Portfolio review: July 2020

We are just halfway through 2020, but it already feels more eventful than the past few years combined. I’ve had to restrain myself from overusing the word ‘unprecedented’, apt as it is for describing many of this years events. Despite the fastest stock market crash in history and a cack-handed attempt at market timing, my performance so far this year has actual turned out OK at around 13% YTD.

2020 has been a good year for to learn some investing lessons, not least in humility. Several high profile and smart investors, notably including Buffett and Druckenmiller, have been forced to eat humble pie on failing to anticipate the effect of government policies to protect businesses and inject liquidity into the markets. I’ve had my own share of humble pie too – I’ve been my most bearish at a time when I should have been bullish. Yet despite the major error of selling rather than buying early on in what has turned out to be a massive bounce, I now find myself well up for the year so far.

A lot of this is thanks to luck. While my intentional efforts at market timing were terrible, I was lucky in selling a large proportion of my portfolio near the beginning of the year to fund a house purchase that eventually didn’t go ahead. I’ve also benefited substantially from having made my largest position Best of the Best, a business that runs online ‘spot the ball’ competitions to win cars. BOTB is up almost 300% since the start of the year. It was already trading ahead of expectations in January but on top of this became a major beneficiary of the lockdowns, which took sports betting out of action, left customers stuck at home and led to cheaper online advertising. There’s probably a bit more to go as we await the results of BOTB putting itself up for sale. BOTB has grown to around 17% of my portfolio despite me starting to take some profits a little early. Provided the sale goes ahead this should provide a sizeable cash balance to reinvest later in the year – this could prove handy if the market crashes.

This brings me on to my current market outlook. The point remains that global economies are going through a massive contraction and we have little visibility of what the long term consequences are going to be. Government interventions have only been successful in kicking the can a short way down the road and there there is a distinct possibility of another panic when it becomes more apparent that the long term effects are going to be worse than expected. However, it’s hard not to feel bullish in the current market conditions, especially if you invest in high quality tech stocks. In some ways, the market has rarely looked this positive, with an extremely favourable tailwind of monetary policy, strong momentum and yet amble bearish sentiment from those with cash on the sidelines. As more time passes it seems more likely that investors are going to ‘look through’ the downturn to the eventual recovery, even it it takes a bit longer than expected. The conditions seem ripe for an extended bubble as much as a another panic.

Given this somewhat more positive though uncertain outlook, and with funds from my BOTB position likely to become available again at some point, I’ve been reinvesting more of my cash balance over the last few weeks. It now sits at around 9%, which when added to BOTB seems ample to give me peace of mind. My reinvested cash has all been used either to bolster existing positions or to reinstate some familiar faces. Over the last few weeks I’ve added Somero, Adobe, Games Workshop, Microsoft and DotDigital. I’ve only made one sale this week of Ideagen for a small profit.

Performance

I’ve finally decided I need to calculate my actual cash return more precisely rather than relying on a Stockopedia fantasy fund to track performance. This has been a bit of a pain but necessary as the fantasy fund was becoming increasingly inaccurate – it didn’t account for dividends, tended to achieve slightly worse buy and sell prices (as it’s often possible to trade inside the ‘official’ spread in practice) and didn’t automatically update for share splits. I’m pleased to find out that the cumulative effect of these inaccuracies is that my actual returns in previous years have been significantly higher than estimated by the fantasy fund. I also neglected to account in my fantasy fund for my good fortune in selling over one third of my portfolio near the start of the year to fund a house purchase. At the time I believed that the funds were no longer available and so I wanted my performance to reflect that I was still effectively fully invested. However, this turned out not to be the case as the transaction ultimately didn’t proceed. This has meant my actual cash returns this year have been much higher than suggested by the fantasy fund.

The performance of my portfolio (QSS) is shown against its benchmarks in the table below. My main benchmarks have been the FTSE 100 (total return), the S&P 500 (total return) and a portfolio of the top decile of UK shares according to their Stockranks. As for the last two yearly reviews, I’ve also continued to benchmark my portfolio against a handful of professional fund managers I rate highly.

