Further to some of the content of my recent OMG post, this set me thinking about trying to reduce risk in my portfolio. This led me onto one of my Investment Trust holdings SMT which having been bought on a double digit discount a few years ago has done very well for me. I bought it as they are focussed growth investors and a good counter balance to my own value / yield style.
However, since GMO seems to reckon US equities are richly priced and this is their largest exposure and it is 17% or so geared and Amazon on 500x this years earnings is their biggest holding at 9.23% it made me think especially as the shares had now re-rated to around NAV. What pushed me over the edge to sell was when I felt they may be displaying hubris when I read this acrticle. Now many people like focussed portfolio's and at least this one is taking some big positions. So if you want exposure to the global tech theme in a low cost global portfolio i wouldn't put you off - just getting a bit rich for my liking.
So what did I do with the proceeds? Well this is where the contrarian value bit comes in and it also relates to the GMO post which suggested that emerging equities looked more promising in terms of valuations. It also happens to be another conviction portfolio, although in this case with an even more extreme exposure to one stock which makes up 34.4% of the portfolio! So what it is is and what it does is probably best explained by their recent interim results.
The contrarian bit with this one is that it gives a slug of emerging exposure (Brazil) through its biggest holding and this has been poor in recent years. The value bit comes in with what they describe as the 35% double discount proposition as follows:
The market value of Hansa Trust’s Ord + A Shares =£187.9m
Ocean Wilsons Holdings sells at a 25.6% discount to the market value of its two parts totalling £454.9m.
Hansa Trust’s 26.45% holding in the above is valued at £120.3m. Adding £120.3m to the market value of the rest of the portfolio gives a “look through NAV” total of £289.9m for Hansa Trust.The market value of the two classes of shares of £187.9m stands at a 35.2% discount to the “look through NAV” of £289.9m.
So this one looks a bit better value to me, has no gearing and I also feel more comfortable with the portfolio elements. Obviously the single stock risk may not be to every ones taste and probably means it will generally trade on a discount, although it has certainly been a lot smaller in the past (single digits) than the the current level of 25%+. It is also however another example of an interesting concentrated portfolio mix beyond the single holding which is easier for managers to pursue in a closed end environment.
Some results today from Land Securities a major UK property investment and development company and a couple of Real Estate Investment Trusts (REITS). These help to highlight current trends in the UK commercial property market.
This has historically been a reasonable source of income for UK investors and can act as a diversifying asset when included in a portfolio with equities and bonds. Commercial property, being large and expensive is difficult for individuals to access directly so these companies offer a good way to gain exposure - if you want it.
Firstly then Land Securities who announced a third quarter interim management statement today. In this they mention good progress on developments and improved occupancy and mention their strong balance sheet with a loan to value (LTV) of 34.6% which is a lot lower than it was pre the 2008 downturn when they had to have a rights issue and cut the dividend. Since then they have been steadily increasing the dividend at a modest rate and today's announcement sees the quarterly payment increase by 2.7% to put the shares on around a 3% yield. This is also paid as a property income dividend which means the tax can be claimed if held in an ISA or pension which boosts the yield by 20%. They also offer a scrip alternative if you want to reinvest and compound this dividend directly. So no that exciting, but you are likely to get some growth in the net assets (or NAV which is another metric that investors focus on with property companies) as the market seems to be recovering just now, especially in London which they are well exposed to. The shares are however trading at a premium to the current NAV.
