Rudi’s View: Peter’s Portfolio Reviewed

Always an independent thinker, Rudi has not shied away from making big out-of-consensus predictions that proved accurate later on. When Rio Tinto shares surged above $120 he wrote investors should sell. In mid-2008 he warned investors not to hold on to equities in oil producers. In August 2008 he predicted the largest sell-off in commodities stocks was about to follow. In 2009 he suggested Australian banks were an excellent buy. Between 2011 and 2015 Rudi consistently maintained investors were better off avoiding exposure to commodities and to commodities stocks. Post GFC, he dedicated his research to finding All-Weather Performers. See also "All-Weather Performers" on this website, as well as the Special Reports section.

Rudi's View | Apr 13 2022

Peter's Portfolio Reviewed

By Rudi Filapek-Vandyck, Editor FNArena

Occasionally I am being asked to cast my eye over someone's investment portfolio and give my honest opinion.

Time and other constraints (no financial advice!) often prevent me from responding in-depth. This week I have decided to dig deeper and provide more colour in response to the latest request, and share my insights with a broader audience.

The portfolio in question contains the following stocks:

-a2 Milk ((A2M)),
-Audinate Group ((AD8))
-Amcor ((AMC))
-Ansell ((ANN))
-Bapcor ((BAP))
-Bigtincan Holdings ((BTH))
-Breville Group ((BRG))
-Catapult Group International ((CAT))
-Cochlear ((COH))
-CSL ((CSL))
-Goodman Group ((GMG))
-Kogan ((KGN))
-Megaport ((MP1))
-NextDC ((NXT))
-Pro Medicus ((PME))
-TechnologyOne ((TNE))
-Wesfarmers ((WES))
-Woolworths ((WOW)).

The General Framework

First up, when it comes to portfolio construction, I am a firm believer in creating a general framework with one eye on the immediate circumstances and one eye on the long-term. There's only so much we can confidently predict and/or anticipate, which is why a truly diversified selection of companies will prove its true value over time.

Having said so, investors should never be afraid to make changes. Things change. The world has been changing quite profoundly post-GFC. The past few years have seen multiple shocks to the global system that all had major impacts on trends and general market dynamics.

Don't believe for a second that this time is never different from the past. It has been different on every single occasion!

Whereas covid has had a significant impact on the world, and on markets, since 2020, investors must now consider whether the Russian invasion into Ukraine and the subsequent response from the Biden administration and its Western allies might not have an even greater impact in the months and years ahead.

Things to consider in the short to medium term:

-Is inflation near its peak and about to trend downwards? Hopefully the answer is 'yes', but we cannot be 100% certain.

-Will central bankers have to choose between taming inflation or keeping economic momentum in the positive? The Federal Reserve is behind the curve and needs to step on the accelerator. Historically, this is when bad things happen. Who knows how strong exactly the US economy remains in the face of aggressive tightening?

-Will there be a recession? The pressure is on for Emerging Economies, also not helped by a weakening Chinese economy and sanctions on Russia. But the most obvious pick for the next recession is Europe where economies broadly haven't grown post-GFC (and often for much longer), and household budgets already were under pressure from stagnant wages when confronted with rising food and commodity prices. Now a genuine energy crisis is piling on further pressure.

-Is Australia still the Lucky Country? In light of serious challenges for Europe, China and other parts of the world, and unanswered question marks about the trajectory in the US, it looks like Australia might yet again stand out in a positive light.

Inflation over here is still quite contained, the RBA is not in a hurry, the local housing market might be deflating, but that doesn't automatically translate into 'disaster', and the world is short crucial basic ingredients Terra Australis has in abundance; iron ore, copper, coal, nickel, uranium, the list goes on.

-Quo vadis the Aussie dollar? One additional complication is that when Australia truly stands out on the global scene, the Aussie dollar might grab the limelight and become a lot stronger.

Apart from one-eyed market sentiment which pushes investors into chasing the momentum of the day, the AUD is one key reason as to why a buoyant super-duper, never-ending party for commodities can easily become a big negative for most companies listed on the ASX. If the pressure doesn't show up in thinner margins, the currency might wreak havoc through the translation of foreign sales.

-The megatrends from yesteryear haven't gone missing, of course. It's just that, for the time being, general attention is focused elsewhere.

-What's the market impact from tightening liuquidity? Having injected unprecedented, previously unimaginable liquidity into the global financial system, central bankers are now increasingly looking into how they can reduce it. This is in particular the case at the Federal Reserve.

We don't know exactly how this increased liquidity has impacted on assets and on markets, but if it has been a positive in the past, what then will be the consequences of reducing it? My suspicion is that the impact will be felt first through the more speculative segments, including crypto currencies & NFTs, and microcap stocks, but admittedly, I am simply sticking one wet finger into the air. We shall have to wait and see.

The above list is incomplete, and not without contradictions, but such is life as an investor. Equity markets don't seem too worried just yet about the risks that lay ahead, but as we all know, that can change pretty quickly (see the first weeks of the calendar year, for example).

The Individual Stocks

With all of the above in mind, now let's have a look at the individual portfolio constituents.

-The a2 Milk Company

Since co-listing on the ASX in 2015, a2 Milk has literally changed people's lives. That's but the logical result when a share price appreciates from an initial 56c to a peak of nearly $20 by mid-2020 when covid had investors running for apparent safe-havens. The demise in the share price since has been nothing but brutal. In 2022, a2 Milk shares are oscillating around the $5 mark, and there doesn't appear to be much life left (at the moment) in the former market darling.

Obviously, too many investors are in the same position in that they refused to acknowledge the general context has changed for a2 Milk. Many have now been left to ponder why they didn't sell when the share price was at a much higher price level.

Always easier to draw conclusions in hindsight, but the -75% fall in the share price has laid bare two major barriers most investors need to overcome (and many never do): to acknowledge when a good news story changes into failure and disappointment, and knowing when to sell.

I think we all want to prevent ending up in a situation where the losses are so large, it literally causes a headache simply thinking about it. It can be done. Draw a line in the sand beforehand, be it at -15%, or -20%, or -30%; it doesn't matter where precisely, but set your ultimate limit for instant capital loss, and stick by it.

I often recall my personal experience with Slater & Gordon ((SGH)) whose shares I sold at a loss, but at least I did not stick around to see the share price ultimately sink by -96%!

Having said so, what should one do when still holding a2 Milk shares today?

Risk hasn't evaporated, and things can still deteriorate further. But there is equally upside potential from a management team that is all too aware that shareholders are, and have been, suffering. Maybe they'll sell some assets? Maybe a larger international competitor might have a go at buying the lot? Maybe things can finally improve operationally?

Whatever the decision at this point, it has to be made with patience in mind, and with the understanding that more bad news can still be next. Then there's that other major error too many investors make: anchoring their view on the share price from the past. a2 Milk is not going back to its glory days anytime soon, if ever. That pretty much is a guarantee I am willing to provide (do the maths!).

What not to do? Anchor your mind on $10, or $15, or $20 or wherever the share price has been. Start from a clean slate. Today's journey starts at $5.

Alternatively, and I can confirm this from personal experiences, don't underestimate the relief that kicks in once you got rid of that blatant failure in your portfolio. It's almost like you teared down walls, opened up all the windows and gave your mind the opportunity to broaden its scope again, free from long-lasting, debilitating shackles.

Taking a much broader vision, as an investor, we simply have to be mindful of the fact that most companies cannot continue performing over a long period of time. There's literally no value in getting stuck in the past; mentally, financially, or otherwise.

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