I’m pleased that my performance is comfortably ahead of benchmarks over most time periods. However, this is a bit flattering as these stats reflect that I sold a large proportion of my portfolio before the market crash to fund a house purchase that didn’t go through. This is the result of luck rather than any good judgment in market timing! Had I actually remained fully invested as I intended I would have taken a much bigger hit and my performance would be little better than break even for this year so far.

Strategy review

The focus of my strategy on high quality has done strikingly well this year. Far from higher-rated stocks being more vulnerable to a crash they have outperformed dramatically. Of course this is driven by the nature of the coronavirus crisis – it is a temporary demand/supply shock particularly affecting cyclicals, rather than a structural slowdown following an over-heating economy. The latter is where growth businesses tend to be affected relatively worse.

However, as tech stocks look more expensive and the valuation gap between growth and value widens ever more, I can’t help feeling wary. It is inevitable that at some point this will go too far and reverse drastically. Many commentators think we are already there but I’m not yet convinced. Long term I still prefer quality over value and I’d need a proper bubble before being tempted to shift tack completely. However, I am keeping an eye on the balance of my portfolio between more expensive higher-growth investments and cheaper investments. I’ve also made a handful of investments in ‘recovery plays’ where the investment case is based more on valuation than momentum.

The main challenge for my strategy this year has been market timing. My first ever market timing attempt has cost me almost 15% performance this year – significantly more than I inadvertently saved by raising money for my house purchase earlier in the year.

Why did I make this mistake? One of the very first lessons I learned (at least in theory) was the risk of selling in a panic. Up till now I’ve pretty much always been fully invested and have never been tempted to time the market. It felt like the coronavirus crisis was the right time to make an exception but my timing was way off. My reasoning at the time was by analogy to previous recessions. This recession looked likely to be much more severe than previous recessions, such as the financial crisis, so the risk seemed high that share prices would fall further. This seems pretty naive now in hindsight.

I’ve been served a lesson in how ‘the stock market is not the economy’. Given how difficult it is to time the market based on the wider economic situation I shouldn’t really try this often, if ever, and definitely not when the market has already fallen a lot. While it felt like I was being rational at the time, my judgment was probably clouded by the fear of more falls.

Individual shares

Here is an update on the progress my current investments. The main aim is to consolidate my thinking about which positions I’m more likely to add to and which are closer to being sold. I’ve aimed to mostly hold investments that should be relatively immune to the effects of coronavirus and the subsequent downturn. I also have a handful of cheaper-rated ‘recovery plays’.

Best of the Best (17.3%): my investment in BOTB has been the highlight of my investing year so far. In absolute terms it has become my most profitable ever investment by quite some margin. It’s gone above my max portfolio weighting limit of 15%, despite already taking some profits far too early. I’m now going to await the outcome of the business putting itself up for sale before selling any more. If I didn’t already have my fill I might be buying more here as the reward to risk still looks excellent at this point.

Bioventix (7.3%): Its last results were encouraging and the share price is bumping around near its highs. Bioventix is a portfolio stalwart and one of my favourite businesses. I think the near term outlook looks positive as I expect troponin sales to ramp up and vitamin D to continue to take longer to plateau than expected. I’ve been adding to my position here and will continue.

Mastercard (5.1%): MasterCard is another portfolio stalwart. Long term it should benefit from the coronavirus crisis as this should provide a boost for the shift away from cash. Short term, MasterCard’s profits have taken a small hit this year but it’s transaction volumes are recovering promisingly. I’m ideally hoping for another dip but even failing that intend to add to my position here.

Atoss Software (4.8%): Atoss is performing very well and is relatively unaffected by coronavirus. The share price has been motoring away but the valuation now looks relatively expensive so I’m not looking to add at this point.

