I have recently added an amount to my Absa share account. I want to start a share portfolio but don’t want to rush. I have listened to various investing-related radio programs for more than five years every evening and know that one needs to be careful not to buy or sell instruments based on emotions.
My initial stock selection considered was: Steinhoff, Stadio, Glencore, Satrix INDI ETF and Satrix property ETF. (Note, this question was sent in 2017.)
I have made a study of the following shares on radio and 4-tracker websites.
Looking at the consensus from these websites, the following shares also look interesting: Anglo American, Greenbay, PSG and Africa Mineral Resources and equities.
South Africans are phenomenal. We know that they are immensely resilient with some of the greatest tolerance for a variety of things that regularly go wrong, with a do-it-yourself (DIY) attitude. This is something that has been intrenched in our DNA for hundreds of years, through living in a dangerous, unpredictable environment with a ‘survival of the fittest’ mentality. What has helped some of us survived here (many have not survived), is most definitely by being resourceful (‘making a plan’) and having a great sense of humour to keep our spirits up.
In the financial world, DIY comes at a price, although it is often portrayed conversely. This I can testify to, based on a basic financial mistake I made before entering the financial planning environment. In fact, that is why I entered this industry – to never again be dependent on others to grow my investment capital.
The lesson I learned dearly is not to lose investment capital, as it is impossible to fully recover from this (unless you are able to extend your life expectancy). Good advice (as with anything in life), is to bring someone on board that can interpret the risks you undertake, during your investment/other journeys. This helps you navigate when things are not going according to plan.
The problem with most investments, is investors do not know what to expect. This implies that they do not know when things are not going according to plan or how to act on it. No one can predict the future, not even a financial advisor. One of the benefits from having a financial advisor, is of a technical nature – they can ‘lift the hood’ of your investments (explaining the risks versus expected rewards) and advise you to be tax- and cost efficient. Your advisor needs to make sure you have an investment portfolio that can withstand all the storms the financial markets can throw at you. Being well-diversified often sounds overrated, until disasters like Steinhoff or African Bank strike. Then earlier sterling investment returns from these businesses look (and are) fruitless.
Long-term successful investment is hence not the investment that grows the fastest over any one season. It is the investment that gives you above-average returns at acceptable levels of risk, with the best chance of avoiding permanent loss of capital.
I am not a financial analyst, but they are the only individuals that should consider capital allocation into individually selected stocks. In my humble view, any individual who lacks this ability (not even all analysts possesses this skill) to accurately determine the value of a financial instrument over the long run does not know what price to pay for it.
For example, imagine you buy an object but you don’t know what it is, what it does and hence what value you will derive from this purchase. Not knowing makes determining a reasonable price impossible.
Purchasing shares– for example – without the ability to determine their value is hence merely a blind allocation of capital (speculation). The danger does not lie in the fact that you can’t determine the value of something, but in not admitting that you do not know how much to pay for an item and allocating your investment capital anyway.
What is the consensus?
If you follow the consensus, you should know that the consensus determines the price. If the consensus is favouring a stock, it’s expecting a good outcome from that business, which is already in the stock price. Investors make their money from being contrary or ahead of the consensus.
Other key ideas to consider (other than overpaying):
Steinhoff is an example of a very unfortunate event. It was one of South Africa’s showcase international businesses. The individuals involved in running the business were regarded as very capable, with impeccable track records for delivering above average sustainable long-term results for their shareholders. Steinhoff is a multi-national business, operating in strict regulatory Europe, deriving its income from a variety of products, countries and exchange rates.
The harsh reality of Steinhoff’s diminishing share price is a reminder to investors of the risks involved in any equity investment and that no business is too big to fail.
The same principles of good governance, strategic management and healthy cash flow are essentials to all businesses’ survival. With this as a backdrop, it is wise to ensure that no stock holding in your investment portfolio exceeds more than 10% of the overall weighting.
Stadio is a compelling business model, interestingly placed for the tertiary educational challenge ahead for South Africa. Stadio is a subsidiary of Curro. One can perhaps conceive that a parent who sent their children to Curro would easily consider Stadio as the option to provide tertiary education for their kids. This could make its revenue streams perhaps more predictable than potential future competitors, by integrating the most stages in the value chain.
