Market and Economic Update
Markets roared back to life in the December quarter, with investors choosing to look beyond the worsening impact of COVID in the US, Europe, and Africa, and instead focus on the prospects for sustained economic recovery on the back of vaccine rollouts around the globe. In investment markets, the standout performer in the quarter was the Australian sharemarket, which rallied an impressive 13.7% – just enough to deliver positive returns for the full calendar year. International share markets, global property, and global infrastructure also performed strongly, delivering returns of between about 5% and 10% for the period, although these returns were subdued somewhat when converted back into local currency by a 4% rally in the Australian dollar. With interest rates globally at, or close to zero, bond markets mostly eked out only modest positive returns, with the higher yields available on Corporate bonds enabling them to outperform their Government counterparts.
But the story of the quarter was undoubtedly the global rebound in confidence, driven in large part by the release of far better than expected results from Coronavirus vaccine trials. From mid-November, results from Phase 3 trials started to come through from some of the leading vaccine candidates, with the groundbreaking mRNA vaccines developed by Pfizer / BioNTech and Moderna achieving more than 90% efficacy, with no significant safety concerns – well above the 70% level that was viewed as necessary to enable effective management of the virus. The more traditional Oxford / Astrazenaca vaccine (which Australia is largely relying on, and will be manufactured domestically by CSL) also delivered positive results, with efficacy just above the crucial 70% threshold, but providing a simpler rollout plan, given the far less stringent refrigeration requirements compared with the mRNA vaccines.
Also viewed as a positive were results from the US Presidential election, which delivered what commentators at the time called a ‘Goldilocks’ outcome – a Democratic Presidency and House, but Republican Senate, which should see a return to less volatile foreign policy, but also constrain the Democrats from leaning too far to the left in terms of policy. Interestingly though, after the end of the quarter these results were upended by unexpected results from the Georgia Senate race, that in fact means that the Democrats now control the Senate as well, giving them far more freedom to pursue their policy agenda than initially expected with a Republican controlled Senate. Tellingly though, in a perfect demonstration of the market’s current ‘glass half full’ perspective, this surprise result in fact led to the market rallying further still, with commentators all of a sudden changing their tune, and deciding that the positives of a more expansionary fiscal policy overwhelmed their prior concerns of a more progressive policy agenda.
We’re delighted to be able to report that all of the Financial Framework model portfolios continue to perform exceptionally well both in absolute terms, and relative to comparable funds. In fact, since their inception three years ago, our four models – Fortress, Pillar, Elevate, and Accelerate are ranked respectively 4th, 1st, 1st, and 1st when compared against comparable funds – 600 in total, that is listed on the Morningstar database. That’s a record we’re extremely proud of, but it’s important to realise as well that we will have periods where we underperform, but we believe that this strong track record is a testament to our disciplined, patient, and focused investment approach, that we expect to continue to deliver strong returns over time.
In the December quarter, the portfolios performed very strongly on an absolute basis. Currency movements did hamper our returns somewhat though, with the Australian dollar rallying strongly on the back of soaring iron-ore prices, which dampened returns from our unhedged global shares, property, and infrastructure holdings.
In Australian equities, the Bellmont Consolidated Equities portfolio had another very strong quarter, with stock selection impressing yet again, whilst Flinders Emerging Companies produced a double-digit return but still underperformed the small-cap index as cyclical and heavily exposed Covid stocks rallied strongly on vaccine optimism.
Within global equities, T. Rowe Price continued their strong performance, which was even more impressive given we saw the strong rotation into value stocks in the quarter, which helped Vanguard All World Ex-US Shares ETF produce a strong return, given that more value and cyclically exposed sectors and companies reside outside of the US market. Magellan underperformed the broader global equity market, dragged down by their cash weighting, and with their quality focus actually detracting from returns on a relative basis, as Covid-exposed stocks along with very expensive growth stocks did much better in the quarter.
Quay Global Real Estate and 4D Global Infrastructure both produced strong absolute and relative returns versus their respective benchmarks. Quay benefited from both stock and sector selection as they remain underweight both office and retail, whilst 4D’s emerging markets and cyclical sector exposure assisted their performance.
Within bonds, all three funds performed strongly against both their benchmarks and return objectives, with strong corporate credit selection and positioning a feature across all three funds.
Direct Australian Share Portfolio
The Bellmont Consolidated Equities Portfolio continued its strong run of performance in the December quarter, delivering an after fee return of 17.6% compared with the market’s 13.7% return. For the full calendar year, the portfolio returned an exceptional 16.9% after all fees, more than 15% ahead of the broader market over the same period. More importantly, though, our long-term returns also remain strong, with returns since inception of 14.6% per annum after all fees, compared with 7.0% per annum for the market over the same period. In fact, since its inception our Consolidated Equities Portfolio would rank as the 15th best performing equities fund in the country – out of more than 486 funds tracked by Morningstar! While we’re delighted with this performance, it’s important to realise as well that we will have periods where we underperform, but we believe that our strong track record is a validation of our disciplined, patient, and focused investment approach, that we expect to continue to deliver strong returns over time.
Of course, investing is rarely one-way traffic, and despite a strong overall result, the portfolio still had some laggards in the period. One of our weaker performers of late has been Ramsay Healthcare (RHC), which fell 5.9% in the December quarter, and just over 13% for the full 2020 calendar year. Ramsay (RHC) has been right in the firing line during COVID, with elective surgeries canceled and the company’s extensive hospital network across Australia, the UK and Europe effectively commandeered by their respective national health services to help deal with the pandemic. Government guarantees have generally ensured that the company is able to cover their costs, but not profit from this support they’re providing during the pandemic. While this has understandably created an earnings hole for the company in the short term, the postponement of so many elective procedures does suggest that the company’s facilities will be highly sought after once conditions return to normal, and the now enormous hospital waiting lists start to be worked through – likely leading to substantially improved earnings in the medium to long term.