Tristel (4.6%): the share price has been drifting down for the last month or so yet recent news was very positive and ahead of expectations. It should be a long term beneficiary of the coronavirus crisis. I’m seeing it as more of a buying opportunity rather than warning sign and have been buying more shares.

Liontrust (4.1%): Liontrust’s latest results were announced this week and they were very encouraging (and bolstered by the current market environment). It recently made a significant acquisition of another fund manager, Architas. The share price is currently near the highs and the valuation doesn’t seem too demanding so it could be a good point to add more.

Gamma Communications (4.1%): Gamma continues to make steady progress. It has recently acquired a Spanish cloud communications business to further its European expansion and still looks to have plenty of growth runway ahead of it. Momentum is good and the valuation looks reasonable so I’m ready to add more.

IG Group (4.1%): IG Group looks like it is in a good place at the moment. In the short term it’s benefiting from the increased volatility and liquidity generated by the coronavirus crisis. In the long term its prospects for returning to growth and continuing its international expansion look good. To top it off it looks very cheap. This is near the top of my buy list at the moment.

Boohoo (3.8%): there’s been a dramatic turn of events this week. News reports of Boohoo’s suppliers paying workers below the minimum wage and forcing them to work in unsafe conditions during the coronavirus pandemic caused the shares to almost halve. Boohoo have launched an independent review of its supply chain in response. I don’t think this news is very likely to have a material long term impact on the efficiency of its supply chain, though there may be some short term disruption. An adverse impact on its reputation, endorsements and consequently the demand for its products is more of a concern given the extent of media coverage. This clearly poses some risk, but I doubt that there will be much long term effect. I sold half of my shares on Monday morning on a ‘shoot first ask questions later’ basis but then bought some back again when the fall seemed excessive. I’m now feeling ambivalent. I admire its commercial success and many aspects of its business model. However, the ethics of the management seem questionable and it’s becoming increasingly hard not to see them as greedy Dickensian villains. I don’t much like holding onto controversial investments like this and am tempted to bail despite thinking the current fall in share price has probably led to a buying opportunity. Hmm…

Netflix (3.4%): Netflix definitely divides opinion. I’m a bull, principally on the basis of its competitive lead and scale advantages, though recognise the risk that the huge investments requires to develop the business don’t turn out to be as profitable as hoped for. Momentum is excellent and coronavirus has resulted in favourable conditions but the high valuation keeps me from adding too much to this position.

Euronext (3.3%): I’ve become more appreciative of Euronext’s quality as time has gone on. It faces limited competition, is highly profitable and is executing well on its opportunity to consolidate smaller exchanges across Europe. Euronext is another beneficiary of the current high market volatility. The last results were excellent, momentum is good and the valuation still seems reasonable.

Keywords Studios (3.2%): the video game sector is a major beneficiary of the coronavirus crisis, with reports that video game sales were up almost 50% in March. Keywords should benefit from this and back in April issued very positive results, highlighting the coronavirus effect as well as other growth tailwinds it is benefiting from, namely the launch of a new generation of consoles and streaming platforms. The long term opportunity here looks great and current momentum is good. The valuation is quite demanding though I think warranted given the prospects.

Servicenow (3.1%): the last results were excellent, though the company anticipates it may encounter some coronavirus-related headwinds over the next few months. Servicenow is an excellent rapidly-growing business with a strong competitive position. Its valuation is more contentious. My views on this are best reflected in my last post. Overall, I’m still positive but not going to buy any more shares for the time being.

Microsoft (2.7%): I’ve bought back into Microsoft again after being a forced seller a year ago (unfortunately missing out on a big rise). As the undisputed leader of the enterprise software market with a huge competitive advantage over rivals, I think Microsoft is a no-brainer. Momentum is excellent and the valuation is fairly punchy but I think warranted by the long term prospects. I’m still looking to add to my position here.

Adyen (2.5%): Adyen has motored away since I bought a small initial holding not long ago. It looks like a great high growth business with a strong competitive position but the valuation is quite demanding so I’m not really tempted to buy more right now.

