The Margin Lending Portfolio

OTHER PEOPLE’S PORTFOLIOS – THE MARGIN LENDING PORTFOLIO

This is a very interesting portfolio today. Let me give you the back story:

• July 2007 – Margin loan established for $100,000.
• August 2008 – Margin calls, shares sold (forced sale).
• August 2010 – Divorced, sleeping on the floor at Mum’s house, Zero dollars in the bank, $30,000 worth of shares owned inside the margin loan.
• September 2019 – “Aged 47. Self-employed, very little super, do not own my own home, average income/wage once dividends are excluded. I save as much as I can meaning upwards of approx 50% of my income into my shares account. Barely any cash in my bank account, just a few hundred in my pocket for beer and burgers. 18 month old son. If I had an emergency I would sell some shares and then transfer the money out. Margin loan LVR currently at 30%. Costing me about 5% interest a year, which is tax-deductible. I was positively geared with dividends paying interest but in the past few years got rid of ‘dividend payers’ to chase other companies with better growth prospects.”

Here is the Portfolio now:

Portfolio now worth $3,470,945 less a margin loan of just less than $1m. Net worth in shares $2.5m.

Member Commentary – “Once I got stuck in around 2014 it really starts to accelerate. Whilst professionals would have said to me ‘you should trim this position as it’s too large a position size’ my attitude was to save more and increase the overall portfolio value so that would dilute the oversized position (eg A2 milk). As the LVR drops over time I have slowly borrowed more money. I have increased the loan about 5 or 6 times since 2014, adding on around $100k – $200k each time, maintaining the LVR window. Whilst many preach the evils of margin loans, it has been the only way for me to get here and I think I’ve managed it well along the way. And yes I have been margin called so understand it could all fall over. What else would I be doing – mowing lawns? Henry Kissinger said it first but I prefer Evel Knievel’s version: “It is better to take a chance in life to win a victory or suffer defeat even though scarred by failure… than to live in the shadow of life as some do never knowing a victory or defeat because they have never had the guts to try either”. I enjoy the newsletter, particularly Henry’s small-cap focus, as the performance of my portfolio has been achieved mostly from small caps that made it to the big time. And luckily I left them alone along the way.”

Factual Observations:

• Despite focus on small and mid-caps, this Member is NOT a trader.
• This Member has somehow bought, held and built upon some of the markets most successful momentum stocks that value investors would have missed. APT, A2M, WTC, ALU, APX, XRO, PME, NEA, BAL, ALL. I’m sure our Members would love to know how he picked out this incredible list and stuck with them through thick and thin. SEE BELOW
• BAL was a bigger holding – half has been sold down after the recent bid. Too much exposure for minimal upside. Sale with 99K took margin loan down to $929K.
• The portfolio shows little regard to income with just a 0.58% yield including franking. I have often felt that chasing income in the Australian market, the crusade to collect franking credits in particular, has corralled Australian investors into low growth mature companies which sacrifice total return for income return. This portfolio has paid no attention to income and as such has pretty much avoided the slow plodding nature of most retiree portfolios and caught some of the best mainstream capital gains on offer in the last five years. Great stuff.

• Total portfolio risk is 3.99% which is the average change in value from top to bottom each week averaged over the last 14 weeks. This compares to the ASX 200 ETF (STW) which moves around in a 1.8% range on average per week. This is a low level of risk relative to some portfolios we see which are focused on speculative stocks with 5-10% weekly ranges.

• Warrants are 5% of the portfolio but have only been added recently, in the last 12 months, in an attempt to accelerate returns – it has sort of worked but it is a departure from the call long-term mid-cap growth stock approach  – they have contributed $22,316.
• The portfolio has returned 43.74% per annum since 2010 compared to the STW (ASX 200 compounding ETF) of 10.43%.

• As you can see in the table below the portfolio interestingly focuses on information technology stocks. It lacks diversification and that has paid off. It is also 100% invested in Australian equities. On that basis the biggest risk of this portfolio is (obviously) an equity market setback – the lack of diversification has delivered significant results but will be punished should there be a major correction.

• A major correction would particularly hurt this portfolio because of the focus on high PE information technology stocks. The average P/E ratio on this portfolio is an astonishing 89.5x – value investors just wouldn’t understand this approach – to their cost. The market average PE long-term is more like 15-18x. Here is a table showing PEs and ROEs. Some of these are also very high ROE companies, as you should expect if paying these prices for tomorrow’s earnings.

• Interestingly the stocks held are mostly what you might call “Popular stocks” which have benefited from the investor’s appetite for ‘growth at any price’ over the last few years – they remain popular with brokers because they are significant deal and commission generators for brokers. Net result a lot of the stocks are still trading below average broker target prices as you can see in the table below. They are stocks that are given the benefit of the doubt by brokers because it “pays” for brokers to back the winners…until they lose.

PERFORMANCE TABLE – shows the performance of these stocks over various periods.

