Portfolio commentary: A blank canvas

My pension money has hit my Sipp – and the first step is to lay down some rules of engagement

It was a pleasant moment this week when a chunk of my pension turned up in my Sipp – for the first time since first joining the Financial Times in 2005 I am finally free to invest my money exactly as I like and have a wonderful blank canvas to work with. The moment was all the more satisfying as more dosh turned up than I expected – hooray for frothy markets!

With the money so far uninvested, that leaves me 40% cash in my overall pot. As I do believe that markets are looking a little rich, that feels like a good place to be right now, so I’m not going to rush any decisions about what to buy. Invest in haste, repent at leisure as it were. Or as the great Charlie Munger put it: “The big money is not in the buying or selling, but in the waiting.”

Equally, I don’t want to be sitting on cash too long if inflation is likely to remain elevated for a while – I’m hoping to invest at least half of my money in the next few months, and maybe more depending on what markets look like heading into the New Year. But I think it’s a good idea to have some ‘dry powder’ ready and waiting just in case a broader sell-off sets in and I can pick up some bargains.

My natural inclination is, after all, towards value investing, but I think that needs qualification as the term ‘value’ gets flung around quite a lot and means many different things to different people.  

Perhaps it’s easiest to explain what I’m not interested in to help define what I mean by value.

  • ‘Cigar butts’ – companies so cheap that you might be able to get a few last puffs out of them. I’m not interested, because such companies could soon be taking their least breaths, too.
  • Cyclicals – I don’t want to buy anything too economically sensitive right now no matter how cheap they look, because I think there are many impediments to a strong economic recovery.  
  • Low quality – some non-cyclicals might look cheap, but that’s because they’re low-margin, low-returns kinds of businesses. Outsourcers spring quickly to mind – see my views on Biffa this week.
  • Excessive dividends – companies that don’t know what to better to do with their cash than give it back to shareholders aren’t very attractive to me as I’ll just have to find somewhere else to invest the cash. This is especially the case if the management are taking home fat pay checks – what are they getting paid for?
  • Excessive debt – a company’s equity might look cheap when its balance sheet is stretched to the limit, but too much borrowing can act as brake on investment and growth. Remember that servicing debt always comes before looking after shareholders.
  • Covid recovery shares – we are not out of the pandemic yet, as numerous false dawns and the latest Omnicrom wobbles should remind us. I’ll wait until the reopening is entrenched and then choose carefully rather than the indiscriminate post-Covid trade we keep seeing.

That might not sound like it leaves very much to sift through with my SharePad filters, but that’s fine because I don’t need very many investments – 15-20 individual assets should do just fine to achieve a decent measure of diversification.    

Because I think diversification is important, I’m not going to limit myself to investing in any particular style anyway – considering ‘value’ concepts is just as important when you’re investing in growth anyway. Once again, Charlie Munger nailed it when he said: “All intelligent investing is value investing, acquiring more than you are paying for.”

So, a growth stock could also be a value stock if the market is under-pricing the growth on offer. What’s actually been happening is that the market, particularly in the lower reaches of the Nasdaq, has been over-pricing growth that may never come, with inevitable consequences – look no further than the recent performance of Cathie Woods’ infamous ARK Innovation ETF to see what I mean.

Source: SharePad

I’m really not interested in pre-profit ‘growth’ stocks with no path to profit in sight – I’ll leave those kind of investments to the venture capitalists where they belong. But I will be keeping an eye out for so-called Garp stocks – Growth at a reasonable price – and those that fall under the Qarp banner, too – Quality at a reasonable price.

In my view they’re pretty much the same thing anyway, if one considers growth a measure of quality, or that it’s possible for companies to grow and generate profit at the same time. And they both have a value mindset at their core.

Given that I’m keen to both buy things for less than they’re worth and be well diversified, looking at discounted investment trusts seems like a good place to start for me right now. Investment trusts have lots of attractions, but put simply, they’ll let me buy a ready-made portfolio of equities (or other assets) often for less than I can buy them individually.

There are 66 investment trusts in the FTSE 350, of which 38 trade at a discount to the value of their assets. Within that, 27 trade at a discount to NAV of more than 5%, and 10 trade at a discount of more than 10%. This is where I’ll be fishing, because I view those discounts as a built-in margin of safety – and I’ll happily top up if they widen further away from more normal levels of discount.

There is a school of thought that its worth paying a premium for the growth or quality on elsewhere in the investment trust sector, Scottish Mortgage being a case in point and where my kids’ pensions have long been invested – its NAV growth record is stellar, and where premiums have emerged, NAV growth has repeatedly followed to close the gap.

However, the current 8% premium is as wide as I can remember it, which speaks volumes of the tendency of investors to herd into hot trends in recent years, in Scottish Mortgage’s case tech and healthcare. Other trends attracting a lot of interest are infrastructure and the environment, as you can see from the 8 most expensive trusts on the basis of premium to NAV, which include Renewables Infrastructure (an 18% premium) and Impax Environmental Assets (a 13% premium). I’ll happily wait to buy into those trends at a more reasonable premium, which I am sure I will be able to at some point when fashions change.

That’s prompted me to discuss one other powerful factor in investing, which is momentum. In short, I’m not going to be chasing it because I’ve seen asset prices with strong momentum hit the buffer so many times before, and no one has ever convinced me that it’s possible to really spot when that moment’s going to come. That’s not to say I won’t buy a share with momentum – but only if the fundamentals stack up first.

I’ll keep you all posted with regular updates as I build my portfolio, including the screening and analysis I conduct to dig up ideas, starting with a more detailed look at the investment trust sector later this week.

Wish me luck!

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