Further evidence of an improving property market and this spreading out beyond London now to secondary locations came from 2 REITS which also reported today namely Picton Property Income (PCTN) and Schroder Real Estate Investment Trust Limited (SREI). These saw 6.7% and 4.3% rises in underlying NAV's for the fourth quarter of last year reflecting their gearing into a recovering property market. Schroder Real Estate for example stated in their results:
"...evidence of improving market conditions with the latest Investment Property Databank ('IPD') UK Monthly Index reporting a 1.5% increase in average capital values for December 2013, with the pace of growth increasing. This contributed to a total return for the quarter to December 2013 of 4.7% and a total return for calendar 2013 of 10.9%. The current stage of the recovery is notable for improving sentiment towards good secondary property outside of the core Central London markets. This is partly to do with the yield premium available but also reflects an improving occupational market in some regions, as a result of economic growth and reducing levels of supply. "
Both REITS were able to issue new equity last year as they moved onto premiums as investors anticipated improved market conditions. Both offer decent gross yields (as they are based offshore) of around 5%. Of the two Picton's dividend is actually covered 1.22 by earnings whereas the Schroder fund is looking to build cover from its current 0.74x towards 1. Both are geared (total debt to gross property value) to the tune of about 50% so more geared than Land Securites which helps to boost the yield plus the fact that they are invested more in secondary property. However, both mention the improving market beyond London and as they have higher voids (9% PCTN & 12.5% SREI) than Land Securities (1.8%) there is also more scope for them to increase valuations and income if they manage to fill more of these vacant properties in an improving market.
All in all some nice yields and gearing into an improving property market, but not so much value now they are all trading on premiums to NAV reflecting some of the expected future growth already.
Just a quick note today on a couple more interesting sites.
The first one is Crestmont Research which is written by Ed Easterling an author and Co-author of several books. It includes some really interesting charts and data on 10 year earnings and P/E's and secular bull and bear markets. It is very US orientated but still of relevance to investors elsewhere because of the influence of US markets globally.
The second one is a blog called Market Folly which describes itself as giving updates on what top hedge funds are investing in. The latest post on 17th January 2014 was on an interesting client letter about the role of luck in investing from the highly regarded Howard Marks the chairman of Oaktree Capital. As they say if you can't be good be lucky.
This is the first of a three part write up where I look at the background to my investment approach. This part is about why I focus on yield when buying shares and why compounding the income from them is a good idea. Part two will explore what other factors I take into account when selecting income stocks. Part three will look at how I go about constructing an income portfolio and achieving diversification.
So Why Compound Income?
Some investors chase story stocks and growth stocks which they hope will show them either a big and or quick profit. However, they often end up over paying as a result and getting disappointing returns when things don't turn out as they hoped. Though I'm sure many will be able to point to individual growth stocks or speculative E & P stocks they have made a fortune on in a short space of time, I prefer to take a more tried and tested value approach to get rich slowly. Now I know many a reader, if they haven't clciked away already will be thinking boring. But as James Montier pointed out in his book on Value investing:
As Paul Samuelson said, ‘Investing should be dull. It shouldn’t be exciting. Investing should be more like watching paint dry or watching grass grow.'
Plus as Warren Buffet said:
"Investing is simple, but not easy."
So I prefer to keep things simple and based on the history of where returns have come from (dividends) and what has worked (value). In addition I like to screen for Quality and Financial Security, but I will leave the discussion of those and explore value metrics more fully in part two.
When I started my investing journey having read around the subject I learned of the value effect which, despite having been identified decades ago, still seems to be going strong to this day. Great background evidence to this was produced by Tweedy Browne (see what has worked link above to download the evidence) and pages 30 to 35 for the research on high yield. They have also produced a separate paper on High Dividend Yield Return Advantage examining the empirical data.
The second thing that had a great influence on me was what was then called the Equity Gilt Study which in those days was produced BZW or Barclays De Zoete Wedd. This showed the returns to various asset classes over the years and demonstrated that the best long term returns come from shares and that most of the returns from shares in the long term come from dividends. This publication is only available to clients these days, but professors Elroy Dimson and Paul Marsh, who I studied with at the London Business School, have also produced a similar study in recent years and written a book called - Triumph of the Optimists: 101 Years of Global Investment Returns. Or better still you can download a copy of their 2013 Yearbook. This still shows a similar picture and this is where the data for the graph which features on Compound Income↑ blog comes from. Another great source of background commentary and data on these ideas is also contained in Stockopedia's book How to Make Money in Dividend Stocks which is well worth a read if you have not seen it already.