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THE BACK STORY

• Around ten years old Dad buys me some FAI shares. It introduces me to shares. He passed away 17 years ago and I still think about him just about every day and thank him for introducing me to the stock market.
• I save money. Sometimes I buy shares. I do the Peter Lynch thing (without knowing it) and buy Newscorp when they release Foxtel and Titanic. Around 1999 I sell them and buy a car. I understand I can use “shares” as a saving device.
• Around 2005 Burns Philp gets taken over, I get a cheque for $70k. I put $60k into the mortgage, $8k into house repairs, keep $2k for myself. I’m a good saver.
• 2005 – 2008 – I’m selling down shares I buy to take money off the mortgage. I figure if I can get 15% return on the shares then it’s better to do that, let it grow, then take off lump sums from the mortgage at 7% interest.
• Through this period I was experiencing the amazing compounding effect of investment and realised that the longer I could hold out investing in shares instead of buying a house, the greater prospects I’d have of retaining a significant amount of capital to provide for my retirement. As a self-employed sole contractor there isn’t going to be any gold watch,of a Ferrari.
• 2007 – I take out a margin loan, GFC knocks on the front door, my spouse walks out, solicitors and barristers strip me.
• 2010 – $0 in bank account, $30k within the margin loan. I sleep on a mattress on the floor at Mum’s house for a year. I thought it was just going to be a few weeks, but it kept dragging on. After a year, I built my own bed. Yes. Truly. Tasmanian Blackwood. I love woodwork.
• I save as much as I can, at this stage around 70-80% of whatever I earnt. When I got to $5000 I bought some shares. I chose $5000 because if I “doubled my money” on $1000 it was still only $1000. If I could double $5k it was significant.
• I also started to put money into super and save for a house deposit.
• 2014, re-partnered, living in her unit, we go to look at a house, “OMG OMG they cost how much???”.
• I double my margin loan from $100k to $200k and also put my house deposit into the margin loan
• I still save as much as I can now.
• One high profile commentator turned fund manager amuses me because he is always banging on about how he get s 12% return compared to the 9% offered by the market. Why would I give up 33% to invest with him. He has a new book out – I haven’t bought it.
• The goal is to buy a house by the time my son is four – so there is now a strict timeline. They cost a lot in Sydney. And… for the most part… I need 30 to 50% MORE than the cost of a house to buy one, as I need to pay the taxman a lot in CGT.
• Throttle is twisted, foot is to the floor, tyres are spinning and the drum solo has a definite double-bass kick to it right now. My eyes are firmly focused on the goal.

HOW I INVEST

• I think of myself as a coffee filter. I subscribe to a lot of newsletters. I probably spend around $5k a year now on subs. Most of what I know may not have been “learnt” from you, but you have reinforced it. Reading your “down to earth” articles reinforces to me that I’m not that stupid.
• I don’t buy everything – I used to – now I just buy what I like.
• Like Peter Lynch (and Henry) says – buy what you see. I work in a “Chinese area” and it was easy to see the volume of A2 cartons moving around the place.
• I try to “follow” the fund managers who do well. Joe Magyer is my guru but I still read the EGP capital newsletter, in amazement. I guess it’s why people study aeroplane crashes.
• I don’t sell things that go up.
• I sell things that go down only if I think there is a better opportunity for that money.
• I save as much as I can INTO the market – not WAITING for the market.
• I don’t worry about “portfolio weightings”. I just want as much on the bottom line as possible
• I don’t worry about “dividends”. It’s quite likely that if they are paying me a dividend then they can’t reinvest the money better than I can.
• Screw value investing. I don’t have that long.
• “Tinkering” around the edges isn’t worthwhile.
• Tech stocks are great. Compare to say a miner. They have small capex (as Hamish Douglass says – they are ‘Capital Lite’), they have large retained earnings, small spend on marketing for large ongoing customer loyalty, and the biggest thing PRICE MAKER not PRICE TAKER. I stay away from miners. I love SaaS.
• I also love Small Caps – the tailwinds they get as they get larger means that the price starts to feed on itself. As they get inducted to the ASX300 / ASX 200, etc. and the various ETF’s and managed funds that then are FORCED to buy my business, propping up my share price.
• I probably sound arrogant, rude and cynical. Sorry. I am only managing my money. If it was someone else’s there would be a lot of other considerations that would see me flock to that “safe haven 12% YOY return” that everyone in the big end of town would consider success.
• I’m sure people will say “yes but what about when the market crashes”. So…should I have done nothing for nine years and be sitting on my savings in a 2% bank interest account?
• Buddhists believe that you won’t find enlightenment until you have forgiven all your worldly possessions. In a funny kind of way that happened to me – I lost it all – and I woke up the next day and kept moving. It wasn’t the end of the world. Not so sure I am enlightened but it gives me a different risk profile. The world doesn’t end when you lose money even if it’s ALL your money.
• Besides – what am I going to do – “high-interest savers account” in order to buy a house? Ain’t gonna happen.

“I’m always throttle open, investing as much as I can.”

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Bottom Line – A very interesting portfolio. I love the back story of being inspired, rather than down-trodden by circumstances, to excel. I often think to myself – if I can imagine the worst (Emma dies, loss of Marcus Today Brand) could I handle it…I have imagined it and I could. I may not end up rich but in the face of oblivion I think I would take more risk as this member has. It is easier when you have nothing to lose. I also love the idea that this Member has forged his own non-traditional path. He hasn’t listened to others, he hasn’t fallen into line with the ranks of puritan value investors, he has applied himself more diligently to his task, focusing on his purpose, and has not slotted into “rat race” investment and has reaped the rewards rather than been punished by taking risk, which is surely how it should be. “Be bold and mighty forces come to your aid”. In this case the market’s recent obsession with growth stocks, as opposed to income, has suited this portfolio perfectly.

Well done – but of course I fear for a loss of fortune in such popular stocks, and I hope our Member has the objectivity to sell some of these very high PE stocks at some point if the market wobbles. Having said that I would not for an instant want to distract him from his formula with my Chicken Little commentary and have him fall into line with the rest of us when he has done so much better than us so far.

All power to you, I hope that at some point for your son’s sake, and your own, that you see the risk-taking you have done as glorious, but back off a little. Having got yourself back on track you can afford to re-arrange the balance between making capital and preserving capital at some point. Or not. Who am I to tell you?

Thank you for sharing.