that though some of the economic stats like PMI's and unemployment are still showing positive trends, so a recession is not guaranteed just yet, but it remains to be seen how long that lasts.
April proved to be another negative month for the Compound Income Scores portfolio (CISP) which was disappointing as the FTSE All Share did manage to eek out a positive return as shown in the table at the start of this piece. Thus for the YTD the CISP is - 9.3% versus the +0.8% for the All Share.
As mentioned last month this is partly down to the make up of the CISP versus the FTSE All Share in terms of exposure to large caps. By way of illustration it just over 60% in FTSE 350 stocks and within that it is skewed towards Mid 250 stocks which have been hit harder than the big FTSE stocks. AIM and small cap holdings have also suffered bigger hits in a reversal of their previous outperformance in recent years.
There were quite a few names that therefore suffered double digit falls and not enough risers to offset this overall. One of the bigger fallers was Ashtead, which at least was reduced in last months screening, but with the benefit of 20:20 hindsight I obviously wish I'd sold it all. Which brings me on to an update about this months screening
There were quite a few names this month which had seen their scores deteriorate sufficiently to be up for consideration for being sold. 6 of these were repeat offenders from last month, including Ashtead again, plus one recent purchase.
In the end I decided to give all of these the benefit of the doubt this month as in some cases the reasons for holding remained the same and in others like Ashtead they seemed very oversold. So I was reluctant to sell them on that basis in the expectation that we might see some mean reversion in the next month, as is often the case after a big move. In addition some of the possible replacement candidates did not look that cheap and on the flip side had pretty strong one month performance. Thus having put through quite a bit of turnover the previous month and as it seems hard to add much value from trading currently unless something is obviously at risk. So it seemed prudent to save on turnover in what might have been poorly timed / marginal trades.
Just a quick note for subscribers, in case you are not aware, brief notes on the Monthly Screening and candidates that are considered on both sides of the ledger are shown in the Journal tab, but these appear below the news flow comments. Since this may not have been obvious, I have therefore moved those this month to the foot of the Transactions sheet where more logically they can then be read in conjunction with the trades actually carried out in the rows above.
Summary & Conclusion
Another difficult month for investors as bonds and equities continue their sell offs. While for the more general public it is becoming increasingly difficult to make ends meet as inflation continues to soar and as Central Banks tighten monetary policy and look to drain liquidity.
As a result bonds seem to have ended their long bull run for now and equities have generally entered what would be deemed a correction or even a bear market depending on which index you are looking at. This is on expectations of further action to come from the Central Banks and some rising concerns that this will likely lead to negative economic growth and a potential recession later this year or in 2023.
Apart from a brief inversion of a yield curve last month as an early indicator other economic indicators such as PMI indices and unemployment data are not signalling trouble ahead just yet and the UK headline indices continue in a bullish trend for now as FTSE 100 stocks have performed well overall this year as Commodity producers have prospered. Outside of that the Mid, Smaller and AIM indices have all slipped into bearish downtrends to the detriment of the CISP as shown in the table at the top.
Nevertheless I shall be sticking with the process as I believe it remains sound as demonstrated by the longer term track record of nearly 15% per annum compound returns since inception. Overall as I always say you have to take the rough with the smooth in this game and not get too carried away when things are going well nor too depressed when things are tougher. Indeed Ray Dalio of Bridgewater (one of the largest Hedge Funds in the World) said as much when he was reviewing the current state of play recently on Linkedin.
So mind how you go and I hope markets are not being to cruel to your portfolio & it's not going down like a Led Zeppelin! However you are managing it remember not to get too down if things are tough as that is all part of the investing game and you have to learn to live with Good Times, Bad Times.
Introduction / background comments
Not a great quarter for markets or the World in fact as the terrible Russian invasion of Ukraine is on going. While Covid seems to be doing its best to continue to disrupt things despite many Countries moving on from restrictions and trying to live with it as a mild endemic kind of thing. Coming out of that on the economic front we are facing inflationary pressures brought about by a hangover from the pandemic, the effects of the Ukraine invasion and in the case of the UK the on going issues arising from BREXIT, if I dare mention that?
As if that were not enough we also have behind the curve Central Banks trying to play catch up and put the inflation genie back in the lamp even though that is what they wished for. As indicated by Fed Chairman Powell when he updated their policy back in August 2020 when he said they would allow inflation to run hot for some time above their 2% target. Be careful what you wish for as the old saying goes!
With Central Banks and the US Fed in particular now ramping up their intention to raise rate we have seen an early inversion of the 2 year to 10 year yield curve there which has historically been a reliable indicator of a forthcoming recession within the next couple of years. There has been quite a bit of debate about the significance of this at present given the Central Banks policy of financial repression by keeping short rates artificially low.
