Hugh Dive, Head of Listed Securities

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Tales from the Trenches - Australian equities - mid-season report card

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Casual readers of the financial press may have the impression that 2014 has seen a large degree of variation in the returns delivered to investors by Australian equities. Contrary to the headlines which have reported the end of the mining boom, budget crises and faltering domestic economy, if you look at the Australian market by industry sectors, 2014 has actually seen a historically low level of dispersion. As we are currently at just over the half-way mark of 2014, in this piece we are going to look at what is going on in Australian equities in this very benign start to 2014.

Why sectors are important

As equity portfolios are constructed by blending individual companies, rather than investing directly in industry sectors, one could question why we would look at the performance of an individual sector. The reason we look at the performance of sectors is to give sense of the overall health of an industry, divorced from the company-specific factors that may be impacting an individual company's share price. For example consumer discretionary stocks have performed poorly in 2014 and if we were holding a retailer in the Core Equity Portfolio (which we don't) that was still performing well, as the portfolio manager I would be asking the analyst covering that retailer why a downgrade to earnings is not imminent!

Furthermore, by measuring the performance of stocks that are owned against the overall return of their industry, investors can determine whether a manager has stock-picking skill or just happens to own companies in a hot industry. For example, in 2014, recent addition Transurban has returned +17%, which was ahead of the overall industrials sector return of +6%.

Mid-season-report-card.PNG

Dispersion low in 2014

The first six months of 2014 has been pretty calm in historical terms, with the difference between the best performing sector (Listed Property +16%) and the worst (Consumer Discretionary 0%) at the lowest level we have seen in the past decade. Furthermore, as you will see from the chart below, most of the ASX sectors have posted total returns (price plus dividends) clustered around the ASX200's return of +5%.

From the above chart, the difference between the top and bottom performing sectors so far in 2014 has been quite small. Over the past decade, the average spread has been 30%, with the largest deviations occurring in 2008 (Energy +16%/Consumer Discretionary -39%) and 2005 (Energy +37%/Discretionary -8%).

Mid-season 2014 report card

The below chart of the total returns generated in 2014 highlights not only the narrowness of the spread between the top and bottom performing sectors, but also how closely the majority of the sector's returns are clustered around the ASX200.

The top performing sectors in 2014 has been Listed Property Trusts driven by the performance of trusts like GPT (+18%), Dexus (+17%) and Westfield (+16%) and Utilities helped by Duet (+24%), APA (+20%) and Spark (+21%). These two sectors have been assisted by investors hunting for both yield and takeover activity in the sector. Energy has also performed well with rising energy prices from instability in Iraq and a number of companies such as Oil Search (+18%) having LNG projects approaching completion and Woodside (+10%) distributing a portion of its excess cash back to shareholders.

Conversely the worst performing sector is consumer discretionary, which has faced headwinds from declining consumer confidence translating into weaker retail sales. This has hurt investors owning Super Retail Group (-31%), Myer (-14%) and the Reject Shop (-42%). Stock-specific issues have hurt Crown (-7%) which declined on concerns about slowing Macao gaming revenue and former market favourite Navitas (-19%) due to the loss of a critical contract with Macquarie University. The Materials sector is essentially flat in 2014 after falling heavily in June due to unfavourable moves in both the iron ore price and the AUD. Within the sectors there is enormous dispersion, as Newcrest (+42%) effectively nets off against Arrium (-55%) and Fortescue (-26%), whilst BHP (+1.3%) anchors the centre.

Mid-season-report-card2.PNG


As a fund manager the problem with having a narrow band of returns is that a wider range of returns affords greater opportunities for our concentrated portfolio to stand out from both the index and other managers. The Core Equity Portfolio is not constructed by investing in sectors, but rather is populated by companies that both pass our quality filters and are undervalued based on our bottom up analysis.


Disclaimer
This article has been prepared by Philo Capital Advisers Pty Ltd ABN 70 119 185 974 AFSL 301808 (Philo) and contains general investment advice only. The information in this article does not take account of your objectives, financial situation or needs or those of your client. Before acting on this information readers should consider whether it is appropriate to their situation. We recommend obtaining financial, legal and taxation advice before making any financial investment decision. To the extent permitted by law, neither Philo nor any of its related entities accepts any responsibility for errors or misstatements of any nature, irrespective of how these may arise, nor will it be liable for any loss or damage suffered as a result of any reliance on the information included in this article. The information in this article is based on information obtained from sources believed to be reliable and accurate at the time of publication but we do not make any representation or warranty that it is accurate, complete or up to date. We accept no obligation to correct or update the information or opinions in it. Opinions expressed are subject to change without notice. Past performance is not a reliable indicator of future performance. Any forecasts included in this article are predictive in character and may be affected by incorrect assumptions or by known or unknown risks and uncertainties. Nothing in this article shall be construed as a solicitation to make a financial investment.

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Hugh Dive, Head of Listed Securities


Prior to joining Philo, Hugh was Head of Basic Materials Group Investment Research; covering the chemicals, building materials and steel sectors. In the 2011 Reuters StarMine Equity Analyst Awards, he was rated 5th overall in Australia for stock picking and first in the Diversified Industrials and Chemicals sectors. Hugh has extensive portfolio management experience gained at Investors Mutual, with a successful track record managing both small and large cap value funds. In 2009, one of the funds he helped manage, the IML Future Leaders Fund, won the AFR Smart Investor Award for the best Australian small cap fund.


Hugh started in funds management with CC&L Investment Management in Vancouver; Canada’s largest independent fund manager with C$37B under management. At CC&L he focused on asset allocation and then Canadian equity analysis. Hugh holds bachelor’s degrees in both Economics and Law from Sydney University and the University of British Columbia, Canadian Securities Course (Honours) and is a CFA charter holder.

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