Summary: Leading fund managers consider the “sell or hold” question facing Milton Corporation as it ponders its stellar investment in Blackmores; and whether the recent sell-down in Australian Leaders’ Fund presents a buying opportunity.
Key take-out: Fund managers discuss the key question of timing when considering whether to buy Milton Corporation and Australian Leaders’ Fund.
Key beneficiaries: General investors. Category: LICs.
Over the course of the last week I sat down with three listed investment company managers to find out more about the listed investment companies they manage, the actions they are currently taking and their outlook for a number of stocks I’d say many Eureka members would have in their portfolio at one point or another.
These conversations have taken place via our Eureka Interactive sessions. Even if you do not use LICs in your portfolio it is still worthwhile to tune in and hear these industry leaders’ thoughts on the market and have the chance to ask stock-specific questions.
A number of these portfolios would hold similar stocks the average SMSF holds and listening to them could point you in the direction of your next stock idea. Use them or not they still prove to be a valuable resource. So take advantage of them.
This week we have John Abernethy from Clime and his international portfolio manager Pieter Fourie, small cap manager Sebastian Evans from NAOS, mid to small cap manager Chris Stott from Wilson Asset Management and David Kirk from Bailador Technology Investments rounding out the week. If you only get one idea from these minds, avoid a bad one or reassure a current view than it has been time well spent.
Milton Corporation Limited
First in the seat was Frank Gooch, managing director at Milton Corporation Limited (MLT). MLT has been listed since 1958 and Gooch still has the original minutes from the first board meeting and they show the exact same investment approach as Gooch and co employ now. That means a long-term investment approach in companies that can show consistency in growing dividends. How long term is their focus? Westpac is their biggest bank holding, why? Because Bank of Melbourne was their largest and it rolled into Westpac. Blackmores has been in the portfolio for close to 15 years and they have held ALS since it was a soap company based in Brisbane.
MLT belongs in the same category as AFIC and Argo. They are cut from a different cloth where long term meant long term and the sole focus is growing dividends. MLT pays out between 85-95 per cent of underlying profit and pays the occasional special dividend too. If consistency in dividends is what you are looking for look no further than MLT. In the last 15 years they have raised their dividend year upon year except for the GFC where it was slightly lowered due to a decrease in the underlying profit.
To say MLT is a glorified index fund is harsh. Looking back at the long term performance MLT’s total shareholder return has been 11.1 per cent a year compared to the All Ordinaries Accumulation Index’s 7.5 per cent. How much difference does a few per cent make? On a starting balance of $10,000 an investment in MLT over those 15 years would now be worth $48,496.55 compared to the market return of $29,588.77.
Looking at MLT’s holdings though you can’t help but think what those returns could be if their hands weren’t tied by its size and secondly the tax implications of selling certain positions. Take for example the ALS Limited. At one point in time it would have contributed significantly to the performance of the portfolio but since its high of $13.78 in 2012 it has been a significant detractor from the portfolio's performance.
In the last three years - and especially the last 12 months - MLT’s TSR has exceeded that of stalwart rival AFI. A main contributor to MLT’s performance over that time period would be its holding in Blackmores Limited (BKL) which has been on an unbelievable run from $30 to $130. The headache now comes for the investment team at MLT and shareholders alike, what do they do with this position moving forward? Do they actively manage it or stick with the long-term hold approach and hope it doesn’t turn into tomorrow’s ALS?
The big issue in the portfolio for MLT is what to do with BKL. They are currently talking about potentially taking some profits but as Gooch pointed out in the interview, do you sell down just because a company has done so well?
On the size of the portfolio & the difficulties around it
One of the difficulties MLT faces is the size of their portfolio. If they sell something, what do they then buy into? And to buy something that will be meaningful to the portfolio the LIC would typically have to become a substantial holder. This means the team must have the utmost confidence in the stock before buying.
When is a good time to buy MLT? When is a bad time and does the NTA premium or discount really matter? MLT has traded at a premium and at a discount for periods of time. Right now it is trading at a premium of approximately 4 per cent. You should treat MLT just like AFI. This is something to consider for the long term. As you can see the longer the term the wider the gap gets between the index performance. If looking to deploy capital right now for the long term, purchasing in parcels averaging down would put you in good stead.
Australian Leaders Fund
On one hand you have MLT and at the other end of the spectrum you have Australian Leaders Fund (ALF). It’s vastly different in structure, investment style and size. Operated by Watermark Funds Management and headed up by Justin Braitling. ALF is a long short fund which looks to outperform the market regardless of conditions.
Braitling runs two portfolios simultaneously, one long and one short. The slant towards long or short will depend on the team's outlook on the market. Right now the portfolio has close to zero market exposure meaning both long and short portfolios are equally weighted. This tells you a little about their confidence in the market right now.
In the past I have spoken about not focusing too heavily on discounts and premiums to NTA, saying I don’t mind LICs trading at a slight premium or discount if I am content with the investment process. ALF serves as an example not to overpay too much for an LIC. The last 15 months have not been kind to ALF - this is predominantly due to the premium coming out of the share price.
At one point ALF’s share price was trading at a 30 per cent premium. At this level, investors are pricing in unachievable performance from Braitling and team. Some stocks can be priced for perfection and when they miss expectations they get oversold. And this is the scenario ALF has faced, with the share price falling from $1.80 all the way down to $1.04. Yes, underlying performance was falling, but nowhere near the decline in the share price.
As Braitling explains in the video below all managers have their tough times. This provided an opportunity for long-term investors to buy a quality manager who had been trading at a premium at a discount. Managers and stock pickers will fall short from time to time - even the best ones.
The investment opportunity in ALF is clear especially in a market like the current one. They will use their hedging to be market neutral as they are and stay ahead of the market and volatility. Investors need to be wary of the premium being priced in in the future. ALF has recovered well from the share price drop but it is once again starting to trade at a premium albeit a small one. Investors are willing to pay up for the market neutral abilities.
BKI Investment Company
BKI CEO Tom Millner dropped by for a portfolio update on Friday. We started by talking about how Millner is handling the current volatility in the market. And no surprises, given his long-term investment approach, it is business as usual for the team. Cool heads prevail.
When you look across the BKI portfolio you can see the investment thematics the team believes are the key trends for the next 10 or so years. Financials and healthcare have played, and will continue to play, a large role in producing returns.
It is interesting to note when looking at the portfolio four of the top five holdings are banks. Westpac is the largest holding with ANZ being the smallest at almost half the size of Westpac. Millner explains the reasoning behind this.
New Hope Corporation makes up 3 per cent of the BKI portfolio and the last few years have not been kind to the coal miner. On the positive side NHC has $1bn of cash on the books and the company has its eye on potential acquisitions but whatever they choose it will have to be at the right price.
One of the long-term success stories at BKI has been its investment in TPG. BKI holds both Telstra and TPG in the portfolio. One is a growth story and one an income story. As stated in the last quarterly update, “Yield for today, growth for tomorrow”.