Although the economic and political backdrop worsened during the quarter, markets largely turned a blind eye to it, with equity markets well supported as investors continued to believe that central banks globally would maintain relatively easy policy settings in the short to medium term. That belief saw government bonds rally, which in turn resulted in a strong rally in yield assets such as listed property and infrastructure. In contrast, corporate credit spreads widened (price falls) especially in the high yield segment of the market, and emerging market assets (both bonds and equities) came under pressure as concerns mounted regarding trade wars, and the twin rises in the US dollar and oil prices.
President Trump escalated his trade war agenda on China and US allies (Canada, Mexico, Europe, Japan) which then saw retaliatory tariffs coming back the other way. At the same time, the oil price pushed higher, even in light of agreement by oil producers to increase production. The rising oil price put further pressure on oil-import reliant countries in emerging markets while also putting pressure on manufacturing and export-led economies that saw higher input costs. The US dollar finally began to rise as the US economy continues to strengthen, while economic indicators in other countries have begun to soften, which has led US central bank policy to diverge from other central banks globally. In the quarter, we also saw political spot fires in Britain, Spain, Italy, and Germany.
Closer to home, the economic environment remained lacklustre and worsened in some respects. Even though economic growth printed higher for the March quarter (plenty of one-off factors), retail sales growth and labour market conditions deteriorated while wage growth remained anaemic and the household heavily indebted. The RBA is stuck in a hard place and needs plenty of unforthcoming assistance from the government in the shape of economic reform.
The Portfolios performed roughly in line with the broader market in the June quarter. Contributors to relative performance included the allocation to Australian small companies through Flinders and the allocation to Global equities through Magellan and T. Rowe Price. Flinders benefited from exposure to small resource names while T. Rowe benefited from exposure to technology names. We also saw very strong numbers from both Australian and Global listed property markets in the quarter as bond yields fell, which the portfolios benefited from. Detractors from relative performance included the allocation to Australian large and mid-sized companies through Bellmont and the allocation to European and Asian equities through Vanguard. Bellmont fell behind the market with positions in Telstra and Ramsay hurting performance, in addition to the higher levels of cash held, waiting for better buying opportunities to emerge. The Vanguard ex-US equity position hurt performance as trade wars impacted European and Asian equity markets. We also saw some weak numbers from two of the bond funds used in the Portfolios, Macquarie and T. Rowe Price, as bond yields fell and credit spreads widened.
Overall though, the portfolios remain well positioned for the period ahead.
After a weak March quarter, the Bellmont Consolidated Equities Portfolio recovered in the June quarter with a solid 3.0% return. Yet despite generally strong markets, having entered the period with a considerable 17% cash weighting we were delighted to see a number of high quality businesses that have long been on our horizon finally trading at levels that we consider to represent good value, enabling us to put a portion of this cash pile to good use. With a still meaningful 11.5% cash weighting at the end of the period though, we continue to cheer for further share price weakness in some of these high quality companies in coming periods, in the hope of opportunities to further increase our holdings.
Taking advantage of these weak share prices, we were delighted to be able to top up our existing positions in Domino’s Pizza (DMP)s Pizza (DMP) and Ramsay Healthcare (RHC), as well as implement new positions in NIB Holdings (NHF) and Technology One (TNE). While market sentiment is against all of these companies at the moment (if it wasn’t we wouldn’t be able to purchase them at an attractive price!), in each instance we remain completely confident in both management and the company's long term earnings growth prospects. While short term share price fluctuations are inherently unpredictable, based entirely on swings in market sentiment, in the long term it’s the trajectory of the company’s earnings that drives share prices. We sleep well knowing that our long term fortunes are tied to such an exemplary group of businesses.
Looking at individual portfolio constituents for the June quarter, our weakest performer in dollar terms was one of our recent additions - Ramsay Healthcare (RHC), which delivered a -11.4% return for the quarter. Markets were disappointed by a modest reduction in profit growth guidance from the company, from a range of 8% to 10% growth in the FY18 year, to 7% growth (I do love a company where 7% growth is considered such a disappointment!). This result is being driven by slightly slower than anticipated growth in admissions in their Australian business, as well as continued challenging conditions in their UK operations. While these difficulties have seen us slightly reduce our growth expectations for the next couple of years, it does nothing to change our positive view of the company’s long term prospects, with the twin drivers of ageing and growing populations and strained public sector balance sheets set to continue for the foreseeable future, providing ample opportunities for a well run business to continue growing their earnings at a solid rate for many years to come. We’ve been taking advantage of the weakness in the company’s shares by making additional purchases as the price falls, and are currently quite happy with our existing 5.6% weighting, but may look to add further to that if the opportunity presents.
Interestingly, it was another recent addition that delivered our strongest returns in the period - Domino’s Pizza Enterprises (DMP), with a 26.8% return for the quarter. Despite an outstanding earnings growth track record over the last decade, Domino’s has gone from market darling to pariah in the last couple of years - originally as the company’s FY17 profit growth guidance came in at lower levels than some overly optimistic analysts had expected, then again as they modestly missed their own FY17 guidance numbers, delivering ONLY 28.8% growth in net profit, compared with their previously stated guidance for 30% growth (a horrendous performance, I’m sure you’ll agree!). It’s quite possible that the company may again not meet their profit guidance in FY18 (approx 20% net profit growth), in which case we would expect to see the shares come under pressure once again. Regardless though, we remain incredibly impressed with the quality of management, their relentless focus on innovation, and the outstanding growth prospects for this business for many years to come. Having taken the opportunity to pick up our shares at what we believe to be attractive prices when they were heavily out of favour, we would relish the opportunity to add further to our existing 4.0% holding if another attractive opportunity were to present.
And that’s all for our June quarter update. As always we will be keeping a close eye on the portfolios, and will make any adjustments that might be necessary to maximise your long term returns. If you have any questions though, please feel free to contact your adviser at Financial Framework who will be more than happy to help.
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