The Switzer Super Report portfolios in February

Co-founder of the Switzer Report
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A strong February saw the S&P/ASX 200 close at 5404.8, reversing all of January’s losses, to be up 1.0% for the year to date. Our portfolios recovered to finish in the black, with our high-income portfolio matching the accumulation index, while our growth portfolio underperformed by almost 1%. Earnings season dominated the market, and while the sector movements were generally in a small band, there were some quite material movements in individual company share prices.

In this our second review for the year, we look at how our portfolios performed in February.

Portfolio recap

In January, we made some adjustments to our Australian share ‘Income Portfolio’ and ‘Growth-Oriented Portfolio‘.

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 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 to 28 February is up by 1.73% and the growth oriented portfolio is up by 0.83% (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 largely matched the index and the growth oriented portfolio has underperformed by almost 1.0%.

Most sectors up in February

Most sectors finished in the black in February (see table below), with only telecommunications in the red. When the impact of Telstra’s dividend is included, the sector finished up by 1.4% for the month.

Many of the sectors that had suffered the most in January, performed the best in February, with consumer discretionary up 6.2% and financials at 4.8% being the two standouts in this area. On a year-to-date basis, there is no clear trend – with most sectors up and if anything, individual company performances (up and down within the same sector) being the callout.

The laggards of 2013, utilities and A-REITs (property trusts) are among the best performing sectors of 2014, up 6.5% and 3.8% respectively.

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 (REITs), 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 two months of the year, it is matching the index. Inclusions of stocks such as Leighton, Orora and a marginally overweight position in Woolworths are compensating for the performance of an overweight position in the Commonwealth Bank.

It is forecast to generate a yield of 5.01% in 2014, franked to 90.4%. The early indications from the dividends declared in the February reporting season, suggest that the portfolio should marginally exceed this target.

Our income-biased portfolio per $100,000 invested (using prices as at the close of business on 28 February 2014) is as follows:

* Income includes dividends declared payable.

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 health care, consumer discretionary and industrials; underweight financials and property; and largely indexweight 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 USD – such as CSL, Amcor, Brambles, Computershare, BHP and Rio.

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 1.0%. JB Hi-Fi and Commonwealth Bank are the main laggards, despite both companies reporting strong results in February. Short sellers are active in JB Hi-Fi, so it may be some time before this stock recovers. Amcor, Toll and Primary also reported during the month, and haven’t fared that well with their reports, leaving investors somewhat underwhelmed. At this stage, we feel it is a little premature to make any changes – however, we will keep all these positions under active review.

Our growth-oriented portfolio per $100,000 invested (using prices as at the close of business on 28 February 2014) is as follows:

* Income includes dividends declared and payable.

Finally, one subscriber wrote to correct our franking estimate for Origin Energy (in both portfolios). Origin is currently applying some tax losses, and its final dividend last year and the just recently declared interim dividend for this year will not be franked. Origin does not make any forecast about their franking – however we expect that their final dividend for the year might be partially franked, at around 40%.

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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