Consequently when I first started investing on my own account in the early 1990's, when self select PEP's first became available, it made sense to me to focus on yield to maximise returns by compounding the dividends in a tax free environment. In those days you were also able to reclaim the 20% tax credit that existed at the time - oh happy days. Thus to sum up why I compound income by buying shares with dividends and yield it is because:
1) In the long run that is where most of the returns come from (see p56 2013 yearbook above for UK data) and also with real growth in dividends it can protect your capital and income from inflation in the long run. So to my mind it therefore makes sense to focus on yield.
2) Value and yield outperform in the long run (see Tweedy Brown links above) and since yield is a successful value factor, by focussing on it I force myself to have a natural value bias in my portfolio.
3) Yield can act as a buy and sell discipline.
Finally to conclude this part with what I have found to be true in my experience over the years, I'll finish with some extracts from the Tweedy Browne Yield paper:
"Professor Siegel also coined the terms “bear market protector” and “return accelerator” to describe how dividend reinvestment during stock market declines can dramatically lessen the time necessary to recoup portfolio losses.
The following conclusions can be drawn:
1. Over the last 100 plus years, an investment in a market-oriented portfolio that included, most importantly, reinvested dividends, would have produced 85 times the wealth
generated by the same portfolio relying solely on capital gains.
2. There is substantial empirical evidence to support a direct correlation between high dividend yields and attractive total returns.
3. Three of the studies found that the best returns were not produced by the highest yielding decile or quintile, but rather by the next highest yielding one or two deciles, or the next
highest yielding quintile.
4. At least one study demonstrated that the returns associated with market-beating high dividend yield stocks were also less volatile in terms of the standard deviation of returns.
5. In several of the studies, high dividend yield stocks also sold at low ratios of price-to-book value and/or price-to-earnings.
6. The return advantages of high dividend yield stocks held for equity securities in both the U.S. and throughout the world.
7. At least one study found that high dividend yield stocks outperformed other value strategies as well as the overall stock market return in declining markets.
8. The reinvestment of dividends from high-yield stocks can dramatically shorten the time necessary to recoup losses in declining markets.
It seems clear, at least from the studies contained herein, that stocks with high dividend yields have enjoyed interesting return advantages over their lower yielding counterparts."
So there you have it the background to my approach which is simple but not necessarily easy to implement or stick with in the long run. In the next part, I will pick up on some of the findings from the research above plus other papers to detail the factors I use when selecting income stocks. So thanks for reading, if you got this far and until next time - good luck with your investing.
Lots of trading updates today - mostly in line with expectations type of thing - which is what you want as a long term investor. So nothing much of added value to write on that front today. Therefore as promised / threatened in my opening post I thought I would share some recent blogs and reports that have caught my eye.
The first one is what gave me the title for this piece and comes from Mish Shedlock's blog. He is quite a prolific writer and not all of his stuff is that relevant to us on this side of the pond as it is quite US centric, but hey where US markets go we tend to follow. This one is though quite relevant to the on going debate about will we won't we have a correction, although as ever the timing is open to debate. As Keynes said, "the market can remain irrational far longer than you can remain solvent."
Next up is the latest from John Mauldin who I have featured before and this is one of his Outside the box letters where he features analysis from other writers and in this case Harry Dent on Demograhics. Some interesting stuff in here about life cycles and there is also a video interview with these two which enable you to sign up for future free updates from these if you wish.
Finally, there is a thought provoking piece from Bill Bonner who does a free Daily Reckoning e-mail. Although it includes advertising for their newsletters and other publications he sometimes comes up with some interesting and thought provoking pieces like this one, which sort of relates loosely to the other two.
Enjoy (?) and be careful out there.