Sunday, March 30, 2014

Low PE and Moderate Dividend Portfolio

 In December 2011 I read a book written by James O’Shaughnessy titled “What Works on Wall Street”. It formed the basis for the Low PE and Moderate Dividend Portfolio.  Since then we have made a total return of 41.6% and our initial portfolio value has increased from $100,000 to $141,581.56 as of March 30, 2014.  In this first quarter of 2014 we made another 4.6% of 18.5% annualized.

That was not entirely without the interference by ‘my little dirty hands’. The initial 2014 portfolio started out with a $14,000 investment in Norbord (NBD-T) which fell nearly 10% in the first month and I decided to take the loss and sell. As you may remember (or not) apart from finding stock that trades in the lowest P/E decile (10%) of the TSX while having a dividend yield between 2.5% and 6%, the stocks in this portfolio were vetted by me for financial soundness (decent balance sheet and sound business model).  This year, the low PE and moderate dividend group of stocks included several junior gold stocks, in particular Mandalay (MND-T).  I considered the stock too risky and decided to omit it from the portfolio. Since then the Mandalay share price has increased from $0.76 to $0.91.  Alas, hindsight is 20/20.
Also, Genworth (MIC-T) once again qualified for the portfolio in spite of significant gains in the previous year. Thus, I trimmed, i.e. sold some shares, so that this CMHC private sector clone, was equally weighted in the portfolio. However, the adjusted cost base, due to the past gains is now much lower ($8,546.59 than the $14,000 for the other stocks).
With the stock market becoming increasingly expensive and thus with less shares to choose from, I decided to not lower the criteria but rather to reduce the number of holdings and retain the cash. In January 2014, only 193 companies had a dividend yield greater than 2.5%. Of those, only 7 traded at a P/E of less than 8; while 10 companies traded below a P/E of 9.  Of those 10 companies, 2 were in the process of being taken over.  This included Chorus Aviation which became part of Jazz Airlines – you may know how Warren Buffett sees airlines and my previous experience with investing in Air Canada has left enormous bruises on my investor behind. So Chorus was dropped as well.
The resulting portfolio comprises:
Capstone Infrastructure Corp - Infrastructure businesses. Its portfolio includes power infrastructure businesses in Canada and interest in utilities businesses including district heating and regulated water in Sweden and the UK
First National Financial - Underwriter and servicer of prime single family residential and multi-unit residential and commercial mortgages
Genworth MI Canada - Mortgage insurer.
Melcor Developments LTD – Edmonton based Real Estate Developer active in Edmonton and Calgary.
Plazacorp Retail Properties - Stripmall owner mostly in On, QC and New Brunswick also a scattering through rest of Canada. Profitable moderate leverage and Developer with acreage.
Rocky Mountain Dealerships - Agricultural equipment rentals.
Note the reported gains and losses in the figure below exclude Norbord’s 10% loss. Hence the 9.1% return on unrealized capital gains. As stated before, including dividends, the 1st quarter’s return was 4.6% or 18.5% annualized. This compares to a return on the I-shares Capped TSX (XIC-T) of 5.65. Not bad considering that we have a $55,884 or 39% cash position. 
Click on figure to magnify.
This brings up an important question, is a 39% cash allocation too high for this stage of the bull market?  I would say ‘Yes’, because there is still plenty of worry and soul searching going on in the market. The banks have been performing moderately well this quarter but have still attractive yields and moderate PEs.  Bank of Montreal (BMO) is the cheapest of the lot right now, except maybe Quebec based National Bank.  The latter is a lot less diversified than BMO and will be most affected by Quebec’s current political instability. So, we’ll be adding a $20,000 worth of BMO stock to the portfolio and lower our cash position to a more reasonable 25%. The new improved portfolio is show in the last figure of this post.
Added:
Bank of Montreal – Major Canadian Bank
Click on figure to magnify.
 Please, note that these investments are tracked in GlobeInvestorGold's 'My Portfolio' feature

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