Is your porridge too cold?

Personal share portfolios rarely make sense

By Andró Griessel

8 August 2020

Goldilocks and the Three Bears was one of my favorite childhood fairytales. I especially enjoyed it if the narrator changed his or her voice to suit the speaking bear. For example when they say in a deep Papa Bear voice: “Someone has eaten my porridge.”In the investment world, there is also porridge in the form of personal share portfolios, and as with Goldilocks’ experience, the porridge is sometimes too hot or too cold and only very rarely is the porridge just right.

It is almost unusual for an affluent client to not have a personal share portfolio. The attraction is understandable and somewhat hard to resist when you are getting your affairs in order regarding your normal retirement planning.

Then there is always the story of an uncle twice removed from aunt Marie’s side of the family who became rich from his Rembrandt shares and you hope that you will also be able to do it. The reality is unfortunately less inspiring.

Over long periods it is very difficult to outperform a passive index (where the big winners are automatically included) or a fund manager (where smart people try to separate the wheat from the chaff).

Add to this the various cognitive prejudices we as investors face, and you will understand why the theory and practice sometimes look very different.

My most important findings on a personal share portfolio are the following:

• The portfolios that perform the best are usually the highly concentrated portfolios that people inherited or acquired through a working relationship with a company (such as Naspers or Capitec) and never traded it.
• The performance of well-diversified portfolios (more than 15 shares) rarely beats the performance of an index or a decent fund manager, whether the portfolio is managed through a stockbroker or the investor himself.
• Capital Gains Tax (CGT) or more specifically the avoidance or postponement thereof, often tends to hinder sensible decision-making.
• Usually, no identifiable process is followed, except to sell the shares whose prices are falling and to keep the shares with rising prices. Portfolios usually become highly concentrated and possibly very risky in the absence of newly added money.
• I have not yet met anyone (I do not say it does not exist) who make use of a documented trading strategy which is strictly followed, especially about when to sell. The lack of it has led for example to many people taking the Steinhoff elevator to the very bottom.
• In general, the investor does not know what the internal rate of return of his portfolio is and therefore he can’t judge if he is contributing to his wealth or if he is detracting from it.

For the sake of entertainment (and to state an additional point or two) I constructed, with the advantage of hindsight, a portfolio with two big winners (Naspers and Capitec), one big failure (Steinhoff) and seven other top-20-companies (without looking at the specific performance of the seven beforehand) and compared it to the JSE All Share Index.

In both cases, I have only worked with price movements and ignored dividends.

Performance over the past 10 years:

• Portfolio of 10 shares = 12.74% per annum (R1 million grows to R3 318 623).
• Index of all shares = 7.28% per annum (R1 million grows to R2 020 107)

See, it’s easy?

Not so fast.

• If you missed Naspers as a share in your portfolio and for example rather included Remgro, you would have ended up at R1 836 469 (a return of 6.27% per annum).
• If you included Hyprop instead of Capitec, in addition to the above, your return would have fallen further to 2.48% per annum.

The above should make it clear that the line between success and failure is paper-thin.

Surely it could have been different. Instead of Steinhoff you could have made a better investment or bought more Naspers shares.

The reality is – and the portfolios I see reflect it – that a lot of companies’ share prices has fallen by more than 90% over the past 10 years (not only Steinhoff) and it is unusual to have two big winners included in a portfolio of only ten shares.

Many people think that the secret lies in avoiding the companies that do badly, but it is not what the data says.

It seems that if you can accept the concentration-risk, the correct identification of a few big winners and then keeping them “forever” is the answer to outperforming indices or fund managers. This is of course easier said than done.

Dawid Krige, founder and fund manager of Cederberg Capital, refers in a 2019 newsletter to American research where they have found that 4% of the best performing listed companies in the US (1 092 out of 25 332) contributed to the overall increase in the stock market between 1926 and 2016. The other 96% did not contribute on a net basis.

I suspect that similar research in South Africa and many other stock markets worldwide will show the same trend.

If you have a personal share portfolio (this also applies to offshore), perhaps pay attention to the following:

• Ask someone (if you are not able to do so yourself) to calculate the money-weighted as well as the time-weighted internal return of your portfolio. You might be cutting down your wealth tree instead of watering it.
• Large share portfolios in your name (this also applies to unit trusts) have capital gain and estate duty implications that will dilute your net return. Get advice on alternative compositions.
• CGT avoidance (or rather postponement thereof) should not influence your portfolio decisions. The ultimate benefit of the postponement instead of paying it now is smaller than you think.
• Get a written investment policy document if you do not have one yet and follow this rather than your “instinct”.

Andró Griessel is a certified financial planner and director of ProVérte Wealth and Risk Management. Contact him at info@temp.sg-build.co.za.

Although all possible care was taken in the drafting of this document, the factual correctness of the information contained herein cannot be guaranteed. This document does not constitute advice and anyone planning on taking any financial action based on this document, is strongly advised to first consult with their personal financial advisor. ProVérte Wealth & Risk Management is an authorised financial service provider with FSP no. 5966.