Games Workshop (2.4%): Games Workshop is a long term favourite that I made the foolish decision to bail out on not far from the lows of the recent crash. This was mostly due to my overall market concerns but Games Workshop looked likely to get hit particularly hard in the short term given it had shut all its shops and factory. I thought its profits would fall a lot as its operational gearing into reverse. Remarkably Games Workshop turned out to recover very quickly. I missed a lot of the huge bounce in the shares but have bought back in recently. It should be fairly immune to recessionary impacts and its long term prospects are very exciting.

Burford Capital (2.4%): from my perspective none of the mud flung by Muddy Waters in its shorting attack last year really stuck at all. Nevertheless, investors seemed to lose confidence in Burford’s opaque business model and the share price has languished ever since. I’m not totally confident in Burford but the reward to risk here looks good with a rock bottom valuation and the share price starting to pick up. There are several possible catalysts for a re-rating too. Its US listing should go ahead soon, its game-changing Argentinian Peterson case is making progress through the courts and the massive ramp up in its 2017 and 2018 investments should soon start to bear fruit. I’ve probably got enough shares for now but I’ve got my finger over the trigger to add more if we get some good news.

Adobe (2.2%): I decided to buy back old favourite Adobe as its share price broke out to new highs. Trading has remained very resilient through the coronavirus so far, though I think there is some risk of rougher seas ahead. The valuation still looks reasonable given Adobe’s quality and consistent growth but is higher than it has been. I’d be happy to add more shares though it’s not at the top of the list.

Pharmagest (2.1%): Pharmagest’s main business of supplying IT to pharmacies should be relatively resilient to the current downturn, though it has suspended forecasts. Its last trading update was good and the share price has broken out to new highs. The valuation is fairly demanding and I’m not looking to add to my position imminently.

SDI (2.0%): we still don’t have very good visibility on how severely the business will be affected by the coronavirus crisis. Its last update suggested there would be some effect but not too severe. The share price was hit hard and has not recovered much, making this more of a value/recovery play. I’m waiting for its next update on 21 July before deciding whether to add more (or possibly sell).

Canada Goose (1.7%): Canada Goose is another recovery play. Like many retailers it is severely affected by the current crisis though hopefully to a lesser extent given it makes much of its sales in the lead up to winter. Its last trading update was pretty upbeat though the share price is prone to bounce around along with wider market sentiment. Given the quality of the brand and growth potential I think this is going to look pretty cheap when we come out the other side but I’m waiting for either a bit more traction or even cheaper prices to add more.

London Stock Exchange (1.8%): LSE is a long term favourite that I recently added again. It’s benefitting from higher trading volumes at the moment. Long term I think it has a rock solid competitive advantage and excellent growth prospects. It looks quite pricey but while momentum is strong I’m tempted to add a bit more.

Somero (1.7%): Somero is another recently added recovery play. It is highly cyclical so understandably its share price has been in the doldrums recently. The price seems very cheap, given the balance sheet is very strong and it should recover before too long. Out of the more cyclical sectors, construction (and more specifically warehouse construction where Somero’s products are particularly useful) is one area that I think may be relatively less affected. I’m tempted to add more to my position here though not too much until we have some more positive news on trading and outlook from the company.

Monster Beverage (1.4%): Monster is probably the nearest thing in my portfolio to a more boring, defensive compounder. This hasn’t done much since I bought last year and has been fairly unaffected by coronavirus, sales simply moving to different parts of its business. More importantly, I’m more confident that this should also be insulated from any longer term recessionary effects than many of my other holdings. I think Monster plays a useful role in my portfolio at the moment and it probably warrants greater weighting.

DotDigital (1.3%): DotDigital is my newest holding, reinstated this week. I’m a big fan of the business and think it has great long term prospects. I think email marketing should be relatively resilient during a downturn compared to other forms of customer acquisition. The valuation seems very reasonable and the price is close to breaking new highs.

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