So there is probably no need to panic about equities on the back of this just yet, but it does suggest that at some point as short rates rise then some problems may arise in the financial system. That in conjunction with the on going squeeze in living standards could then lead to a recession perhaps later this year of in 2023. However for now the economic indicators I follow and the market timing indicators for the main UK equity indices (FTSE 100, 350 & All Share) are still suggesting it is right to stay invested, although Mid Caps and Small Caps remain in a bear trend for now. Of Course you'd have to decide for yourself based on your own risk tolerance etc.
March was at least a positive month for the Compound Income Scores portfolio (CISP) with a +0.4% total return, although this again lagged behind the FTSE All Share which returned +1.3%. Thus in the year to date after declines in January & February the CISP has a -7.5% total return for the YTD versus the +0.5% for the FTSE All Share. See the table & graph at the top of this post which show this & performance together with longer time periods and since inception.
This recent underperformance and indeed some of the outperformance in the longer term is partly explained by the portfolio tilt towards Mid & Small cap names and away from FTSE. More of the FTSE has held up or have even gone up in the recent market conditions marking a rare moment in the sun compared to recent years when investor generally shunned them and chased tech shares in the US and elsewhere. This had left them looking pretty cheap and with a heavy exposure to Commodity names this outperformance may well continue for now.
I suspect the Mid & Smaller cap parts of the market may, in the main, be more sensitive to an economic pressures brought about by commodity prices and problems brought on by the cost of living squeeze. So I suspect the CISP may continue to struggle against that background, but I will try and address it as far as I can with the forthcoming monthly screenings.
Which brings me onto this months screening which did throw up quite a few names where the Scores had deteriorated enough to make me consider their position in the portfolio. There were 6 of these which I decided to keep as I am happy with their recent updates and fundamentals etc. in the current environment. One of these though, Ashtead (AHT), I did top slice given the lower score, as it had grown to be the second largest holding, but I will run the rest for now as it seems like a quality compounder.
Aside from that I did process three natural sales based on their Scores and the fundamental outlook. These were Kingfisher (KGF), which I must admit does look fundamentally cheap, although there are question marks about the outlook on the consumer / housing front etc. While the portfolio also has another name which is exposed to some of the same categories in a more limited way, but I'm trying to reduce duplication in the portfolio and increase the diversification by business type too when carrying out transactions, unless there is a strong trend or theme I'm looking to play to a greater extent.
In a similar way the portfolio also said farewell to a more successful position than Kingfisher with the sale of Jarvis Securities (JIM). This had been a beneficiary of the boom in trading during the pandemic, but that seems to have come to an end now. While they may be a beneficiary of rising interest rates, they have seen some big downgrades and the forecast outlook is pretty flat. This one has in the past gone to sleep in price terms & I suspect it could be entering another one of those periods, although it does seem a pretty good business in terms of its financial metrics for the longer term, so I wouldn't put you off holding if you want to. In the context of the CISP this is a another situation where it also holds a similarly exposed business but in this case it is the bigger, better diversified and cheaper IG Group (IGG). So with the waning of the dealing boom by private punters and a more difficult market back ground it seems reasonable to reduce exposure to that theme, but retain IG group which at least seems to benefit from tougher markets.
The final sale was of another seemingly cheap share Barclays (BARC) which has seen its score slip on the back of downgrades post what seemed like ok results. While it may also be a beneficiary of rising rates, it could also be more vulnerable to worsening economic and market conditions. Their case was also not helped by them over issuing a ETN offering which they will now have to pay a large sum of money in compensation. So out it went as it is a bank after all.
Against those sales on the purchase side I did add a couple of financials to replace the two sold which bring in the main a different kind of exposure to markets. One was a strong recent momentum play, while the other was a much smaller more contrarian value type of play. Aside from those I added a well managed, if somewhat boring packaging distributor Macfarlane (MACF) which has traded well and continues to look cheap on the back of some decent upgrades. Aside from those I also reinvested the proceeds of the Ashtead (AHT) top slice into another quality / growth situation which has de-rated quite a bit along with other higher rated names recently. So now seemed like a reasonable time to bring it up to an average weighting in the portfolio after their recent in line trading update seems to have reassured investors.
Subscribers will be able to see full details of the transactions in their Scores sheets. May I also take this opportunity to welcome all the new subscribers this quarter. If you'd like to join them then you can do so here.
Hopefully the rest of the year might be more productive for the CISP and your investments. So may I wish you well with your investing, mind how you go and don't forget to be careful what you wish for.