Last week, we updated our income-biased stock portfolio. This week, we look at our growth-oriented portfolio.
We have made some changes to the growth-oriented portfolio, which include sector and stock rebalancing, baselining for the start of the year, the replacement of Santos, and the inclusion of Amcor and JB Hi-Fi.
Critically, the purpose of these portfolios is to demonstrate an approach and methodology to portfolio construction that SMSFs could apply.
In relation to this growth-oriented portfolio, we need to state some important caveats upfront. Firstly, recognising the importance of tax effective income from dividends to the overall portfolio return, and a general aversion by many SMSFs to taking excessive risk, our sector biases are not strong. While there is an orientation to the sectors and stocks that we believe will grow over the medium term, our aim is to design a portfolio that will also track the overall market reasonably closely, as measured by the S&P/ASX 200 Accumulation Index. It is only a bias towards growth.
Secondly, our universe of stocks to select from is, by and large, confined to the top 100 stocks. More often than not, the stocks with the best medium-term growth prospects will come from outside this group, in particular, the so-called ‘small’ caps.
With these caveats decked, let’s move onto the portfolio construction.
Sector biases
Similar to our approach to the income-biased portfolio, we are applying a ‘top-down’ approach to the industry sectors, and introducing biases that favour the sectors that have the best medium-term growth prospects. Overlaying this is a view that the Australian dollar will decline further this year, which will favour, in the short- to medium-term, specific sectors and stocks.
Notwithstanding that ‘health care’ was one of the better performing sectors on the ASX last year, we maintain that the growth in healthcare spending by western governments, together with this being one of the few industries that Australia can claim a position of leadership, creates favourable long-term growth prospects for this sector. We are also marginally overweight in the so-called ‘cyclicals’ – ‘consumer discretionary’ and ‘industrials’.
Conversely, the sectors where we propose to invest less than their index share are ‘financials’ and ‘property trusts’, and to a lesser extent, ‘consumer staples’ (the so-called ‘defensive’ sectors). With the banks, revenue growth is low single digit, yields are a lot less attractive following the increase in their share prices in 2013, and arguably, they are expensive compared to their international counterparts.
On a sector basis, our portfolio compares to the market (S&P/ASX 200) as follows:
Stocks
Working on the basis that we need at least 10 stocks for diversification and that once you get over 25, it becomes pretty hard to monitor, we have selected 22 stocks. This is more than the income-biased portfolio, reflecting in part the increased risk in stock selection.
Critically, we have biased the stock selection to companies that will benefit from a falling Australian dollar – either because they earn a major share of their revenue offshore, and/or report their earnings in US dollars.
In the ‘consumer discretionary’ sector, we have stuck with Crown (one of the best performing stocks in 2013), and to obtain some exposure to the retailing industry, added JB Hi-Fi. Like Crown, most of the retailers ran pretty hard in 2013 as investors prepared for a pick-up in consumer sentiment. Our sense is that this still has a little further to go, and while JB Hi-Fi is expensive, it is probably the pick of the larger specialty retailers. With ‘consumer staples’, Woolworths is starting to look cheap relative to Wesfarmers, and we have reversed the bias on an index basis to now favour Woolworths.
For the ‘financials’, we continue to avoid insurance companies, and have taken a marginally overweight position in the Sydney banks, Commonwealth Bank and Westpac, and an underweight position in ANZ. Commonwealth Bank is the clear leader in Australian banking, and while priced at a premium to the other banks, the premium is justified. Regional banks ran hard last year and appear to be now fully priced.
In ‘health care’, we have included CSL, Primary and Ramsay. Ramsay has been a star performer and is now trading on a forecast PE of 27.2 – and while on paper it is just so expensive, management keeps delivering year after year and we are going to back it again. Although Computershare is classified as ‘information technology’, its global registry business provides good exposure to buoyant global stock markets and the resultant increase in primary market issues.
With ‘materials’, we are roughly index weight in the ‘metals and mining’ sub-sector, through exposure to the major miners BHP and RIO. We have avoided gold stocks, and included both Orica and Amcor. As a supplier and manufacturer of commercial explosives and mining chemicals, Orica also provides exposure to the mining industry. The newly demerged Amcor brings exposure to a global flexible and rigid plastics business.
Portfolio
Our growth-oriented portfolio per $100,000 invested (using prices as at the close of business on 31 December 2013) is as follows:
[1]
Forecast returns
Using consensus broker forecasts from FN Arena, the portfolio has the following characteristics:
Forecast PE for 2014: 16.08
Forecast Dividend Yield for 2014: 4.29%
Franking: 85.1%
For an SMSF in the accumulation phase, the 4.29% dividend yield will translate to a return of 5.07% pa (after tax), and for a fund in pension phase, the income return will increase to 5.85% pa.
Of course, as a growth-biased portfolio, our investment timeframe is in the three- to five-year range, and while short-term investment performance (including dividends) is important, our aim is to deliver slightly above-market performance over that timeframe. We will keep a close eye on the growth-biased portfolio, and report back in coming editions of the Switzer Super Report.
Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.
Also in the Switzer Super Report:
- Peter Switzer: Invest more as the dollar dives [2]
- James Dunn: Five small caps for 2014 [3]
- Barrie Dunstan: What the gurus – Bill Gross, Jeremy Grantham and Ray Dalio – are saying [4]
- Rudi Filapek-Vandyck: Buy, Sell, Hold – what the brokers say [5]