A grinding market in May saw most sectors on the ASX put on small gains. Overall, the market added just 0.06%, or 0.68% on a total return basis when dividends are included. Holding the market back in May was the materials sector, in particular, the iron ore stocks.
Overall, the market is up 2.62% this calendar year, or 4.60% when dividends are included.
Reflecting these broader sector movements, our high-income portfolio has outperformed the market by 1.7%, while our growth-oriented portfolio has underperformed by 1.9%. In this our fifth review for the year, we look at their performance in May and detail some changes to our growth portfolio.
Portfolio recap
In January, we made some adjustments to our Australian share ‘Income Portfolio’ [1] and ‘Growth-oriented Portfolio.’ [2]
The purpose of these portfolios is to demonstrate an approach to portfolio construction. As the rule sets are of critical importance, we always commence a review by briefly recapping the key portfolio construction processes applied.
The income portfolio is forecast to generate a yield of 5.01%, franked to 90.4%. The construction rules applied include:
- using a ‘top down approach’ and introducing biases that favour lower PE, higher yielding industry sectors;
- to minimise the market tracking risk, adopting a rule that says that our sector biases in the major sectors (financials, materials and consumer staples) will not be more than 33% away from index;
- identifying 15 to 20 stocks (less than 10 is insufficient diversification, over 25 it is too hard to monitor), with a stock universe confined to the ASX 100;
- within a sector, weighting the stocks broadly to their respective index weights, although there are some biases; and
- of course, we looked for companies that pay franked dividends and have a consistent earnings record.
The growth-oriented portfolio takes a very different approach to the sectors 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 100 (there are many great growth companies outside the top 100).
Performance
The income-oriented portfolio is up by 6.33% and the growth-oriented portfolio is up by 2.72% (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 1.73% and the growth-oriented portfolio has underperformed by 1.88%.
Energy stocks lead the way in May
The energy sector was the best performing sector in May, adding 3.0% on a total return basis to be up 8.4% this calendar year. Leading the way for the first five months are utilities (up 11.7%), information technology (up 10.4%), property trusts (up 9.1%) and energy (up 8.4%).
Probably the key take, however, is that the yield or defensive sectors have outperformed this year. Financials, property trusts and utilities are comfortably ahead of the total return index, telecommunications (which is arguably a yield sector due to Telstra) is also ahead, and consumer staples are only marginally behind. The laggards include some of the more growth-oriented sectors, such as healthcare, consumer discretionary and materials.
The table below show the sector weights (as a proportion of the S&P/ASX 200), and performances (total return) for the month of May and for the 2014 calendar year.
Income portfolio
The income portfolio is overweight financials, consumer staples, utilities and telecommunications; underweight materials and consumer discretionary; and broadly index-weight the other sectors. It also includes an allocation to property trusts (REIT), and somewhat more exposure to the “cyclicals” through the selection of stocks from the industrial sector.
With these sector allocations, we would expect this portfolio to moderately underperform relative to the benchmark price index in a strong bull market, and moderately outperform in a bear market.
For the first five months of the year, it is outperforming the index. An overweight exposure to the four major banks, in particular CBA and Westpac, together with the inclusion of stocks such as Leighton and Orora, is compensating for the poor performance of the materials sector and stocks, such as Toll and Primary.
The income portfolio is forecast to generate a yield of 5.01% in 2014, franked to 90.4%. At almost the halfway point, it has generated a return of 2.26%, franked to 90.37%. With two distributions still to come from Dexus, and the fact that final dividends tend to be higher than interim dividends, we expect that the portfolio should marginally exceed the original target.
Our income-biased portfolio per $100,000 invested (using prices as at the close of business on 30 May 2014) is as follows:
* Income includes dividends declared payable. Assumes 37.5% Leighton shares sold in partial offer at $22.50, repurchased on 30/4 at $19.08.
Growth portfolio
Similar to our approach to the income portfolio, we applied a ‘top down’ approach to the industry sectors and introduced biases that favour the sectors that we feel have the best medium term growth prospects. The growth-oriented portfolio is overweight healthcare, consumer discretionary, materials and industrials; underweight financials and property trusts; and largely index weight the other sectors.
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 – such as CSL, Amcor, Brambles and Computershare and BHP. Other biases include Woolworths over Wesfarmers; CBA and Westpac over ANZ and to a lesser extent NAB; and the selection of Crown and JB Hi-Fi.
The portfolio is lagging the index by almost 1.9%. Clearly, our sector biases are a little out of step with the market, and we have decided to make some changes. These are:
a) Reduce our exposure to the materials sector (in particular, iron ore), by selling our holding in Rio Tinto. This crystallizes a loss of $391;
b) With continued discussion around the Medicare co-payment and expectation that this will have some ongoing impact on demand for GP and pathology services, sell our holding in Primary Health Care (this crystallizes a loss of $291);
c) Maintain our overall exposure in the healthcare sector by adding an investment in Resmed; and
d) Increase our exposure to the consumer discretionary sector and two stocks that have underperformed this year – invest $1,200 in Crown and $1,118 in JB Hi-Fi.
Our growth-oriented portfolio per $100,000 invested (using prices as at the close of business on 30 May 2014) is as follows:
* Income includes dividends declared and payable. Prices of Crown (new), JB Hi-Fi (new) and Resmed (new) as at 30 May.
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.
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Also in the Switzer Super Report:
- Peter Switzer: Stock investors need-to-know list [4]
- Penny Pryor: Shortlisted – NAB and Western Areas [5]
- Rudi Filapek-Vandyk: Buy, Sell, Hold – what the brokers say [6]
- Barrie Dunstan: Big bear turns bull [7]
- Jo Heighway: Top tax deductions for your SMSF [8]
- Staff Reporter: Market bobs back up [9]