The worst hit of our companies by COVID though has been Flight Centre (FLT). Whilst it continued to recover in the December quarter, up almost 22%, its -42% return for the calendar year puts it down as easily our worst performer. With their global business completely shuttered by the pandemic and associated travel restrictions, the company was forced into raising massive amounts of capital at historically low prices, significantly diluting our shareholdings despite fully participating in the capital raisings ourselves. The drastic restructuring of the company’s leisure business means that when conditions return to normal their global network will be reduced by more than 50%, with marginal businesses and brands shuttered, and only the company’s highest performing stores and staff retained – which, painful as it might be, should be enormously beneficial for profit margins. Increasingly though, it will be the company’s corporate business that is the main focus – which it has now been revealed generated an amazing 84% of total group profit in 2019 even before the impact of COVID, having grown at an impressive 16% annual rate over the last decade! Whilst it will be a drastically slimmed down Flight Centre (FLT) that emerges from this crisis, many of their competitors are unlikely to survive at all, which should enable Flight Centre (FLT), Corporate Travel Management (CTD) and other survivors to increase their market share significantly through the recovery, and sow the seeds for significant earnings growth in the years ahead.
On the positive side of the ledger though, leading the way from the front yet again in the December quarter and coming a close second for the calendar year, was our largest holding – Mineral Resources (MIN), which delivered a 50.3% return in the quarter, and an impressive 120% return in calendar 2020, beaten only by a 130% return for the year from fellow iron-ore producer Fortescue Metals Group (FMG). Both companies were buoyed in the period by a continuing strong rally in the iron-ore price to a 9-year high above USD$170 a tonne, and an all time record in Australian dollar terms, as Chinese stimulus drove demand, while major Brazilian producer Vale continued to suffer supply problems. This eye-popping iron-ore price rally will of course fuel enormous short term profits and cashflows for both Mineral Resources (MIN) and Fortescue (FMG) in FY2021, but more importantly for Mineral Resources (MIN), continued strength in the iron-ore price provides the company with a window of opportunity to develop their extensive transport infrastructure plans, drastically lowering their cost of production and effectively locking in sustainable profitability in any future (less favourable) commodity price environment. With recurring revenues from their mining services business the jewel in the company’s crown, this provides the opportunity to not only increase future profitability, but also enable a step-change in the consistency and reliability of those profits – something which we think the market is yet to fully grasp, but is fundamental to our positive long term view of the business.
Also delivering exceptionally strong returns for us was one of our newer holdings – footwear retailer Accent Group (AX1), which generated a 40% return for the quarter, and a 67% return for the full calendar year. Accent (AX1) is a business that we had been admiring from afar for some years, impressed by the company’s highly capable, entrepreneurial management team, and their market leading online capabilities. It was only as COVID began to bite that we took the opportunity to start to pick up a stake in the business though – confident that the company’s conservative balance sheet gave them the ability to ride out any short term disruptions, whilst their strong online capability and street smart management gave them both the tools and knowledge to be able to emerge from this period significantly stronger than they went in. Having purchased three parcels of shares at successively lower prices through February and March as COVID really began to bite, we’ve been incredibly impressed by how the business has held up in this challenging period, delivering both sales and earnings growth in the 2020 financial year, and recently guiding for more than 40% earnings growth in the first half of 2021! Of course our views about the business are based on our confidence in their long term trajectory, but we’re delighted with the resilience that they’ve shown in this challenging period, and very happy with their contribution to our portfolio performance in 2020 that saw them end the year as our second largest holding.
The other big news of the quarter was the completion of the annual rebalance of the core / systematic side of our portfolio in December. Our annual rebalance provides us with the opportunity to make adjustments to our portfolio holdings to ensure that we continue to hold those companies with the best investment prospects moving forward.
Of the 15 holdings on the core side, we have retained 7 (albeit with some minor changes to their weights) and sold 8, replacing them with companies that we believe have better prospects over the next 12 months. This doesn’t mean the companies we have removed are necessary no longer good investments, they just don’t represent our best ideas taking into account market movements and changes in the financials of our holdings.
Keen observers may find it interesting to note that we have yet again retained our position in Fortescue (FMG), our best performing holding since the inception of the portfolio, despite the company’s shares trading at record levels, and delivering an impressive 130% return in 2020. It’s important to note though that a high share price alone is not an indicator that a share is expensive. It’s the company’s share price relative to its earnings, cashflow or dividends that determines its value, and with Fortescue’s earnings rising just as fast as its share price, we are happy to retain it in the portfolio for another year, albeit having taken some profit by rebalancing back to our standard model weight back in December.
While markets have recovered strongly since their lows, the environment remains highly challenging. The uneven economic fallout from COVID, and the resultant fiscal and monetary stimulus will continue to drastically alter the economic landscape, inevitably creating both winners and losers in the process. While this process will create volatility, it also creates opportunity – opportunity that the outstanding managers of both the funds and companies in our portfolio will be working hard to take advantage of. While there will be ups and downs, we remain confident that our patient, disciplined investment process will continue to deliver solid long-term returns.
Model Portfolio Performance
Note that actual portfolio performance will differ from model performance, based on entry and exit date, rebalance frequency, and other factors. Performance numbers quoted are after investment management and performance fees but before transaction fees, platform fees, and taxes.
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This advice may not be suitable to you because it contains general advice that has not been tailored to your personal circumstances. Please seek personal financial advice prior to acting on this information.
Investment Performance: Past performance is not a reliable guide to future returns as future returns may differ from and be more or less volatile than past returns.
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