How to assemble a winning share portfolio
01 January 1970
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Hello and welcome to the latest edition of Old Mutual Live Business, my name is Chris Gibbons. Once again we’re talking investment and now how to assemble a winning share portfolio. Well, the formula is a simple one. You need a selection of great companies, those great companies need to be run by great people, but how do you make those decisions? How do you find the great companies? How do you know if they contain great people?
We’re joined now on Old Mutual Live Business by a well-known financial commentator David Shapiro who is also Deputy Chairman of Sasfin. David, greetings, welcome, thank you for your time, you’ve been around the markets for a while. First of all, would you agree with my assertion that investing is simple? All you have to do is find great companies and find great people.
David Shapiro: In fact, it’s a lot simpler than you think. We complicate it and I think the investment industry likes to complicate it. Because by confusing your public, it means that they come to you for advice. But all you need to do Chris, is do a little bit of reading, over time, and you’ll soon understand what good companies are. In fact, we identify most people who shop, identify good companies all the time and they know who they are, they just haven’t got the confidence.
How do you go about finding a great company?
CG: Talk me through that in a little bit more detail. How do you go about finding a great company?
DS: I don’t think there’s a definition or one definition that fits all. I think you generally look for a business that has a very consistent earnings record and also, obviously, it’s got to make the right product. For example, we know that Woolworths is a good company, why? Because when we go there, we like the products that they sell and it appeals to a lot of people.
But I think beyond that, beyond looking at that, you’ve also got to look at management and in my view, Chris, every company that I own, I look very carefully at the people who are running it. That’s why sometimes it’s very difficult, or I stay away from businesses that come to the market, or have just come to the market where we haven’t had a chance to assess or measure what they say.
I say ‘measure what they say’ because a lot of CEO’s give out advice or they give out projections or they talk about their company. It’s only over time that you can measure what they say against what’s happened. Just to go back to that, first of all, I think you have to look at people when you look at management.
I think Buffett used to have a saying that he likes to invest in companies that make money for people rather than from them. In other words, where management looks after the public and who treats them as shareholders. They don’t exploit their positions for gain, for themselves, business directors. You’ll know that from the amount that they pay themselves salaries or from share options or issues around that. I think that’s very important.
You also want to look at the lifestyle of the person running the company. Does he live frugally or does he go out and splash and make the front pages socially, is that why he’s there. So look at management and also, of course, they’ve got to be creative. You’ve got to make sure that they actually can grow businesses.
I think that’s a podcast in itself, is that one of the biggest troubles I’ve seen here on the JSE is so many businesses come to the market, they’re very good small/medium companies, but management doesn’t know how to grow businesses. That’s where you get the Jothe’s or the Adrian Gore’s or Hedderwick’s, Stephen Saad’s, people of that calibre.
It’s time to do your homework
CG: The essence, you’re telling me the essence of assembling your portfolio is to get stuck into the homework.
DS: You’ve got to do your own homework and it’s not difficult. We publish reams and reams of numbers every day and the hardest thing, Chris, is to actually get through all of that. You don’t need to. Just read the commentary.
Read how each division does cause all of that will be contained in publications given by the business. Read what they’re selling, who their customers are, what their customers think of them and you’ll soon pick up a trend in a business. Of course, look at what they say about the future, how they are coping with stuff. You get a much better feel of an economy from reading corporate reports than maybe looking at some of the official statistics.
You’ve got to read. You’ve got to do that work, but you don’t need to be an accountant or a high level accountant. In fact, the more you know about accountancy, the more it’s going to put you off, trying to understand how they get to some of the numbers.
How to equate future earnings, today
CG: Apply some common sense. There is, of course, another dimension to the investment David and that is the price that you pay. Many a great company is very fully priced, to use the jargon or, as we might say, expensive?
DS: Exactly and so many people make a mistake of buying very good companies at high prices. You have to say, I’m trying to think of a quick way to assess this, when you buy a business, what is the price of a business? It’s the present value, in other words, today’s value of what will be earned in the future. I hope that’s not too confusing.
In other words, what analysts do, they look to the future, see what the company is going to earn and then they bring it back to a value today. Sometimes that can be excessive and when you look at that, you’ve got to assess, hold on a sec, am I paying too much for it?
One thing we’re going through now on our market is we’re going through an unravelling of those ratings. In other words, the markets put too high a price on some of these companies and one of the reasons we have come back so sharply over the last couple of weeks is that because I think, projections of future earnings were just too high.
The market sobered up to that fact and said, hold on a sec, things are not going to be that great, the results we’re getting are just showing you that we’re a little too generous in our projections, we’re going to tone it down and that’s what we’ve seen an unravelling. It hasn’t been cause the companies are no longer making profits, it’s just that we put too much optimism on future earnings.
Spotting a good time to buy
CG: Round about now, theoretically, should be a good time to buy?
DS: Close to it, in some areas we’re seeing very good value, particularly in banks. Banks have come back dramatically over the last year. I think our banking index must be down between 15-20%. Banks were never overly priced, so I think we’re getting them at very good value.
There are, you have to be cautious because there’s still problems outside there with the economy, levels of activity are not as great as they were. There’s worries about bad debts, but over and above that, we still expect banks to earn very reasonable profits. At these levels, they’re looking probably the most attractive sector on the JSE at the moment.
CG: David, one question, danger and I don’t know if ‘danger’ is the right word, the danger of the share tip from a mate over a beer at the braai: oh, I heard so-and-so’s results are going to be pretty good, I’m thinking of having a punt, should investors listen to that kind of talk?
DS: You know what you find, that’s the psychology of investment, everybody is scared they’re going to lose out. So they worry that maybe it’s truthful, maybe it’s not and you’ll be surprised that even the most sophisticated investors get suckered in by that kind of talk.
With me, I avoid that kind of talk, don’t listen, even if you’re wrong because I think generally those tips are going to be more wrong than right. Do your homework, understand what the business does. Understand it, understand Apple, what does it do? It sells Smart Phones. You know the product, you know the demand, you can assess it from the people around you and then understand who is running the business.
Look at the valuation, say: does it seem reasonable, can this company live it up to the expectations or to the market’s expectations. Chris, there’s one thing, in many cases the company, you know, we always say, oh a company missed its forecast. They didn’t miss a forecast, the analysts were wrong. Companies make profits.
What happens is sometimes the analysts make forecast which are wrong and that sometimes also has an impact on share prices, but just look for businesses that are just going to keep increasing their profits, generate cash, give you a nice dividend, it’s not difficult.
How to manage your portfolio
CG: Final question David, do I buy and sell, buy and sell, or do I simply buy a parcel of good shares, stick them under the bed for a few years?
DS: No, buy a parcel of good shares, but keep watching them. Every day you kind of wake up and ask the question: are the reasons for which I bought this share still valid? If they’re still valid, hold them because what we’ve seen in the past is companies like Anglo American, which used to dominate the South African investment scene, in fact it was the noblest of companies.
Today it’s down at number 24 or 25 in terms of market cap. So businesses do sometimes lose their way and we’ve seen it with MTN where management let us down and so on. We’ve seen it with commodity companies, so by all means, buy good companies, but just reassess them. It doesn’t mean you have to trade on a day and it doesn’t mean jump at the first sign of danger, but you have to keep in touch with what’s happening in global affairs.
CG: Good advice there from David Shapiro, Deputy Chairman of Sasfin.