With the ASX rallying by more than 4% in March, our model portfolios made strong gains. Our income portfolio surged due to the performance of defensive stocks like Medibank and Sydney Airport, and is now (just) back in the black.
Year to date, our income portfolio has outperformed the index by 2.75%, while the growth portfolio has underperformed by 1.23%.
The purpose of these portfolios is to demonstrate an approach to portfolio construction. As the rule sets applied are of critical importance, we have also provided a quick recap on these.
Portfolio recap
In January, we made some adjustments to our Australian share ‘Income Portfolio’ and ‘Growth Oriented Portfolio’ (see here [1]).
To construct the income portfolio, the processes we applied included:
- we used a ‘top down approach’ looking at the industry sectors;
- so that we are not overly exposed to a market move, we have determined that in the major sectors (financials and materials), our sector biases will not be more than 33% away from index;
- we require 15 to 20 stocks (less than 10 is insufficient diversification, over 25 it is too hard to monitor), and have set a minimum stock investment of $3,000;
- we confined our stock universe to the ASX 150;
- we have avoided stocks from industries where there is a high level of exogenous risk, such as airlines;
- for the income portfolio, we prioritised stocks that pay fully franked dividends and have a strong earnings track record; and
- within a sector, the stocks are broadly weighted to their respective index weight, although there are some biases.
The growth-oriented portfolio takes a different approach in that it introduces biases that favour the sectors that we judge to have the best medium term growth prospects. Critically, it also confines the stock universe to the ASX 150 (there are many great growth companies outside the top 150).
Overlaying these processes were our predominant investment themes for 2016, which we expected to be:
- Continued low interest rates (yield sectors will continue to perform);
- The US Fed will be very cautious about further US interest rate rises;
- AUD at around 0.70 US cents, but with risk of breaking down;
- Commodity prices remaining weak;
- A positive lead (or at least not a negative lead)from the US markets; and
- Growth running below trend in Australia.
Performance
The income-oriented portfolio to 31 March is just in the black (flat) and the growth=oriented portfolio is down by 3.98% (see tables at the end). Compared to the benchmark S&P/ASX 200 Accumulation Index (which adds back income from dividends), the income portfolio has outperformed the index by 2.75% and the growth-oriented portfolio has underperformed by 1.23%.
[2]All sectors positive in March
After a pretty horrible first two months of the calendar year, the S&P/ASX 200 added 4.7% in March to finish the quarter down 2.8%. All sectors made headway in March. The biggest sector financials, which by market weight represents 39.1% of the index, recorded the strongest gain in the month of 6.7%. However, reflecting ongoing market concerns about capital and credit provisioning with the major banks, and a negative lead from offshore markets, this sector is still the worst performing sector this year, with a return of -9.7%.
With the AUD moving higher on the back of a weakening USD, gains in those sectors more exposed to stronger currency were muted. For example, the health care sector only added 0.3% during the month.
After a horrid start to the year, firming iron ore, copper and gold prices helped to push the materials sector to a 6.1% gain. The energy sector also rose, and is now almost flat for the year, with a return of -0.8%.
[3]Income Portfolio
The income portfolio is underweight materials stocks and marginally overweight financial stocks. Otherwise, the sector biases are relatively small. In a bull market, we expect that the income-biased portfolio will underperform relative to the standard S&P/ASX200 price index due to the underweight position in the more growth-oriented sectors and stock selection being more defensive, and conversely in a bear market, it should moderately outperform. Strong performances from some of the more defensive stocks such as Medibank, Sydney Airport and Dexus are offsetting the losses on our holdings in the major banks. At this point in time, we don’t see any compelling reasons to change the sector weightings or stock mix of the portfolio.
The portfolio is forecast to generate a yield of 5.26% in 2016, franked to 84.2%. The inclusion of Dexus and Sydney Airport, while adding to the defensive qualities of the portfolio, drags down the franking percentage. By face value, approximately 66% of companies have paid a first half dividend, generating just under 1.5% in income, franked to 96.7%. Despite the greater than expected cut by BHP to its dividend, the portfolio is on track to meet its dividend forecast. Our income biased portfolio per $100,000 invested (using prices as at the close of business on 31 March 2016) is as follows:
[4]* CYBG Plc demerged from National Australia Bank in Feb 16, on 1:4 basis
Click here to download an Excel file of both portfolios [5]
Growth Portfolio
The growth portfolio is marginally overweight the sectors that will benefit from increased consumer consumption or a lower AUD; marginally underweight or index-weight the yield sectors (financials, utilities, telecommunications and consumer staples); and underweight the commodity exposed sectors (materials and energy). Despite healthcare being the best performing sector over the last three years, we have elected to maintain an overweight position as the demographic factors are so strong.
A stronger AUD in March impacted on the performance of a number of stocks including CSL, Ramsay, Resmed, Brambles and Westfield. Each is a high quality company in its own right, and while the strengthening currency is a concern in the short term, it doesn’t negate our view that over the long term, these stocks will grow their earnings as measured in AUD.
BT Investment Management has lost 25% this year as the negative sentiment on equity markets in the early part of the year hit fund managers who earn part of their remuneration through performance fees. Macquarie has also got caught up in this sentiment, losing 20% in price. While the underperformance of the portfolio against the ASX 200 index is disappointing, it is in part a function of the top 20 stock bias of the portfolio and we don’t see any compelling reasons yet to change the sector weightings or stock mix of the portfolio. Our growth-oriented portfolio per $100,000 invested (using prices as at the close of business on 31 March 2016) is as follows:
[6]* CYBG Plc demerged from National Australia Bank in Feb 16, on 1:4 basis
Click here to download an Excel file of both portfolios [5]
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.