Rudi’s View: How To Invest Allan’s $300k

This story features ALUMINA LIMITED, and other companies. For more info SHARE ANALYSIS: AWC

In this week’s Weekly Insights:

-More Coverage In Stock Analysis
-How To Invest Allan’s $300k
-FNArena Video
-Special Report on Ai

By Rudi Filapek-Vandyck, Editor

More Coverage In Stock Analysis

Some among you may have already discovered this, but FNArena’s Stock Analysis has an additional tab EXTRA COVERAGE.

Click on it and you’ll discover which additional brokers from BC Extra are covering the stock you are researching.

The Stockbroker Research history is still limited to the eight sources we monitor daily, but the next step will be to add history to the EXTRA COVERAGE too.

Enjoy, while we continue to make our service better and better.

How To Invest Allan’s $300k

Last week, one of FNArena’s many loyal subscribers, let’s call him Allan, sent in the following question: (I am paraphrasing) Rudi, I’ve sold a commercial property. Now have $300k in the bank. I want to invest, but can you provide me with some inspiration?

We all know where Allan’s reticence stems from. The ASX200 is weakening, but has been on a tear lately, setting a fresh all-time record high less than one week ago.

Lot’s of talk around of ‘bubbles’ and inflated share prices, as well as about The Great Rotation into share market laggards that haven’t had much momentum over the past 18 months or so.

First Things First

I can see a lot of similarity with late 2014-early 2015 when shares rallied hard, in particular those that offered yield at that time. There we were, starting up the FNArena-Vested Equities All-Weather Model Portfolio, having 100% cash ready to invest, and already battling with our very first Grand Dilemma.

It is from this experience I can share my first piece of advice: do not put any pressure on yourself. If you do, you will make mistakes and the one thing you should aim for is to not force yourself into anything you might come to regret later on. I know this is not easy, but try to dislocate from what happens in the share market right now.

Irrespective of that money sitting idle in the bank, you should be in no hurry, no hurry at all. Give yourself six months (I am not kidding), longer if circumstances require so, and be the patient decision-maker with a longer term horizon. You’ll thank yourself for it whenever you are able to reflect back.

Back in 2015, that strong rally came unstuck after less than six months. By July banks and cyclicals were in a fierce draw-down that would last until February the following year, and then still required another seven months to grab market leadership from what by then had become known as the Expensive Defensives.

I am not suggesting the playbook for 2024 looks similar, but things can change in a matter of weeks, or even days. Share markets, at least at face value, have performed above expectations for the first seven months of 2024. The Great Rotation is, at this point, not more than a fictional scenario for which the necessary building blocks are not in place.

Advice number one: take a cold shower if necessary. Block those eternal bulls on X (formerly Twitter). Convince yourself you are about to take the first steps in a journey that will involve thousands more steps. Do not hurry!

I am genuinely looking forward to sharing this exercise with Allan and all readers of Weekly Insights, but first I must share the basics that underpin my own research and investment approach, to make sure everybody understands the How and Why of my considerations and choices.

Quality Above Value

There will always be room for disagreement and different personal preferences, of course, but sharing my observations and conclusions first might lead to a better understanding when we arrive at my various ideas and choices.

First up; while just about everyone is constantly focused on figuring out where the next ‘cheaply priced’ opportunity is hiding, my personal observation is, over a longer-term horizon, corporate quality is much more important.

In simple terms: your typical value investor will always tell us to find an asset that is worth $1 and buy it when it is on sale for 30c (or something similar).

The problem I find with that type of investing, is most of the time the value won’t grow beyond $1, not even if we let time do its work. Thus while the upside seems pretty straightforward, once achieved it is time to move on, and that’s assuming the market will ever push that share price to its full value.

This becomes even more questionable in case of low quality business models, in particular when heavily reliant on the economic cycle. Low quality businesses tend to generate more disappointing newsflow, which might well push out the recovery further, or lead to a much lower share price first.

Bye Bye Alumina

One ASX-listed company that is heavily dependent on the commodities cycle is Alumina Ltd ((AWC)).

