Expecting a correction, and a UK catch up

This leaves the JIC Portfolio up +232.3 per cent (+16.2 per cent annualised), since inception eight years ago. Over the same period, the FTSE All-Share has returned +97.4 per cent (+8.9 per cent annualised). Last January, I set up a 'bespoke' benchmark consisting of equal weights of 10 funds/investment trusts. I wanted decent global and thematic diversification and chose managers who I considered to have excellent investment approaches. The benchmark – Baillie Gifford Shin Nippon (BGS), Castlefield UK Buffettology (GB00BKJ9C676), Fidelity Asian Values (FASS), Finsbury Growth & Income (FGT), Fundsmith Equity (GB00B41YBW71), Impax Environmental Markets (IPX), Robo-Stox Global Robotics ETF (ROBG), Scottish Mortgage Trust (SMT), Templeton Emerging Markets (TEM) and Worldwide Healthcare Trust (WWH) – was up 22.4 per cent. I rebalanced this benchmark to equal weights on 31 December 2019 and made one change – I replaced Fundsmith Equity with Wisdom Tree Physical Gold ETF (PHAU).

The more focused JIC Top 10 Portfolio also had a good year. It hasn’t always. It was up +44.6 per cent, leaving it up +70.5 per cent (+10.7 per cent annualised) since inception just over five years ago. Over the same period, the FTSE All-Share was up +40.9 per cent (+6.7 per cent annualised). Although 2019 was much improved for this 10-stock portfolio, further strong performance is required. It really should be producing a higher annualised return than the 25-stock JIC Portfolio, otherwise what’s the point of running a more concentrated portfolio?

This leaves the JIC Portfolio up +232.3 per cent since inception eight years ago. Over the same period, the FTSE All-Share has returned +97.4 per cent

Markets benefited from starting the year at depressed levels following the fourth quarter of 2018 sell-off. A year ago, I headlined the outlook section 'Reasons to be cheerful', and I pointed to the attractive valuation of the UK market. I quoted Chris Dillow’s observation that “if past relationships hold, the yield points to the All-Share Index rising 30 per cent over the next three years, with only a 6 per cent chance of it falling”. Well, we have had +20 per cent so far! In the US, Charlie Bilello pointed out that 24 December 2018 saw the S&P 500 at its 13th most 'oversold' position since 2001. In all the previous 24 most oversold situations, the S&P 500 was up a year later and by an average of +23.0 per cent. That was indeed a good pointer, with the S&P 500 up +28.9 per cent in 2019. Despite ongoing trade wars and other distractions such as Brexit, there was one main driver of equity markets: monetary easing around the world. The US led the way with interest rate cuts, and in Continental Europe, quantitative easing recommenced in response to slowing growth. Central banks are providing a lot of liquidity, which is finding its way into assets.

In the US, the technology-heavy Nasdaq was up +35.2 per cent, with the likes of Apple (US: AAPL) up +86 per cent and Facebook (FB) up +56 per cent. Continental European markets joined in, with French CAC up +26.4 per cent, German Dax up +25.5 per cent and Italian MIB +23.0 per cent. In the Far East, China was up +31.6 per cent, Japan up +18.2 per cent, but Hong Kong, for apparent reasons, climbed only +9.1 per cent. Gold had a good year, gaining +18.6 per cent; when in some countries you have negative interest rates the opportunity cost of holding gold disappears. Oil was also strong, with Brent crude up +22 per cent to $66 per barrel.

Performance

Last year’s success can be summarised as one where, by luck or good fortune, I avoided any real disasters. Despite a pick-up in profit warnings, somehow I managed to sidestep most of them. One I didn’t was Altitude (ALT). Having built a position early in the year, I reduced the holding in August. I should have sold the lot as a week or so later I scrambled out of the rest following a weak trading update. My overall loss was restricted to just -0.6 per cent of the portfolio’s value. My worst performer over the year was Syncona (SYNC), which fell -18.1 per cent. It wasn’t helped by the poor performance from Autolus (US: AUTL), the Nasdaq-listed company that Syncona was instrumental in creating. Unfortunately, Neil Woodford had 20 per cent-plus position in Autolus. Everyone knew this stake would have to be placed at some stage and so for much of the year, it was a huge overhang, depressing the share price. That has now been cleared, and with Syncona's shares trading at only an 11 per cent premium to net asset value (NAV), I’m sticking with it. Historically, it has managed a 30 per cent+ premium, but the main reason for holding it is its excellent record of creating value in the life sciences industry.

