Sunday, 15 April 2012

New proposed investment strategy based upon Neil Woodford's top 10.

Like the morning after a night before! investors and global markets appear to have woken up and remembered that it hadn't just been a bad dream and that there is still a hang over of concerns over economic stability, growth and inflation.
But I also notice that Lehman Brothers is coming out of the bankruptcy protection under which it has been thus far trading ( Lehman Brothers to repay creditors more quickly), which will enable it to start selling off assets and repaying creditors with an initial first round of payments potentially equating to $22.5bn, as part of an overall estimate of $65bn.
Surely must be good news for the creditors.

Anyway, looking forward, I mentioned in my last portfolio update that I have sold the portfolio's holding in the Invesco Perpetual High Income Fund (March 2012: Portfolio Update. ) but believe that there may be a useful low maintenance strategy that could be utilised by virtue of continuing to follow the fund's highly rated manager Neil Woodford.

One of my reasons for selling was that I had started to mirror some of the Invesco fund's choices  (December 2011: Portfolio Update) which, but for sales of National Grid and Tesco would have meant seven of my portfolio being duplicated in the Invesco fund. (16/4/12 amendment:- Or 8 given the news that the fund also owns Morrisons).

However, I am still hugely respectful of Neil Woodford's reputation and an admirer of both his performance and willingness to stand resolute with his strategy, so I will continue to put weight on his views.
And whilst a further grumble of mine is a lack of opacity and an odd disconnect between his fund's pricing and the apparent movements of his largest holdings (even with the understanding that there is a natural lag), I think it worthwhile to continue to monitor his performance against both the Edinburgh Investment Trust (also managed by Woodford), and a basket of his leading choices.

What do I mean by that? Well, in my March portfolio update I also suggested that there may be a reasonable strategy here for an individual investor to follow the flavour and philosophy of a major fund manager by selecting a basket of the fund's key picks. 
This kind of concentration, and limited diversification, is not something that Woodford could adopt due to the risks but might present a more acceptable level of risk v. reward balance to an individual investor (remember the research and monies invested by Woodford).

Open to debate but as of the fund's most recent report:
- the top 10 holdings occupy 55.33% of the fund's investment. Within that 55.33%:
- 20.62% is in Pharmaceuticals
- 16.14% is in Tobacco.
- 9.49% in Telecommunications

Top 10 holdings                             %
AstraZeneca                               7.90
GlaxoSmithKline                        7.86
Reynolds American                    6.07
British American Tobacco         5.96
BT                                                 4.86
Roche                                           4.86
BG                                                 4.77
Vodafone                                      4.63
Reckitt Benckiser                       4.31
Imperial Tobacco                         4.11
Total                                            55.33
Total number of holdings: 108

So if I was to pick 3 it would be:
- 1 pharmaceutical from Astrazeneca or GlaxoSmithKline.
- 1 tobacco and my preference would be for British American Tobacco with its greater exposure to emerging markets
- 1 telecoms with my preference being for Vodafone due to its: global exposure; exposure to smartphone products; and (within both those points), its shared ownership of Verizon Wireless the second largest mobile carrier in the US.

That's 2 of 3 picks then. I just need to decide between the lower rating, higher dividend yield, and net cash position of Astrazeneca or, the apparently more resilient drug pipeline of Glaxo, its larger vaccine business, and its commitment to develop its consumer products business which includes brands like Horlicks, Ribena, Sensodyne, Aquafresh, Macleans, and Lucozade. Putting it down like that suggests that Glaxo has more strings to its bow and opportunities  for growth than Astra, so Glaxo it is then.

I might easily have picked the largest holding of each sector though which would result in AstraZeneca, Reynolds, and BT. Although you could substitute BAT's for Reynolds in order to maintain a UK sterling based portfolio.
You might note that picking one of each dominant sector brings a small measure of diversification with it.

I'm also going to start with a notional £6000 and put £2000 (less stamp duty and dealing charges) in each and will start it from Friday's closing prices and try to use an indicative spread which I'll look for next week when markets open again.
Mid prices then:
- Invesco Perpetual High Income Accumulation units - 530.75p
- Edinburgh Investment Trust (Invesco Perpetual) - 489.1p
- GlaxoSmithKline - 1402p
- British American Tobacco - 3129.5p
- Vodafone - 169.45p

2 of the 3 picks have already gone ex-dividend so that might give the Invesco fund a minor head start but we shall have to see how that pans out.
I shall attempt to show dividends in the portfolio as cash until re-invested but, on the fund side, I have used the Invesco fund's accumulation units which automatically re-invests dividends.

I just need to finalise the amounts invested, and a few more rules, but it looks like we have a strategy to experiment with!

Related articles:

Earlier posts:


  1. How do MA,

    This will be an interesting micro portfolio to follow.

    Did you have good Easter?