Alumina is one of the longest listed companies on the local bourse, and it is about to disappear with partner Alcoa Inc acquiring the business in full shortly.

This provides me with one last chance to illustrate what the price history of Alumina shares looks like (before it disappears from all price systems’ memory).

The price chart below depicts the annual share prices for Alumina Ltd going back to the early 1980s. It can be argued, because these are annual prices, a lot of the in-between noise is absent and what is left is the long-term trend in its roughest format.

Let’s be brutally honest about this: apart from temporary rallies, there’s no uptrend. Investing in Alumina shares has been all about picking bottoms and getting out before the next downturn announces itself.

The Grand Super-Cycle -Higher-for-longer, remember?- was a great time for shareholders, but the shares never recovered from the subsequent fall from grace.

To show the difference, I am not even countering that observation with one of my personal favourites. I’ve simply applied the same annual price dynamic to CommBank ((CBA)) shares since the early 1990s when it listed on the ASX.

I think we can all agree the trend on display looks fundamentally different. The banks in Australia are not without their own pitfalls, and the valuation of CommBank in particular is a constant trigger for debate, but at the very least everyone can see that buy and hold for CBA shareholders has worked really well over the past thirty years.

Plenty Of Examples

Lower quality versus higher quality is not by default a pitch of cyclicals versus others. I have long made similar observations between Domain Australia Holdings ((DHG)) and REA Group ((REA)) and between ANZ Bank ((ANZ)), National Australia Bank ((NAB)) and Westpac ((WBC)) versus the aforementioned CommBank.

If the past two decades have shown us one thing it is that a cheaply priced, lower-quality stock can certainly outperform in the here and now, but it is unlikely to do so over a longer period of time.

This also applies when a sector goes through a severe downturn. Just look at the differences in set-backs for Sonic Healthcare ((SHL)) and Healius ((HLS)). While shareholders in Sonic haven’t had much to crow about post-2021, they would never swap places with those holding shares in Healius.

There has been an equally obvious proposition among upcoming disruptors in the local financial platforms industry. Previously, this was the territory of large, established financial entities, but the past two decades have seen smaller-sized disruptors emerging to steal clients and market share.

In particular the past ten years have seen this process accelerate and all and sundry are now talking about a trend that is likely to last for a lot longer. Again, investors who saw this process unfold and jumped on board have done exceptionally well… as long as they did not fall for the ‘cheaper priced is better’ fallacy.

When Vested and FNArena decided to launch the All-Weather Model Portfolio we chose one of the smaller platforms to align us with; Praemium ((PPS)). This gave me first-hand experience into a small business that clearly could not cope with the growth it was exposed to.

It was mayhem and chaos at times, not helped by the fact staff turnover was extremely high in those days. The All-Weather Portfolio no longer runs on Praemium. I assume their service is much better these days, but even without my personal experience, I never felt Praemium is even close to the quality and solidity offered by Netwealth Group ((NWL)) and Hub24 ((HUB)).

It is difficult to argue with that when comparing key financial metrics for all three operators. Simply look at the steady increases achieved by Netwealth in terms of revenues, EPS, and dividends (all available through Stock Analysis on the website) or the -literally- growth explosion for Hub24 in recent years. And these are businesses of $5.5bn and $3.7bn in market caps, respectively, offering many more years of fast growth.

In the opposite corner we find the likes of Insignia Financial ((IFL)), that on Monday surprised through faster and more rigorous cost cutting, but which has been on the receiving side in this industry for many years now. And there’s Praemium, of much smaller size, but nowhere near the market grabbing forces as represented by Netwealth and Hub24.

In contrast, Praemium’s key financial metrics are all over the shop with a zig-zagging net profit margin the obvious stand-out. What Praemium does offer is a ‘cheap’ valuation and this might, one day, lead to that rally that outperforms its better-positioned peers. Because it looks ‘cheap’ it might also more likely attract a suitor.

Fact remains, on a longer term price chart Praemium shares look more like the heart beat of a terminally ill patient, with the occasional big spike, but otherwise a flat pattern. Investment returns are 100% correlated with picking the bottoms and knowing when to jump ship.

