Portfolio lessons in a changing world

Change and timing are two of the most difficult investment strategies to manage.

Summary: The way in which companies collect and manage customer data is continuing to involve, and those companies that do it well will deliver high returns to investors. And, with an avalanche of new floats hitting the market before Christmas, investors should be mindful of only going with companies that can successfully adapt to the new customer data dimension.
Key take-out: In this new environment a lot less physical retail space will be required. The trend will add extra risk to the retail sector as a whole.
Key beneficiaries: General investors. Category: Investment portfolio construction.

Two of the most difficult to manage investment strategies are adapting your portfolio to fundamental change and the vexed question of timing.

And so, this week, I am going to share with you two experiences I have encountered, firstly with assessing fundamental change and, secondly, reliving an old lesson in fundamental timing. During the week I ran into an executive director of Azurium, Ian Tho. Azurium is the management and development arm of the Ferrier Hodgson accountancy practice.

Tho is a global expert on databases and formally worked with Wesfarmers and Coles. He explained to me that he believes all aspects of business are going to be governed in the next five years by how enterprises manage, not just collect, data.

Right now businesses, from retailers to transport companies, to farms, to media, are gathering vast amounts of data. But, for the most part, it is one-dimensional information. In other words, we discover how many people read a particular article but we might not know exactly who they are and what they want. Similarly, a retailer will discover that demand for a particular product is rising but won’t necessarily know who is buying it and why they are doing so.

Moving to a new data dimension

Data management is about to move to a different plane. Retailers will become akin to old-time shopkeepers, who knew exactly what their customers needed because they came into their shop and talked to them.

The advent of supermarkets and large department chains ended those close relationships. But data management will restore them, and the retailers who will succeed are those that adapt their business to the new paradigm.

For Australian non-food retailers the most dangerous group entering the Australian retail scene is Amazon, which is a world expert in gathering three-dimensional data about its customers by embracing all their interests. This enables Amazon to predict their purchasing patterns and tailor offerings that will entice them.

In farming, in the “good old days”, experienced farmers with relatively small areas of land knew exactly how their crops were fairing and what needed to be done. As farms got bigger and the farmers perhaps less experienced, that deep knowledge has tended to dissipate. But now it is going to be possible to obtain knowledge of what is happening with crops or animals via electronic monitoring, and to link that information with likely climatic conditions and markets plus with what is happening in other countries and in the supply chain. The information becomes three dimensional.

Suddenly, it is possible to be much more productive in rural production, transport and marketing. Those farmers and their associates in the supply chain that understand this and adapt to it will perform the best.

GrainCorp has the chance to be a pivotal player in this development, which is exactly what the Americans would have done had they been allowed to buy it. Whether the board of GrainCorp can find a manager who understands these new developments and can drive the company in that direction is yet to be seen. But the opportunity is there for the taking.

And so this dramatic change will proceed through all industries. That means that when you read a chairman’s address or look at a director’s comments about their operation in 2014, examine what they are saying to see if there are any signs that their company understands this new development.

If you don’t think they understand it, look again at the share price and price-earnings ratio. Maybe it’s too high. As 2014 proceeds, here at Eureka Report we will be looking for this too.

One of the reasons I am not comfortable with a high investment exposure to retail shopping centres is that I am not sure that all retail shopping centres will be able to adapt to this new environment. They too will have to understand who their customers are, why they come to the centre, and make sure their stores’ offering coincides with the people they can attract.

In this new environment a lot less physical retail space will be required, so I think we are going to get a casualty rate in this sector that will not be across the board but will add extra risk. See my article last week Lighten the retail property load.

Timing is everything

Now to the question of timing. Like so many other people, as my long-term bank deposits mature I am looking around for ways to invest that provide a yield much greater than the very low rates currently being offered by bank deposits.

Part of that search involves equity securities and, of course, requires a spread. And, as you can see, I tend to avoid big exposure to retail. And so that is why when a broker with whom I am a client offered me a parcel of Industria REIT Fund (IDR) I decided to subscribe. The fund had leverage that would be less than 40% and had a spread of industrial property assets. The yield was forecast at 8.2% in 2013-13, rising to 8.4% in 2014-15. That’s the sort of yield I am after and is a lot better than some of the more popular property trusts that are currently available. So I said, “yes”. Mistake, or at least a short-term mistake.

There is an avalanche of new floats including new property floats coming onto the market. The feverish efforts of those preparing the floats to get everything away before Christmas has flooded the market. There will be some good opportunities, because I can see a few shortfalls ahead. I have no inside knowledge, but my guess is that one of those that suffered a shortfall was poor old Industria REIT, and immediately it went to a discount on the market. As long as the prospectus forecast proves correct I will be happy, but it was a reminder about timing.

I am not a fan of the Nine Network float because of the looming avalanche of rival promotional tools that will emerge in the world Ian Tho predicts. However, I recognise than Nine executives have done a remarkable job to get the company to where it is. Dick Smith’s longer-term fate will depend on how it adapts to the new environment. But, in the host of new floats that are going to come onto the market, there might be some value given the fact that so much has come on at the same time.

The US taper game

Of course, on the question of timing, we are all playing the US taper game. We know that if, in the first few months of 2014, the US starts to pull back on its mortgage buying this will cause a contraction in liquidity over a vast area of global stockmarkets and other investment activities, which will cause a contraction in prices over a wide area. That’s why there was such a rush to get the floats off the ground before Christmas.

But that US taper might not take place until late in 2014 and, if that happened then, share prices will have risen quite a lot before the taper takes place. Anyone investing in this current market knows they are taking a timing risk.

Meanwhile, term deposits offering yields below 4% are not very attractive for superannuation funds, so a degree of risk now needs to be taken to maintain yield. The key is to spread, and watch that gearing is not too high. And, if you can get the timing right, so much the better.

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