Rudi's View | Apr 04 2019
In this week's Weekly Insights:
-The Art Of Selling Non-Performing Stocks
-Have Your Say – The CSL Challenge
–Rudi On TV
–Rudi On Tour
The Art Of Selling Non-Performing Stocks
By Rudi Filapek-Vandyck, Editor FNArena
It is undoubtedly the most difficult decision to make for investors in the share market: when is it time to sell?
I am not talking about when to jump off perennial high-flyers such as a2 Milk ((A2M)) or Altium ((ALU)), where the decision most likely translates into when do I start crystallising some of my profits, and by how much? – I am talking about that part of the investment portfolio that is least talked about: the dogs, the bad decisions, the 'it looked a good idea at the time' losing positions that continuously test our character, our resolve and confidence, and possibly our mental sanity.
Just to be clear: owning a few bad apples in portfolio is not something that happens to inexperienced, unlucky or lesser informed investors only. It happens to all investors of all colours, shapes, and levels of experience.
If we take guidance from the fact that, as a general rule, good stock pickers average six out of ten winners, with five (50%) more likely and seven being exceptional (also: exceptionally lucky), simple logic tells us not every investment decision lives up to its potential or expectations. At least not right away.
Impatience seems seldom the correct response, but then a lot of investment capital goes out the window each year from investors holding out for a share price recovery that simply won't arrive.
After losing in excess of -60% between February 2015 and mid last year, Telstra shares have recovered somewhat and stabilised between $3-$3.30, but this still leaves faithful hangers-on with a big hole in their pocket, requiring many years of dividends to possibly make up for the gap.
Things are looking a lot worse for loyal shareholders in AMP, or iSentia, or Retail Food Group.
"Don't fight the tape" and "don't ignore the trend" are typical statements heard from shorter-term traders, but not every share price that falls is doomed. Take one of my favourite stocks in the share market as an example; TechnologyOne ((TNE)).
Between September 2016 and September last year the stock simply could not attract any positive momentum. Today the share price is up by 50%, and it all happened in a heartbeat, really, without major new developments or a major announcement from the company.
One of my other portfolio constituents, Bapcor ((BAP)), could literally do no wrong throughout the whole of 2015 and up until the third quarter of 2016. During this period Bapcor shares turned into a popular go to destination for many an investor in small caps. Then followed a period of absolutely no appetite among investors, until the share price exploded to the upside between April and September last year. Currently we're back to "no appetite" again.
My most famous observation relates to late 2016 when CSL ((CSL)) shares, having temporarily peaked at $120, continued to fall ever deeper and all the talk on TV was how far down the share price would ultimately end up. As it happened, CSL shares sniffed at $90, then quickly turned around and hardly ever looked back. They are close to $200 today.
As an investor, you'd feel mightily guilty if you had allowed short term "noise" (because that's what it is) to infect your mindset, leading to the misguided decision to sell all your shares in CSL. I'd wager, the same applies to the expert who last year declared he'd sold out of TechnologyOne because the share price "wasn't doing anything".
The offset is, you'd feel far worse if you are still holding shares in AMP, iSentia or Retail Food Group. So how do we distinguish the latter from the former? When do we sell and when do we hold on and possibly buy even more shares?
Judging from my own experiences, there is no single golden rule, but a lot of confidence stems from thoroughly understanding what the company is about; what it does, how it operates, how it compares to its peers, whether industry dynamics are changing and who's benefiting, et cetera.
Admittedly, it's not always clear, nor easily established what exactly is weighing upon a given share price, in particular not when other parts of the market are trending upwards.
But if your company in question is of high quality, with a robust growth outlook under the belt, and there is no particular bad news or negative development impacting on it, you are able to feel a lot more relaxed about the falling share price. In the case of TechnologyOne, this company -virtually without exception- grows at around 15% per annum, and has been doing exactly that for well beyond a decade now.
When management announced growth would be less for the financial year ending in June 2017 -only at 7%- this was interpreted as very negative news by the market. As it came on top of a project dispute with Brisbane Council plus a dismissal court case by a former executive, it was all too much for most. By now the company is growing back at double digit speed, and guess where the share price is?
Sometimes, however, the company in question does not own that same high quality label, and its growth profile has been impaired. Maybe the facts have changed since we jumped on board, or maybe we just erred in our judgment. All too often our interest is triggered by a seemingly attractive looking share price, and all too often do we find out, the hard way, there was a very good reason why the share price looked "cheap".
Most investors try not to over-pay when making purchases in the share market, but according to my long-standing market observations many more unfavourable investment decisions are made, every single day, by investors trying to jump on "cheap" bargains. The problem often then becomes that the share price simply becomes even cheaper. Now, what should we do?
