SMART INVESTOR

By 29/10/2015Uncategorized

In the face of recent volatility some SMSF investors have grown nervous and more than a little jumpy. China’s slowdown, the inevitable US interest rate rise, overseas money draining from the ASX and our plunging Aussie dollar have all been cited as possible catalysts for a further sharemarket plunge.

It seems like just yesterday that Greece’s woes were rocking markets and now they are long since forgotten as Europe mops up and China takes front and centre.

You see, market volatility is a sure thing. So, too, are your income and liquidity requirements in retirement. If you’ve been jittery about market gyrations, perhaps stop to think about the fundamentals of what you need and how you invest. Your retirement savings are not the place to take unnecessary risks and the hottest tips from the latest email newsletters. While there may be some great companies mentioned, they may not be appropriate for your SMSF portfolio.

Small companies often lack profits and cash flow, and more importantly they lack liquidity. When sentiment turns on small-cap businesses and you are a shareholder wanting to exit, the price can fall very quickly. That can make it a very ugly exit indeed, if indeed you can convince yourself to pull trigger on such a loss.

I’ve heard it all. “I want to wait until the share price returns to what I bought it at”, “I just can’t bring myself to sell at these prices with so much loss” and my all-time favourite, “I don’t want to realise any further losses this financial year”. The latter makes little sense because most of my clients or prospective clients are in pension mode and pay no tax.

intelligent investorThe truth is most investors don’t have a plan to sell. Everyone knows when to buy; when they have money burning a hole in their pocket. So what’s your strategy to sell? Do you hold forever? You need a plan and a strategy to sell that suits your attitude towards risk and to meet your investment strategy for your SMSF (hopefully you have one).

Some examples include mining and mining services darlings such as Silverlake, Fleetwood, Decmil and a long and inglorious list of others. A paradigm shift occurred in the fundamental demand for these stocks and their goods and services, yet I’m still seeing remnants of these in the portfolios of clients who do not actively manage their investments.

Your selling strategy needs to be specific and you need to stick to the system. Stop loss can work if you set a percentage drop at which you will sell. For example, if a share falls 10 per cent you have an automatic sell order with your broker. Another strategy might be a profit downgrade strategy: if a company comes out with a downgrade, then sell it straight away. Downgrades often happen in threes and are rarely isolated.

My preferred strategy is borrowed from Benjamin Graham’s classic The Intelligent Investor. If you have the tools, track the long-term price-earnings ratio of all your stocks and overlay the price earnings ratio of the sharemarket index. Both tend to revert over time. This very basic measure will tell you whether your share price is expensive or cheap no matter what its price. You see, prices will increase over time if earnings increase but price-earnings ratios should remain a better method of valuation.

Exuberance will push a share price and entire market beyond its historical average. For example, when Commonwealth Bank was at $95 and the S&P/ASX200 at 6000 they were pushing historical boundaries for the past 10 years. That said, with a falling Aussie dollar and share prices 20 per cent lower than two months ago, you’d have to think we are sitting at our long-term “fair-value” markers and buyers will re-enter the market soon.

If earnings fall, the market will fall further, but I think that is unlikely given the Aussie dollar falling with the market, low interest rates and a buoyant but slowing property market.

Trustees overseeing investment within SMSFs should focus on companies with solid and growing dividends, and they may well be on sale. Buyers will be awaiting opportunity and perhaps now is your ideal time to be reassessing your portfolio management strategy and, dare I say it, skills and knowledge.

Published at afr.com 07th Sept 2015

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