  2. Hi MA,

    Did you have a close look at Astra? I was tempted by the high yield and cash position, thinking the share undervalued. With the recent fall, I had a sudden burst of buying fever, but after a long look at it, couldn't quite convince myself it was a good idea. Not that I think it's a bad idea, just I'm not convinced it's a good idea.

    The impression of the upcoming earnings drop is quite severe, which led me to think that the 6.5% yield was like taking a spoonful of sugar after some horrible medicine.

    Long term I think it *could* be a good buy if it does turn its earnings picture around. And at the moment, it's valued at half Glaxo's market cap, despite having higher earnings. But I saw a friend take a similar approach to HMV at 70p, and it was something I think we both learned from...

    What's your take on them?

  3. Hi Satiated,

    I am at much the same conclusion as yourself and therefore still prefer Glaxo for the more focussed strategy, consumer products arm, and vaccinations business.

    I have to confess that part of me would like to press the button on Astra with its yield, net cash position, and apparent undervalue, but I have to confess to not fully understanding how it might turn things around.
    It will have to spend money to purchase late pipeline stuff (the later the pipeline the higher the premium?) or continue to run itself down either way there would be a short term cash impact for a medium term result i.e an impact to fundamentals and a hoped for outcome.
    Meanwhile it probably has to continue paying dividends to keep a base under the share price.

    Woodford obviously has faith that they can buy/develop there way out of this decline in the longer term but the lack of visibility is the gamble v. the compensating dividend.
    I like your spoonful of sugar analogy.

    Some of the analysts suggestions include acquisition, bolt on developments to further protect its big guns like crestor, or a possible sell-out (at up to 30% premium).

    Taking a polar view of this industry problem I have also started to look at some of the big generic manufacturers which themselves are growing strongly.

    On a price/earnings basis, Astra is on a deteriorating forecast 7.2 times with negative growth this year of -18%, but the 6.6% dividend remains more than twice covered.

    Glaxo is on an improving 11.6 with 7% growth and a slightly less than twice covered dividend of 5.2%.

    Bearing in mind Astra's surprising miss on earnings forecasts this time around the Glaxo premium is probably fair.

    But should put in place the right strategy Astra has a seemingly stronger balance sheet relative to cash and debt.
    This at least is a major difference to the debt ridden HMV with its low margin sales so there is protection for the dividend, and a window of opportunity to re-establish a new platform for growth.
    So from that perspective there are many investors who would buy it (as cheap as possible) just for the dividend, an above average chance of growth, and a limited downside valuation for the assets should all else fail.
    There is an established expertise and resource here so if new management cannot turn things around then new owners probably can.
    But you do need to recognise that patience might be required.

    Not an easy one and the change of CEO should at least make the Astra strategy clearer but other than the present cost cutting I presume it will be some time before a firm base for earnings growth is re-established through the right acquisition and the presumption of a new blockbuster.
    Either way it is likely to trade sideways for sometime giving further opportunities to buy and might yet return to Woodford's buying region of circa £24.
    Its certainly not off my list yet.

    Let me know if you decide to go for the dividend and have the patience to wait out the decline.

    Best regards

  4. Hi MA,

    Yes, I definitely see the *potential* for gains there. If a new CEO can turn things around, then the cheap price of the company now will raise. But it also potentially has a long way to fall. With the apparent shareholder sentiment to reduce R&D and increase cash distribution, it seems like just bleeding the company dry.

    I don't have any strong reasons for expecting a recovery yet, so it seems like one of those cases where you put your money in and hope the price goes up. I'm trying to steer clear of those decisions these days ;)

    I've been having a close look at Pearson, and also looking for other companies with solid earnings, cash, debt position, steadily increasing dividends, that kind of thing. I am tempted to have a look at SSE, and I note they're in your portfolio.

    Another question I had - what do you use to track your performance over time? I haven't been able to find a portfolio tracker that can include dividends as part of the return from a share.

    1. Hi Satiated,

      I use a spreadsheet to monitor that I move forward a month at a time so that I can measure performance over chosen periods (e.g. month, YTD etc) and add the dividends accordingly

      I also have it built into a multi-year cashflow and budget plan but it also allows me to add different metrics and measures like portfolio weightings, forecast yield, yield based upon original investment, absolute returns, variance to FTSE etc. I also measure performance over custom periods e.g. month, YTD etc

      However, Digitallook has a decent little portfolio tracker (or multiple portfolios if you are so inclined).

      It enables you to add no. of shares, purchase and stamp duty, and a date of purchase. It then flags up when a dividend is due and then asks you if you want to accept it upon which it drops the dividend into the cash element of the portfolio. Its not perfect as the cash needs some manual adjustment as you can't seem to buy out of it but there are some interesting tools to go with it

      Best regards


    2. Hi Satiated,
      just being playing with the Digitallook portfolio and it looks promising. Remember to put a money in cash adjustment first if you want to keep track of cash residues.
      As well as the opt of accepting/declining dividends there is also a setting to determine if you want to take the dividend as cash or "re-invest" i.e take it as shares.