Let me first point out that making mistakes is simply par for the course. It will happen, and it will happen again. Take this prime piece of advice from someone who in the past has allocated positions in Slater & Gordon ((SGH)), Vocus Group ((VOC)), Pact Group ((PGH)), and EclipX Group ((ECX)): it never is too late to sell.
So rule number one should be that every decision and judgment needs to be made independently from what we've paid for our shares. All too often investors won't sell at a loss, which can be the ideal starting point for accumulating much larger losses. Have a look at price charts for the companies I just mentioned. Can you see why I am happy today the portfolio no longer hold these shares?
It always can get worse, still. Companies on occasion are forced to call in administrators, instantly making their shares worthless as happened last year with RCR Tomlinson.
Time to also call out averaging down as a high risk and very dangerous practice, all too often employed by investors trying to cover up an error. What you are in fact trying to do is make a dud investment better by throwing more money at it. Probably the best warning is through going back to the price charts of iSentia, AMP, Retail Food Group, and the like, and see for yourself how this practice can lead to ruin – only because you cannot admit to yourself that you have made an error.
Why risk making it far, far worse? Get over yourself!
I have never averaged down on a dud investment, and I will never do it. On occasion, I increase positions after a pullback, but that's because I remain convinced I am buying more of a good opportunity. I am not throwing good money after bad at the risk of incurring even larger losses (while your average price might fall, your total exposure increases).
One of the clearest warning signs I have found stems from companies issuing disappointing statements. Looking back at the early days of my allocation in iSentia, small disappointments seemed always included, and they simply grew bigger until it could no longer be denied here was a company in deep troubles (by then I had already jumped ship, thank goodness).
It's a harsh lesson also experienced recently by shareholders in Pact Group and EclipX Group, with both management teams issuing yet more bad news announcements, further depressing the share price. "Value" in a share price is directly linked to how the business is operating. If there is no trust left in what the company actually can and is likely to achieve, do you still want to be around hoping for the best?
Probably the second most common error is investors being hoodwinked by a seemingly high dividend yield, too often ignoring the fact that an above average yield can be a warning signal indicating the dividend might not be sustainable.
AMP used to be a dividend staple, until it wasn't. Telstra used to be everyone's go to non-bank dividend favourite, until the share price eroded by -60%-plus. Investors should understand that Bank of Queensland ((BOQ)) shares are offering 8% plus franking at the present share price because the market sees a prolonged period of declining profits and cashflows.
It doesn't mean Bank of Queensland will 100% guaranteed announce a dividend reduction at its upcoming interim report release; but the risk of such a cut being announced while industry dynamics keep the squeeze on is certainly rising. Do you want to be exposed to such risk? In similar vein, National Australia Bank ((NAB)) is offering the highest yield among the Big Four (7.4% plus franking), for exact the same reason.
I have often pointed out in the past, and happily repeat the warning here again: the share market signals risk through yield. A low yield means the company has strong growth prospects, and is likely to deliver. A high yield, in particular during times of low interest rates and low yields on government bonds globally, means the company has very little prospects for growth, and investors better watch its cash flows.
If anyone's looking for examples for both extremes, consider Goodman Group ((GMG)) and Charter Hall ((CHC)) as part of the low yielding, robust looking, quality growth performers, whereas SG Fleet, Michael Hill and Apollo Tourism & Leisure are offering yields well, well above the market average.
Another observation is that all major banks in Australia are now either offering 6% plus franking (CBA and ANZ) or 7%+ plus franking (Westpac and NAB) which in itself is the market expressing its concern regarding the local housing downturn and ongoing impact on Australian households' savings, budgets and spending.
The best protection against a perennially bad investment remains, of course, to only buy high quality companies with a proven, robust track record, but during times of disruption and rapidly changing global trends any list of such companies on the ASX will always have a limited number of names on it.
And then there is the wide dispersion in views and opinions about what exactly makes a company high quality. Few will deny CSL is one such high quality achiever, but is BHP Group ((BHP))? JB Hi-Fi ((JBH))? What about Macquarie Group ((MQG))?
One thing can be put forward without the slightest hint of ambiguity: quality companies do not issue a profit warning by -42% seven weeks after repeating guidance for the year. This takes me back to earlier observations: share prices can come under pressure for all kinds of reasons; management teams can disappoint in many ways. CSL, for example, disappointed in February because it didn't upgrade guidance for the full year. TechnologyOne in 2017 disappointed because growth would be lower than in prior years.
