The volatility of the stock market means that most opt for safe shares. But Marcus Padley has a better suggestion…
Let’s assume that you are running a self- managed super fund (SMSF). Whereas a fund manager will invest across a host of asset classes and hundreds of stocks, it turns out that 50 per cent of SMSF equity investment is invested in just 10 stocks – the 10 biggest stocks. With the top 20 stocks accounting for 53.9 per cent of the All Ordinaries index by market capitalization, you can understand why this is the case. And this is the major difference between equity investment in an SMSF and in a professionally managed fund – the number of stocks. The average SMSF that I’ve seen may hold 20 stocks, less than that is seen as too risky and above that is seen as losing the point of stock picking.
So if we had to pick 10 stocks which ones would they be?
Pose this question to a lot of financial professionals and I can tell you what they will recommend – the ‘Predictable Portfolio’, a portfolio of large stocks that anybody could pick without any risk of being sued for the advice. Such is the consequence of the overregulation of the financial advice industry. No one on the advice side comes at the investment conundrum from the point of view of the investor anymore, trying to make you money, they first come at it from a liability point of view, trying to make sure their advice won’t get them into trouble.
Of course this sort of ‘sleep-at-night-forever’ portfolio suits a lot of amateur investors who tend to have a low risk threshold and like to stick with the big stocks that they have heard of, many of which are fairly mature, pay a decent dividend and are unlikely to shock. But the reality is that you really don’t need to pay someone 2 per cent of your super balance per annum to do this for you. It’s not a value add to choose the four banks, Telstra, BHP, RIO, Woolworths, Wesfamers and CSL. You can do better.
Plus these stocks are not guaranteed to perform. Between March 2015 and February 2016 the banks fell 31.4 per cent. BHP and RIO fell hard as well.
Woolworths has pretty much halved. Big stocks have their issues at times and it is not ‘safe’ to just buy them, and it’s worth remembering that, as large stocks, their growth is limited.
The way to improve on the Predictable Portfolio is to pick companies on a slightly more scientific basis, not purely the fact that they are big. The way I would do that is to identify positive long- term business themes that promise some chance of growth and are likely to persist for years, rather than months, and in so doing underwrite the long-term share price performance of the stocks exposed to them.
At the moment those themes would include some of the following:
• An ageing population. The baby boomer population wave is moving into retirement and as it does the demand on retirement, health and aged care services will remain healthy. This incorporates healthcare equipment stocks such as Cochlear, ResMed, as well as healthcare providers including Sonic Healthcare, Ramsay Health Care and Healthscope.
• Income stocks. Infrastructure companies (in particular, airports and toll roads) that do not have competitors or have monopoly style businesses (e.g. banks and utilities). These stocks might include Sydney Airports, Auckland International Airport, Transurban, and utilities such as APA Group, AGL Energy and DUET. These are all low return on equity companies, but are reliable as they have nothing better to do with our money than return it to shareholders.
• Telecommunications. Another industry that isn’t going away is the telecommunications industry, as it is the major conduit for the internet, which has now become vital infrastructure. Telstra dominates, but there are many midcaps in the space, with one of the most obvious being cloud data centre infrastructure company NextDC.
• Disruptors. These are businesses that are exploiting the internet. They will come and go but obvious disruptors include stocks such as Webjet, Realestate.com and Carsales, let alone Dominos Pizza, a modern IT exploiter. Then there are the disruptors like Xero and MYOB.
• Healthy growth. Australia has a strong motor industry when it comes to car sales, especially in the 4WD sector. ARB makes 4WD components here and internationally and so are exposed to the healthy growth in car sales.
• Then there is China as a theme. The resources boom is over but the services boom is yet to explode. Stocks such as Bellamy’s and Blackmore’s have only scratched the surface of what is possible when selling to a population of 1.357 billion people, which is growing at 0.5 per cent pa and has a life expectancy of 75.2 years. At some point other Australian services companies will crack the nut and win the trust of the Chinese with their brand.
Out of all that I have plucked out ten big stocks. Telstra, the Commonwealth Bank, Westpac Bank, Transurban, Sydney Airports, Cochlear, Resmed, Sonic Healthcare, Ramsay Health Care and CSL Limited. And for those of you with a bit more of an appetite for risk, REA Group and smaller stocks NextDC, ARB Corporation, Xero and SG Fleet.
For more on stock picking I invite you to stay up-to-date through my newsletter,?Marcus Today. But if you don’t, don’t sue me!
Marcus Padley is the author of the stock market newsletter Marcus Today and a Director of financial services business MTIS Pty Ltd.For a free trial of his newsletter please go to www.marcustoday.com.au.
Marcus Padley and his Associates may hold securities in the companies mentioned herein. Unless otherwise stated any advice contained in this email is of a general nature only and has been prepared.