Strictly taken, there’s nothing wrong with picking bottoms in cheaply priced stocks and then ride the next rally, whenever it arrives. Whoever managed to get in at the low in early 2020 is still up more than 100% today. In practice, though, investors might find it easier to own higher quality alternatives for which more time owned usually results in more returns accumulated.

Over the past two years, Hub24 shares have rallied 129% and Netwealth shares 82%. Over the past financial year both shares are up respectively 82.9% and 60.2%. After such strong gains, it seems but logical a period of consolidation must follow. There might even be a pullback at some stage.

This might give Praemium and Insignia the chance to finally shine in comparison. The longer horizon in mind, however, I stick with the proven quality, because stronger growth from a better quality company is what wins the marathon, time and again.

August Is Beckoning

Another thing to keep in mind is quality growth in time only accumulates more and more value for shareholders, unlike the Alumina Ltds, the Praemiums and the Insignias mentioned previously.

Within this context I can still vividly remember the mental barrier I had to overcome to add Xero ((XRO)) shares to the All-Weather Portfolio. From memory, I bought the shares below $30. They’re around $135 today and have been as high as $150. In similar fashion, Wesfarmers ((WES)) shares looked ‘expensive’ above $30, and definitely when they crossed $40. Today, these shares are trading above $70.

I am by no means suggesting these shares cannot fall, or they can never be too expensively priced, but it’s great comfort for the mind to understand these share prices can go a lot higher, in time. It places any short-term anxiety duly in perspective. NextDC ((NXT)) shares are likely en route to $30 and beyond. CSL ((CSL)) shares are laying the ground works for $400-$500. Others have already done the calculations, as reported previously.

(Xero shares are no longer held in the All-Weather Portfolio, but this might be a temporary absence as the shares most definitely remain on the radar).

Equally important is to understand that, as analysts are in the process of updating their projections and assumptions, in preparation of the August reporting season, in most cases this translates into additional valuation upside (as this is how continued growth accumulates into added valuation when put through modeling).

Within this context, I note UBS, Citi and Morgans all increased their price target for Car Group ((CAR)) recently. Hub24’s targets were raised by Citi, Morgans and Ord Minnett. There will be a lot more of that happening once the August results are out (assuming no disasters).

With all these things in mind, the next step is to actually put together a hit list of stocks you can buy at current prices, and another selection of stocks you might want to add at cheaper levels in the months ahead.

That part will appear on the website on Thursday morning, so stay tuned (something to look forward to).

FNARENA VIDEO

Dani and I have put together a video to explain our focus (and enthusiasm as investors) for GenAi, the fourth industrial revolution:

https://fnarena.com/index.php/fnarena-talks/2024/07/15/investing-in-genai-the-fourth-industrial-revolution/

SPECIAL REPORT

Earlier this month, FNArena published a 78 pages Special Report on GenAi, the fourth industrial revolution with lots of in-depth insights, forward projections, and useful links to companies for investors in the Australian stock exchange.

This Special Report remains exclusive for paying subscribers. Download your copy via the Special Reports section on the website.

Model Portfolios, Best Buys & Conviction Calls

This section appears from now on every Thursday morning in a separate update on the website. See Rudi’s Views for the archive going back to 2006 (not a typo).

FNArena Subscription

A subscription to FNArena (6 or 12 months) comes with an archive of Special Reports (21 since 2006); examples below.

(This story was written on Monday, 22nd July, 2024. It was published on the day in the form of an email to paying subscribers, and again on Wednesday as a story on the website).

(Do note that, in line with all my analyses, appearances and presentations, all of the above names and calculations are provided for educational purposes only. Investors should always consult with their licensed investment advisor first, before making any decisions. All views are mine and not by association FNArena’s see disclaimer on the website.

In addition, since FNArena runs a Model Portfolio based upon my research on All-Weather Performers it is more than likely that stocks mentioned are included in this Model Portfolio. For all questions about this: contact us via the direct messaging system on the website).

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