Views at a Glance / Income Report: Amending Our Portfolio Mix (CNI, APE, NAB, PPT)

By Market Matters 29 November 17

Income Report: Amending Our Portfolio Mix (CNI, APE, NAB, PPT)

Market Matters Income Update 29th November 2017

The ASX 200 has remained in an extremely tight trading range over the past week hitting its head on upside resistance, but finding buyers into any weakness, however a quartet of positive trends overnight has clearly prompted decent buying. The market overall is having a reasonably strong session with buying particularly targeted toward sectors that benefit from higher interest rates while the ‘bond proxies’ are struggling. As discussed in the AM report today, the incoming Federal Reserve Chair Jerome Powell has made it clear that the scene is set for further rate hikes, starting in December, while he also stressed that interest rate hikes would be gradual as would any sell down of the Feds $US4 trillion balance sheet. Make no mistake, this was a very ‘markets friendly’ first public appearance from Trumps nomination to take over from Janet Yellen as the worlds most important central banker. From a positioning perspective, the trends overnight and on the market today clearly highlight why we remain keen on the reflation trade, and why we’ve been adamant to avoid the defensive yield stocks – a reasonably difficult task when managing an Income Portfolio.

From the outset of the Income Report, our main thesis was around investing for income in a period of rising interest rates. Holding traditional income stocks would be a struggle, while the capital risk of holding fixed rate bonds, or indeed anything that resembled a bond would be too high. In short, all those defensive style assets, infrastructure, property and the like would be chosen very selectively if at all. As it stands, we’ve got zero allocation to infrastructure but a 8.43% allocation to property, or if we think about the proportion of property relative to our equity allocation (58.93%), it sits around ~14%. We also own AP Eagers (APE), which is car retailer, however it is also a big property owner while you could also throw Harvey Norman (HVN) within the same category of retail underpinned by property.

In terms of the MM Income Portfolio over the past week, it fell -0.176% versus a market which was up 21 points (0.35%). Overall, the portfolio has gained 6.5% since inception (5th July 17)  while our cash levels prior to todays amendments sits at 6.07%. We’re happy with the results so far with performance tracking above our targeted return. Its also worth noting that returns should always be measured relative to risk and our exposure to equities sits just over half the portfolio, while we’ve also been running with reasonable cash levels.

 

Amending our portfolio mix

A few things spring to mind when looking at the MM Income portfolio;

1.    As shown above, although we’re neutral / negative on property, and we expect interest rates to rise which should theoretically apply some pressure to real estate prices, we have a reasonable exposure to property in the portfolio  

2.    We have exposure to bank shares through NAB and CBA + SUN, but they’re not a ‘high conviction’ play in the portfolio, when they should be at current levels, particularly NAB after recent weakness.

3.    We are keen on diversified financials yet we don’t have exposure here in the MM Income Portfolio

AP Eagers (APE); This is car retailing business that is fairly cheap (14.6x) relative to an expensive market, pays a decent yield (4.2% plus franking), is reasonably low risk, has good management with skin in the game and fits the premise of our income portfolio reasonably well, however we are cutting it today.

1.    New motor vehicle sales have been strong in Australia pretty much since 2009, where the market has gone from around 70,000 vehicles per month to around 100,000 however there are signs appearing that recent growth is starting to stall

2.    Interest rates have a bearing on new car sales, and demand for finance. Low rates make new cars more affordable while locking a low fixed rate, when interest rates are low makes sense. Buying a new car facilitates that and therefore vehicle sales are supported whilst demand for financing is also strong – another area that AP makes money from.

3.    Low rates obviously support property prices which helps AP and they have realised positive gains from property sales recently, but it also makes it easier to target earning’s accretive acquisitions, which AP is good at. As rates rise, these acquisitions are less attractive. As AP showed in a recent update, they have relied to degree on ‘buying growth’ and therefore if fewer acquisitions occur the growth in overall earnings will suffer.  

4.    All up, AP is negatively exposed to rising rates, is not exceptionally cheap nor does it pay a huge dividend and we some risk around earnings if they take a hiatus on acquisitions. We see potential weakness emerging in the underlying business and considering our reluctance to hold a large ‘property exposure’ and the challenges facing retail, we are selling, taking a small loss of 2.5% loss

AP Eagers Daily Chart

Centuria (CNI); This is a property funds management business that we’ve done well on, and ideally we were targeting a exit around $1.50 per share. The metrics on this business remain sound, however when markets turn on a theme, they often target stocks that are aligned to that theme that have done particularly well, and CNI fits that bill. This was our highest conviction call in the MM Income Portfolio at inception with an 7% weighting (adding another 1.43% through a rights issue), which was aggressive for a small cap stock, but it’s paid off and we sold 4% of our holding at the start of November at $1.43 and we are now selling out completely, locking in a nice ~18% profit. This was a compelling buy at the $1.21 we originally picked up stock but less so now. We are therefore cutting CNI from the portfolio.

Centuria Daily Chart

NAB; is a BUY under $30 and given today we’re sitting at $29.67 at time of writing, we’re using recent weakness to add to our existing position. We currently have 8% in NAB with an entry price of 30.34, however we picked up the 99cps dividend at the start of the month. Given our positive stance around interest rates, our bullish views on US banks, NABs strong yield and view that the stock is now oversold, we are adding a further 4% into the stock taking the holding to 12%.

NAB Weekly  Chart

Perpetual (PPT); As discussed last week, Perpetual trades on 16x with a 5.6% yield 100% franked. Performance has been weak and this is hurting the share price in recent times, along with the announcement earlier this month that CEO Geoff Lloyd would step down after 5 years at the helm. In terms of performance, Perpetual are active value managers and clearly the current market has not suited that approach, however as was the case with Platinum recently, good managers turn performance around and FUM follows and 2018 is likely to be a year where active management with a value bias is going to prove its worth.  We are adding PPT to the Income Portfolio with a 4% weighing

Perpetual Weekly Chart

Conclusion

We are amending the portfolio mix in the income portfolio, reducing exposures to property and retail 

We are upweighting in NAB and adding PPT

We are looking to reduce our large SUN position into further strength

Disclosure

Market Matters may hold stocks mentioned in this report. Subscribers can view a full list of holdings on the website by clicking here. Positions are updated each Wednesday, or after the session when positions are traded.

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