Its been a few slow weeks for me with vacation, which is usually when I find time for reflections and lessons learned. My thoughts below are a continuation of this post 6 months ago: Portfolio changes larger reshuffle Part 1. I started out this blog and investment portfolio in March 2016. My portfolio at the time had a heavy tilt towards Hong Kong listed companies and holdings with exposure towards China. The big theme I had been researching for the past year, before starting the blog, was Electric Vehicles and this theme had a large presence in the portfolio as well. That was my starting point almost 2.5 years ago, since then I realized a lot of things on how I should build my portfolio and only three of the starting holdings are still around.
A picture says more than thousand words, so I will try a new format here showing the buy and sell timings of some of my holdings. The performance for all stocks is restated into USD, since my portfolio is in USD. As a reference the GlobalStockPicking portfolio performance is also shown, rebased to start at the same value as the stock price. The data series looks slightly choppy since the GSP portfolio returns are only calculated on weekly basis.
Step 1 – Rotate away from China
My main focus for quite a while has been to find new investment cases and at the same time becoming a better stock picker. The stock picking was needed, to find new type of investments when I decided to start reshaping my portfolio. As important is the portfolio management, side, what should I be looking for, and what kind of companies do I want to have in my portfolio? The starting point of that reshaping was to say, what I did not want to have too much of. In step 1 by decrease my portfolio country tilt, away from China (Rotate away from China). This was done in somewhat of a haste, since my bearish market view meant that I thought a stock market downturn was imminent. My views were based on that I thought the Chinese economy was (and still is) severely overheated, with all the stupid investments that goes along with such a overheating. In this haste to transform my portfolio, I tried to replace the Chinese holdings with less cyclical and defensive companies (like Huhtamäki and ISS). I have to confess here, these investments were made without going the full mile in due diligence. Of course I had done some sort of due diligence, but not really drilling into detailed valuations. More recently I understood that I bought some of these holdings at fairly stretched valuations. I just sold my Huhtamäki holding and I would say the next holding I’m closest to selling right now is ISS. Other non-cyclical defensive investments, like Swedish Match, has performed extremely well in the last year.
Lessons learned from this: Don’t overthink Macro, it still OK for me to make a Macro bet that something big is going to happen in the future. But starting to rush into new investments due to a Macro call of rotating away from China, is not OK anymore. It is very rare that there is such a rush to act, take the time to fully analyze what I’m buying before jumping in. I also have a tendency of finding some new investment and get very excited. It gets even worse when the stock is trending upwards and it feels like I’m missing out, classic FOMO. Investing in this way is not acceptable for me anymore, I have to do a proper deeper due diligence before anything goes into the portfolio. Although I have not formulated that here on the blog yet, this is something that has become a hard requirement in the last six months.
China rotation – missed opportunities
My bearish China view obviously did not materialize at the time, rather Chinense stock markets continued to outperform for quite a while. Most of the holdings I sold, outperformed massively and only one, CRRC performed fairly poor. More recently though, Chinese stocks have turned bearish, with Trump trade wars having the most sever implications for China.
Another lesson learned here is to scale out of winning holdings, rather than cutting the whole position. Sure the stock could be more closely to fully valued, but momentum should not be neglected. Both in terms of stock price momentum, but usually the stock price increase is on the back of better fundamentals, where there is usually also some momentum, bringing the valuation downwards all else equal if you just hold on for a while. The way I sold out of YY (Further China reduce Sell YY), on a China Gov clampdown scare, rather than valuation, and how the stock afterwards continued to soar, that is hurtful to look back at.
Part 2 – Easier companies to understand with a longer term view
I stated a quite long term ago, a desire to have less portfolio turnover and take a longer term view on my holdings. The next step of the portfolio transformation was something I realized I had to do, to come closer to such a investment style. That was to remove holdings that is hard for me to fully understand. Meaning companies that I spent quite a lot of time understanding, but the nature of the business just makes it very difficult to fully penetrate. I had a discussion with value and opportunity blogger on this. His comment was that its no point in fooling oneself that you will ever fully understand any business. I agree with him, but the point for me is to understand the company to such a level, that even if a lot of factors around the company changes, I at least have a reasonable chance to grasp what does the changes mean. Hopefully I will also be able to understand if a stock price fall is warranted, or if its just market sentiment shifting. My experience is that when a stock just keeps rising, it doesn’t really matter how well you know the company, it feels great owning it anyway. The stock price increase just confirms how right you were buying it. Its when an investment falls significantly that your investment thesis is really tested, then at least I need that confidence that you understand the company well. I felt there were some holdings I would never reach that understanding of, at least not without a very serious continuous research effort. Companies that had to leave for these reasons were Criteo and Catena Media, one being one of my larger laggers and the other one of the largest gains.
Part 3 – Long term yes, but to what cost?