Sometimes all market participants want to hear is "they missed", or "they disappointed", or "earnings estimates are being cut" and thus share prices can remain out of favour for much longer than we'd like or expect. But there is a big difference between the market getting all hyped up over a lot of short term noise and a company missing its own forecast by -42%. I'd hope we can all agree the latter is not characteristic of a high quality company.
Sometimes, during times of ultimate despair and confusion, we can also take guidance from the share price. I am loathe to put too much "value" on share price movements in the short term, as they can deceive as much as they can guide, but there is one trend that should be on every investor's radar; when a share price continues to trend lower, following up with lower highs and lower lows, it is time to put your ego aside and take your losses, before they become too large.
In line with the yield-risk indicator I mentioned earlier, this too is the share market sending you an unambiguously clear signal that all is not well with this company.
Which brings me to the number of reader/subscriber inquiries that inspired me to write this story: what the hell is happening with the Aristocrat Leisure ((ALL)) share price?
As many inquirers have pointed out, up until August last year it seemed everyone was in awe about the company's growth profile and ongoing potential, yet since then all that glamour seems to have evaporated and the share price remains stuck in the low to mid-$20s when it was trading above $30 last year, and still a while off broker target prices.
To the best of my knowledge, I think what we are witnessing is yet another example of market sentiment fading after the release of FY18 financials in late November last year that "disappointed" in the same fashion as CSL disappointed in February. Higher costs, question marks about the last acquisition announced, tougher times for casinos in general, and potentially more scrutiny for social gaming; it all adds up to less enthusiasm among investors for what remains one of the prime growth stories in the Australian share market.
Similar to what has happened to CSL, TechnologyOne, NextDC ((NXT)), and other quality high growth achievers, sometimes the market's attention is focused elsewhere. Sometimes "the company disappointed" is lingering in our collective mindset, and the share price needs a catalyst to remove that stigma.
I am hoping that catalyst will be the company's interim results update in May, which is still nearly two months out.
In the meantime, as I do with most of the stocks I recommend, I draw confidence from analysts who continue to update their forecasts and their views. In the case of Aristocrat Leisure, earnings estimates and valuations have pulled back post November, but they remain well above today's share price, in terms of valuations and price targets, and well above the market's broad average when it comes to projected growth for the years ahead.
The latest to update has been Deutsche Bank. Reading between the lines, analyst Mark Wilson doesn't understand where the current stasis in share price comes from, but he maintains "Aristocrat provides above-market rates of growth, increasing free cashflow generation, and exposure to the higher-growth Digital segment".
He also points out recurring revenue streams are climbing to 72% of group earnings, while earnings certainty for the next three years is set to increase. On his observation, and this is mirrored by analysts elsewhere, Aristocrat Leisure continues to perform well in the land-based and social casino segments, which represent circa 90% of total earnings.
Social Casual appears to be underperforming, but this makes up less than 10%. The company is mostly gaining market share.
If current projections prove reasonably accurate, the share price will, at some point, close that gap between where broker targets suggest the share price should be, and where it is currently at. FNArena's consensus target price sits at $31.39, suggesting the gap that needs to be closed is circa 23%. Deutsche Bank's price target sits at $37.75 which takes the gap to near 48%.
It is well possible that the market is hesitant because margins might be lower for operations in the Americas and for the digital division, while new title releases by Plarium and Big Fish might be slightly delayed. These are all valid considerations, up to a point. But Deutsche Bank's update already includes lower margins and slight delays.
Yet projected growth remains in the double digit percentages for each of the years ahead, and the (reduced) target sits some 48% above the current share price.
It is always possible all of us are missing something big and important, and we don't know it as yet; or something disastrous might occur from left field. But what are the chances?
Meanwhile, I am keeping my allocation and the faith. If the share price retreats, I might add some more. For all the right reasons (I believe).
This is not an occurrence we witness often. After the share price of Jumbo Interactive ((JIN)) nearly doubled since December, analysts at Morgan Stanley have initiated coverage with high conviction, suggesting there could still be another 40%-plus on the horizon before this share price starts looking too expensive.
Yes, you read that correctly, on Tuesday Morgan Stanley initiated with a high-conviction Overweight rating and a maiden price target of $20. The idea here is that investors have yet to properly account for the growth that is on offer, either through rising online lotteries market penetration, or through adding Queensland to the company's geographic reach, or through additional products.
For those investors who are as yet not familiar with Jumbo Interactive, this company is the officially sanctioned online lottery reseller in all of Australia, except Queensland, currently responsible for 20% of all online lottery ticket sales. Purchases are processed through its proprietary platform, which the company has begun to license to lottery operators in a software-as-a-service (SaaS) format.