Two risks to consider:
a) The heavy capital investment necessary for establishing campuses/online curriculum development before future cash flows can be generated.
b) Potential regulations that can be imposed by government (rationally/irrationally) on private schooling and private tertiary education, due to the great disparities/inequality in our country.
Satrix Property/Equites/Greenbay Property
Listed property has been the top-performing asset class for more than 10 years in South Africa. This sector has had everything in its favour, from record low interest rates, globalisation (by acquiring foreign properties) and a strong depreciating rand, which inflated the foreign rental income streams when converted into rands.
Against this backdrop it was widely seen – a consensus which has been wrong on property over many years – as the most expensive asset class in our industry. This makes it difficult to believe that investors are entering the market at a low or average price level, which is especially important if one is entering via an index-tracker.
I foresee structural headwind of raising interest rates, which will reduce the profitability of existing property rental portfolios. With a rand that is not expected to depreciate as fast as what we witnessed during between 2011 and 2017, I think the returns from this sector are going to be much milder. Investors will need to diversify by putting their money into other equity sectors that are less cyclical and less dependent on low interest rates in order to succeed.
Before investing into resources, very few investors consider the time it takes to raise capital, sink a mine, start production and become profitable. Each of these are very complex operations, performed on a variety of assumptions, of which the future commodity prices (when operational) and price of capital are among the most important for profitability.
Resource prices are a result of economic demand and appear to be deep cyclical. A depreciating currency helps for local production/profitability but an increase in exports on the other hand supports our trade account balance and therefore currency. Looking forward, the rand seems quite strong against a weak dollar, which means the full benefit in the pickup in resources demand has not filtered into South Africa from a profitability point of view.
If one considers that international economic growth has widely been expressed as the most synchronised in 40 years, it must point to a high level of economic activity/demand for resources. With the Chinese economy still growing at +-6% and most other determining countries growing robustly, can the demand for resources increase that much over the coming years? Mining businesses are usually highly leveraged, so higher interest rates are not going to benefit the industry from a profitability point of view. Resources will hence come down to individual stock picking (price vs value). Stock pickers will also focus on resources directly involved in themes like electronics, robotics and battery technologies (and future construction).
PSG is a well-diversified business across the financial (banking, financial advice, asset management, corporate services), private education (Curro) and agricultural (Zeder) sectors. The last two companies mentioned carry the same risk as pointed out for Stadio in regard to regulatory changes (private schooling/land reform). Zeder as seen during the 2015/2016 results is also quite reliant on weather conditions and favourable exchange rates (import and produce exports).
Index-tracking – I like the idea of an index-tracker, especially in the South African listed property environment. Our listed property sector is rather small and one does not necessarily enjoy the full results from active management in the SA listed property space. This does not mean that the timing for index-tracking is here. I would argue that the market valuations currently lend themselves towards active management rather that passive (even though passive investment results are great during or after every strong bull market).
Benjamin Graham – author of the well-known The Intelligent Investor – mentions that it is prudent for most investors to have a reasonable amount in fixed-interest instrument. During market crashes, this portion of their investment portfolio encourages investors to stay invested and continue with their original investment plan. Actively managed 100% share investments are not for everyone and 100% index-tracking investments are most certainly only for highly experienced investors.
DIY investors learn about many common mistakes the hard way. Such mistakes can be avoided by making use of professional investment advisors:
- Don’t lose money
- Price vs Value
Do not overpay for investments. Talk to well-trained analysts (not your rich neighbour over a Saturday braai) to value financial instruments with an above average track record. South Africa has fantastic asset managers with such great records – use them. No gain from a self-managed portfolio compensates for the despair from permanent loss of capital.
Diversification does not grow as fast as individual stocks and sounds overrated only until businesses fail.
Create distance between your emotions and your sphere of influence. Make use of a competent investment advisor so you can use them as a sounding board for your investment ideas before investing or disinvesting.
- Watch out for the consensus
Remember that the consensus view is reflected in the price.
- Stock picking
For the average investor, I think that it is now a stock picker’s market, rather than one suited to passive investment solutions.