The main reason why I want to be long term in my investments, is that I firmly and strongly believe that one of the last untapped pockets of easily available alpha out there, is to have a longer term investment horizon than the market in general. Given that we want to be long term investors, how do we merge that with an analysis of the current valuation of the company? Should I buy great companies that currently looks very expensive, because they will do great long term? I think there is more alpha in finding great companies, that also currently have some margin to safety. That means you both are looking at good returns just from the business growing, but also a one off multiple expansion, as the market also realizes that this is a great company. In the very very long term, that multiple expansion probably does not matter as much for total return, but when I say I’m long term, I do not mean 30 years, I mean that I have an investment horizon of 5-7 years. Finding such companies is the ideal case, usually it’s only possible to find these among small caps, which then usually comes with other problems. So it doesn’t mean I never buy companies that are trading at high multiples, it all comes down to what opportunities are available in the market as well. Inditex, Diageo and NetEase are all examples where I paid up an fairly high multiple, clearly there is little multiple expansion to hope for, rather I just think they are great businesses which will continue to do very well, again, long-term.
Part 4 – Stock picking efficiently
Stock picking/research is what I enjoy the most, but it is also a time consuming process. Before I present a new investment case for you, I have looked briefly at many different companies, done a lighter due diligence on 5-10 cases and one of these hopefully is interesting enough to add as a new holding in the portfolio, which is then presented to you. I do not spend my time doing full write-ups of companies I do not invest in, just because time is precious, and I don’t have enough of it, to “waste” my time doing nice write-ups of something that I’m not investing in. The only exception was Teva, and that was a stock I thought I would invest in, but during my deeper dive, I changed my mind. Another lesson learned, is that I need to become more time efficient in my stock screening/searching. Currently my screening process is very much random, reading about one company leads me to another company and so on. Another way has been a general investment idea around for example electric vehicles, this leads me to read up on 10-20 companies in and around that sector. In the past I have done certain screenings, for example I screened for all brewery companies world wide, which led me to investing in Olvi. I have also done some screens on Australian and New Zealand listed companies, where I still currently have a few stocks on my observation list. Since my investment universe is global I think I should utilize this more in the future and use screens/filters as a more efficient way of generating ideas and companies I would never otherwise find.
Summary
- Having limited time and resources to find investment cases marries well with being a long term investor. Long term investing gives the opportunity to extract alpha where few others are looking. For me only certain types of companies can become truly long term investments. For example the company should be fairly easy to understand.
- I should focus my search and research on long term type of investments and also try to come up with a screening processes which makes it quicker to find such companies.
- No more rushing into new investments and never make hasty portfolio changes due to changing Macro, better to be late and do correct portfolio changes than rushing into new holdings.
- When a company re-rates in the market and starts to look expensive, do not sell the full holding, rather scale back the position, my track record shows I’m often not just early to sell, but way too early. Something of a let your winners run, cut your losers short strategy, but with less emphasizes on cutting losers.
Do you include in your analysis the seemingly manufactured interest rate environment, along with the quantitative measures employed, by the central banks around the globe? And how does the stampede into passive products alter the trading environment in the short/medium term? I’m guessing you still believe in the assumption of the voting machine/weighing machine as it relates to the market?
Hi Dan,
Sorry for the very slow reply, but you questions are not easily answered. A proper answer would require a long post of its own, I will give a more brief answer here and perhaps touch on these topics in later posts.
The low interest rate environment (that has lasted longer than probably anyone could have guessed) in some sense warp valuations of all assets. Given that the value of a company is the discounting of all future free cash flows, if they discount factor is massively lowered by low interest rates, the equity values balloons upwards. Now I don’t think markets fully have discounted that these low rates will prevail and in the same way I don’t either. I use similar slightly lower discount rates than in a more normal interest rate environment. The other angle of low interest is corporate debt, which right now creates nice operating leverage/buybacks etc. But if interest rate increase, this will instead become a huge burden on corporate balance sheets. I try to stay clear of highly indebted companies, although I do hold some companies with signficant debt (Dignity for example).
Passive vs active is a huge topic, my view is that the move into passive has inflated valuations in large-cap stocks and left small/micro-caps behind. I try more and more to hunt for alpha in the small cap space now.
Being a global investor is difficult, because every market works different and have different type of participants with different behaviour over the short term. Trading Hong Kong listed stocks is very different from Swedish. And then the Finish stock market is quite different from the Swedish. So short term one should approach the markets slightly different, but long term I dont think it matters much. I can try to expand on this later.
Great stuff, thanks for the write up!
Nice piece!
One thing that works pretty well (sometimes) is placing a trailing stop instead or in combination of scaling back your winners. About, say 8% over intrinsic value to handle some volatility, and the order will rebase automatically in 8% increments.
Cheers!