Morgan Stanley sees operational leverage as one dominant feature colouring the outlook, backed up by a long term view that, eventually, all lottery tickets will be sold online. A massive growth opportunity thus, supported by the broker's forecast of 63% FY18-21 EPS CAGR.
The extra kicker to this story is that, while Jumbo Interactive is developing itself into tomorrow's Seek, Carsales or REA Group of online lotteries, this will also benefit 12.5% shareholder and license fee receiver Tabcorp ((TAH)).
Over at Wilsons Advisory and Stockbroking, analysts have updated their shortlist of Conviction Calls, comprising of ARQ Group ((ARQ)), Bravura Solutions ((BVS)), EML Payments ((EML)), Collins Foods ((CKF)), Ridley Corp ((RIC)), Citadel Group ((CGL)), ImpediMed ((IPD)), EQT Holdings ((EQT)), Pinnacle Investment ((PNI)), Noni B ((NBL)), Ausdrill ((ASL)), Mastermyne ((MYE)), and NRW Holdings ((NWH)).
Have Your Say – The CSL Challenge
It's probably one of my key achievements since starting FNArena in 2002; to get investors interested in owning shares in CSL ((CSL)) and similar robust, high quality, sustainable growth stories, in defiance of general perception that stocks trading on a high PE multiple can never be owned but for a short term momentum play.
Over the years I have received many supportive emails and vocal encouragement from FNArena subscribers and investors elsewhere. At the end of last week's presentation to ASA members in Sydney, one elderly investor approached me with the words "CSL is such a wonderful company, why would you ever sell it?"
I think time has arrived we started sharing some of those stories with investors who are new to the CSL Challenge. From investors to investors. I am hereby asking those who own CSL shares to write down their motivation, memories, experiences, et cetera in order to share them with other investors.
Make it as detailed/generalised and as long/short as you like. Send it to email@example.com, preferably with reference "CSL Challenge".
You don't have to do it completely pro bono. An innocent hand at the FNArena office will pick at random three contributions that will receive one bottle of wine each. To be eligible, make sure you also indicate whether you prefer red, white or rose. We'll pick one winner for each choice.
I'd say we close this invitation by April 15th, but let's not procrastinate too long. Get onto it right away! We take care of the wine selection.
Rudi On TV
My weekly appearance on Your Money is now on Mondays, midday-2pm.
Rudi On Tour In 2019
-ASA Melbourne, May 1
-ASA Toowoomba, Qld, May 20
-U3A Investor Group Toowoomba, Qld, May 22
-AIA Adelaide, SA, June 11
-AIA National Conference, Gold Coast, Qld, 28-31 July
-AIA and ASA, Perth, WA, October 1
(This story was written on Tuesday 2nd April 2019. It was published on the day in the form of an email to paying subscribers, and will be again on Thursday as a story on the website).
(Do note that, in line with all my analyses, appearances and presentations, all of the above names and calculations are provided for educational purposes only. Investors should always consult with their licensed investment advisor first, before making any decisions. All views are mine and not by association FNArena's – see disclaimer on the website.
In addition, since FNArena runs a Model Portfolio based upon my research on All-Weather Performers it is more than likely that stocks mentioned are included in this Model Portfolio. For all questions about this: firstname.lastname@example.org or via the direct messaging system on the website).
BONUS PUBLICATIONS FOR FNARENA SUBSCRIBERS
Paid subscribers to FNArena (6 and 12 mnths) receive several bonus publications, at no extra cost, including:
– The AUD and the Australian Share Market (which stocks benefit from a weaker AUD, and which ones don't?)
– Make Risk Your Friend. Finding All-Weather Performers, January 2013 (The rationale behind investing in stocks that perform irrespective of the overall investment climate)
– Make Risk Your Friend. Finding All-Weather Performers, December 2014 (The follow-up that accounts for an ever changing world and updated stock selection)
– Change. Investing in a Low Growth World. eBook that sells through Amazon and other channels. Tackles the main issues impacting on investment strategies today and the world of tomorrow.
– Who's Afraid Of The Big Bad Bear? eBook and Book (print) available through Amazon and other channels. Your chance to relive 2016, and become a wiser investor along the way.
Subscriptions cost $420 (incl GST) for twelve months or $235 for six and can be purchased here (depending on your status, a subscription to FNArena might be tax deductible): https://www.fnarena.com/index2.cfm?type=dsp_signup
(Do note that, in line with all my analyses, appearances and presentations, all of the above names and calculations are provided for educational purposes only. Investors should always consult with their licensed investment advisor first, before making any decisions.)