Portfolio - Value Investing - Growth With Value

Portfolio Performance

I began investing in February 2009, which turned out to be an opportune time to begin as this happened to be the bottom of the infamous Global Financial Crisis (GFC) bear market. Since 2009, I have continued to educate myself in the practice of Value Investing, researching many highly regarded professional investors such as Warren Buffett, Peter Lynch, Benjamin Graham and Charlie Munger to name a few.

Over time I have developed my investment process, drawing on the philosophies of successful long term investors and incorporating numerous financial formulae into a logical, step by step investment process, to help me determine whether a business is suitable as a long term investment in my portfolio.

The time and effort spent in honing my investment process gradually began to pay off. Adopting a more disciplined and process driven approach to my investing caused many changes to my original portfolio, resulting in a reduction of stocks held and a much higher emphasis being placed on the merits of the business, as opposed to merely looking at the current share price.

As reflected in the graph below (Refer to Portfolio 1 below), these gradual changes to my investment process have resulted in the portfolio returns to consistantly outperform the ASX 200 Accumulation Index (XJOA) from 2018 onwards.

Since refining my investment philosophy and implementing it fully in 2018, I began a new portfolio (Refer to Portfolio 2 below), which consists of investments in businesses which meet both my investment and ethical criteria. I believe this new portfolio is a better reflection of my refined investment processes and decision making into the future.

Note: Portfolio 1 reflects my sustained investment performance, transcending various investment styles and processes employed over time.

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Portfolio 1 Description

Portfolio 1 covers the period from February 2009 when I first began investing with all returns net of fees and expenses and including dividends (net total return). I have used the Australian Stock Exchange (ASX) 200 Accumulation Index (XJOA) as my benchmark. This index tracks the 200 largest ASX listed companies by Market Capitalisation and is seen as a barometer for the Australian Stock Market. This particular index also includes the reinvestment of dividends.

Originally, my portfolio did not have the strict ethical and fundamental screens which I incorporate today and which are reflected in Portfolio 2. I did not have any real structure to my investment process when I first began other than if the business looked to be cheap compared to historical prices, I would consider investing in it. Over time I gradually incorporated what I learnt from studying investment philosophies of highly regarded professional investors such as Warren Buffett, Peter Lynch and Charlie Munger, to name a few.

Gradually my portfolio started to include businesses which reflected the investment philosophies practised by many of the great investors.

I began looking to include businesses which generated strong returns on capital. As Charlie Munger said:

“Over the long term, it’s hard for a stock to earn a much better return that the business which underlies it earns. If the business earns six percent on capital over forty years and you hold it for that forty years, you’re not going to make much different than a six percent return – even if you originally buy it at a huge discount. Conversely, if a business earns eighteen percent on capital over twenty or thirty years, even if you pay an expensive looking price, you’ll end up with one hell of a result.” – Charlie Munger

Next, I started to consider whether or not the business made sense to me. This allowed me to better understand the growth potential of the business and if I thought the business or the industry in which it operated had long term future prospects. A couple of quotes from Peter Lynch on the subject of investing in what you know and understand:

“Understand the nature of the companies you own and the specific reasons for holding the stock.” – Peter Lynch
“Know what you own, and know why you own it” – Peter Lynch
“The typical big winner in the Lynch portfolio (I continue to pick my share of losers, too!) generally takes three to ten years or more to play out.” -Peter Lynch

The difference between price and value then became obvious to me. I realised that to make above market returns I would have to invest in a business where I could pay a price below its true value (Intrinsic Value). Initially I was unsure how to value a business until I understood that the price of a business, or any investment for that matter, is the discounted value of all expected future cash flows, as calculated using the Discount Cash Flow Model. A few great quotes on price and value:

“Price is what you pay, value is what you get” – Warren Buffett
“It’s far better to buy a wonderful company at a fair price, than a fair company at a wonderful price.” – Warren Buffett
“If the p/e of Coca-Cola is 15, you’d expect the company to be growing at about 15 percent a year, etc. But if the p/e ratio is less than the growth rate, you may have found yourself a bargain. A company, say, with a growth rate of 12 percent a year and a p/e ratio of 6 is a very attractive prospect.” – Peter Lynch
“All intelligent investing is value investing, acquiring more than you are paying for. You must value the business in order to value the stock.” – Charlie Munger

Next I accounted for the risk of the businesses as measured by its debt levels and liquidity. Some quotes on debt:

“What you want to see on a balance sheet is at least twice as much equity as debt, and the more equity and the less debt the better.” – Peter Lynch
“I learned this very early, it is very hard to go bankrupt if you don’t have any debt.” – Peter Lynch
“The biggest losses in stocks come from companies with poor balance sheets.” – Peter Lynch
“Only when the tide goes out do you discover who is swimming naked.” – Warren Buffett

Finally my portfolio transitioned into one which comprised businesses which also met my ethical screen. I now look to invest in businesses where I am comfortable to use their products or services. I also do not want to feel any guilt about profiting from the businesses in which I invest.

Portfolio 2 Description

Portfolio 2 tracks my portfolio returns since fully implementing my refined investment processes in May 2018. Results are after accounting for fees and expenses and include dividends (net total return). As with Portfolio 1, I have used the Australian Stock Exchange (ASX) 200 Accumulation Index (XJOA) as my benchmark. This index tracks the 200 largest ASX listed companies by Market Capitalisation and is seen as a barometer for the Australian Stock Market. This particular index also includes the reinvestment of dividends.

Using my watch list, which has been created through using a simple Stock Filter to remove any businesses that don’t satisfy my basic investment and ethical criteria) I will then conduct more in depth analysis of a business in which I am considering to invest. The filter has been based primarily on Return on Capital, low Debt to Equity and also the removal of certain industries which do not meet my ethical requirements, I will also remove any business that does not make immediate sense to me (invest within my circle of competence). My ethical filter will usually exclude businesses operating in the following Industries: