vendredi 26 juin 2020

Trapped with high PE stocks

This morning, I was updating my portfolio and I realized that my average forward PE was close to 30 (29 to be precise).

I own 24 stocks. I really like all of them. But, I'm worried about the increase of their forward PE ratio. Some stocks had a forward PE of 20 before the crisis and the recent negative perspectives have had a negative impact on forward earnings. So, many stocks are now more expensive than before COVID.

The cheapest stocks are in retail and I don't think that it's the best place to invest money now. There are still some excellent names in retail (Ross Stores, TJX, Dollarama, Couche-Tard) but some of them have been closed for months and they'll carry that absence of revenues for a long time even if they're very well managed. So, why should I sell some Microsoft shares to buy more Ross Stores shares? Just because Ross is less expensive and I want to reduce my global forward PE ratio?

You see, there's no escape from a high PE. Actually, the only escape is selling stocks to own cash and I don't think it's appropriate.

My cheapest stock has a forward PE of 16 while my most expensive stock has a forward PE of 100. Between these extremes, I own many stocks with a FWD PE of 30 or more. I'm not comfortable with that kind of high PE. The cure to that would be to buy stocks with less quality. I wouldn't be comfortable with that either.

Do you have a solution?

8 commentaires:

  1. Some quality banks and insurance companies are cheap now.

  2. Bank & Insurance are risky business with Covid and Negative Interest Rates.
    Why don't you go go around Precious Metals ? Gold and Silver always better performed vs SP500 during recession.
    Gold is the best performing asset in 2020 qnd will continue during the next 2 years.
    I have invest in GDX, mid tier gold producer, explorator and Silver through SLV.
    I believe you won't like that at all.

    The only solution you have is to increase your cash%

  3. I’m not a fan of the pe ratio as most everybody else focuses on it and two it’s based on figures from the income statement. The income statement is full of assumptions, estimates and sometimes blatant manipulation.

    A good idea I think is to invest in companies that supply essential services; things that are needed no matter what. That’s one reason I’m so heavily involved with the Brookfield family of companies…as Bruce Flatt says when you go over to the kitchen sink and turn the tap on to get some water…that’s infrastructure.

  4. Why not increase your cash position?

  5. I do not know what you should do, other than holding more cash if you are uncomfortable with the amount of risk you are taking. You could also shift to higher quality names if you do not want to hold cash and if you do not already own the best-in-class companies. My cash savings account pays me 2% interest per year, so that is 50x PE on an essentially zero growth asset (ROE of 2 and actually slightly decreasing value since real buying power inflation is usually above 2% in Canada and real estate has been growing at 5+% in most cites). So even 30x PE stocks are quite cheap from that perspective since they are not only generating you more earnings yield but at the same time they will be growing both the earnings as well as book value in the future.

    Nonetheless, I think that it is a nice problem to have since it means that your portfolio must be doing really well and prices are holding up despite of potential economic storms ahead. I had the opposite problem of massive portfolio multiple compression despite of the downward revisions to future earnings for most of my holdings.

  6. Here is my 6-month performance and portfolio update as of 2020-JUL-02... in case anyone is interested:

    YTD total portfolio performance -7.76% for first half of 2020. For comparison, TSX benchmark YTD performance was -8.09%

    Cash-on-cash overal cumulative performance since inception of my portfolio was +0.57% so after inflation I have actually lost buying power on investing.

    Holdings and weights:
    TSE:EQB = 10%
    TSE:HCG = 9%
    TSE:CSU = 9%
    CASH CAD = 8%
    TSE:ENGH = 8%
    CVE:CTZ = 7%
    TSE:DOL = 6%
    TSE:ATD.B = 5%
    TSE:LAS.A = 5%
    TSE:MTY = 4%
    TSE:ECN = 4%
    TSE:CCL.b = 4%
    TSE:LNR = 3%
    TSE:GIB.A = 3%
    TSE:NFI = 3%
    TSE:CNR = 3%
    TSE:WPK = 2%
    TSE:SJ = 2%
    TSE:BAM.A = 1%
    TSE:RCH = 1%
    TSE:BHC = 1%
    TSE:CMG = 1%
    TSE:ALA = 1%
    TSE:CEU = 0%
    RBF1018 = 0%
    TSE:BDI = 0%
    TSE:CPH = 0%
    TSE:BBU.UN= 0%

    So far this year, I have not sold off any positions and initiated new positions in CTZ and ATD.B at the beggining of the year. Over 26% of current equity holdings were the result of new investments or averaging down to existing holdings. I made a stupid decision and went essentially to zero cash in January by maxing out my TFSA and initiating new positions/rebalancing my non-registered holdings. Therefore, I did not have any money during the March downturn and had to save up money from work and by then prices have largely recovered so I have mostly built up my cash up to about 8% of my total holdings and have been waiting ever since. I am a full time student and only work several casual/contract jobs in evenings/nights/weekends so my earning power is quite limited (especially after deducting tuition and living expenses).

    I have invested new money at about 4.10% weighted premium to current prices (ie I bought at higher prices than stocks are trading now and lost out). I have allocated 34% of new money to initiate a new position in CTZ; 19% to initiate a new position in ATD.B, and then averaged down by adding 10% to CCL.B, 8% to DOL, 7% to LAS.A, 7% to NFI, 6% to EQB, 6% to ECN and 3% to SJ. 89% of new money was deployed in January and first week of February and the remainder in the first week of June. No money was deployed during the big drop.

    I have also opened a new no fee brokerage account and am hoping to transfer my accounts there in-kind so I can get rid of essentially all holdings below 1% of portfolio (except BAM) without having to pay 9.95 to sell twenty dollars worth of failed stock. I would like to do so by January 2021, when I would like to do a bigger rebalancing of the portfolio. Before then, however, I would like to buy more CSU in my TFSA since it cannot be traded at the new broker and thus I need to wait to be able to make new TFSA contribution next year before doing an in-kind account transfer. I would also like to add to several other existing holdings if we will have a second-wave correction (but prices would have to drop by more than a third from current levels for the orders to fill).

  7. My portfolio metrics (incl. cash) are the following:

    future PE = 13.87 (excl. cash 13.05)
    TTM P/CF = 6.18 (excl. cash 5.75)

    TTM ROE = 18.25 (excl. cash 19.27)
    5year ROE = 19.91 (excl. cash 21.55)

    Actually, I do believe the above ROE metrics are flawed. A more accurate calculation in my opinion would be:
    total portfolio future earnings estimate / total portfolio book value = 11.38% (13.00% excl. my cash)
    total portfolio TTM free cash flow / total portfolio book value = 25.52% (29.18% excl. my cash)

    Overall, my portfolio is priced at 1.58x book value (1.66x excluding cash) and not all earnings are the same across all of the companies. Companies with high ROE are generally not capital intensive and thus have very high price per book value. Neither their earnings nor equity will thus be proportional to their market price weighing in the overall portfolio. In other words, the "bad" companies in the portfolio represent disproportionately large percentage of both net book value as well as overall earnings / cash flow... thus shifting overall portfolio ROE down. In fact, the 2 banks (HCG and EQB) with abysmal ROE that I hold represent 37% of future earnings, 53% of overall free cash flow, and 44% overall equity, while being only 20% of portfolio market value.

    Even though the portfolio as a whole is not priced at very high multiples, it does not meet my expectations without a more meaningful per share growth. I am hoping that the companies should compound at least at 1% per month, which would necessitate return on equity of at least 13% and not 11%. This means the companies need to grow the per share earnings beyound defending their current market position and margins. I am hoping that the portfolio ratios will be much better once several several companies will stabilize. Several large holdings had their earnings destroyed by one-time write-offs/M&A costs/restructuring/new factory capex/etc for the past few years. In addition to lower expenses, I am also hoping for substantial revenue growth in coming quarters for several companies, meaning that there should be a substantial improvement in profitability (and hopefully stock price multiples) once things will get back to the normal. If we will get a major economic depression, however, the portfolio could see even further deterioration.

    How are your portfolios doing? What did you do in the past 6 months?

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