Last year was one of those years where most of the stocks I added to the portfolio came up trumps. By far the standout winner was RockRose Energy (RRE). I acquired a position in January and February before its suspension, pending its acquisition of Marathon’s North Sea assets. The total return on my holding stands at +160 per cent. Games Workshop (GAW) came next; I bought between January and April and am up +85 per cent so far. Another new position was SDI (SDI). I built a holding between February and May and now have a total return of +81 per cent. Anglo Asian Mining (AAZ) bought in May and June is up +65 per cent, Avast (AVST), purchased in May and August, is up +44 per cent, Renew (RNWH) in December, +27 per cent, Worldwide Healthcare Trust bought in May, +23 per cent and Duke Royalty (DUKE) +21 per cent.

Mistakes and lessons

Mistakes in the past year? Apart from getting involved in Altitude, the other only error of sorts was selling Melrose Industries (MRO) in May. It went up +42 per cent over the remainder of the year. This brings me to patience. Patience is generally a virtue in investment. If the investment case is sound, it often pays to wait until the broader market starts to appreciate the opportunity. Chopping and changing just generates costs and rarely leads to better performance. There is a risk that you will end up just chasing the latest hot story. However, when managing a closed portfolio (the only new cash is that generated by dividends) there is a strong case for replacing existing positions when you find one with better prospects. You can’t just shovel some more cash into the new idea. Running a closed portfolio with a set number of positions should lead to greater discipline.

I don’t think I am any different from other investors in that over the years my investment process evolves and hopefully becomes more successful. I think the most important innovation for me in 2019 was introducing the Risk and Reward ratings for holdings in the portfolio. The idea came from Mark Simpson’s book Excellent Investing. It adds an element of discipline when deciding on position size as well as providing a reference point when reviewing a stock. For example, “does this stock still warrant a High Return rating, or should it be reduced to Medium?” Time will tell whether it leads to higher returns, which after all is what we are all aiming for.

Recent activity

Just two trades in December. On 2 December I added Renew (RNWH) to the portfolio at 405p. I held this engineering services business in the past, selling in August 2017 for a profit equivalent to around +3.0 per cent of the portfolio value at the time. My reason for selling back then was mainly valuation; the dividend yield had dropped to approximately 2.0 per cent, and on Stockopedia the StockRank was down to 50. Jump forward to December 2019, and its valuation looked enticing. It was on a prospective price/earnings (PE) ratio to September 2020 of just 9.3 times for 9 per cent growth and a forecast dividend yield of 3.1 per cent, rising to 3.4 per cent the following year.

Furthermore, results published on 26 November led to small earnings upgrades for 2020 and 2021. Last year, ending September 2019, saw engineering services sales up +20.0 per cent, including organic growth of +8.0 per cent. The chairman’s statement was confident. Despite its focus on markets where non-discretionary spending programmes exist to maintain critical infrastructures, such as rail, telecoms and energy, I think the fear of a Jeremy Corbyn Labour government was holding the valuation back. In any case, it was a massive beneficiary of the general election result, climbing +35 per cent over the remainder of the month. I funded the purchase out of cash and by reducing the position in Avast (AVST) (2 December at 440p). I bought Avast in May, but after a +44 per cent rise felt that my High Reward rating was no longer appropriate on a prospective PE ratio of 19.0 times compared with just 13.4 times at time of purchase. I reduced the rating to Medium, requiring me to reduce the position to 2.5 per cent.

Outlook

In 2019 global equity markets benefited from monetary easing. While I don’t expect monetary conditions to tighten this year, I don’t think the tailwind will be quite as strong. In the US, the rise in equity markets was almost entirely due to higher valuations rather than profits growth. It is over a year since we had a correction. Although liquidity is finding its way into equity markets, I think we are due a correction. In the UK, valuations still look attractive. The general election result should lead to what Theresa May was hoping for, “strong and stable government” and I think there is a strong case for the UK closing the valuation gap on overseas markets. On a global basis, I would be amazed if we had another year like last and my increased exposure to gold (I added this week) reflects my slightly more cautious approach. I will be more than happy if at the end of 2020 I have managed to maintain an annualised return of +16.2 per cent.