Quality Income: the answer to the current stormy outlook?

Monday, Oct 22 2018 by
19

Introduction
Is there room on Stockopedia for yet another regular "my portfolio" blog? Whether or not the appetite exists is probably academic to those of us starting out on a new chapter in our investment journey. The benefits of committing your thoughts to paper and making all your investment decisions open to the scrutiny of the knowledgeable Stockopedia community even potentially without any comments (or indeed readers) makes the additional work required worthwhile.
After a good run in 2017 with high stock ranked shares and momentum, I felt that a change of direction was required to more closely align my investment strategy with my personal goals and  provide some captal protection via a more conservative and structured approach.

Fund Objectives & Characteristics
The Compounder fund has two financial targets: (i) a long term sustainable dividend yield of in excess of 4% and (ii) grow the value of dividends in excess of inflation. The reasoning behind these targets is that this combination meets my objective for a target fund size (or rather target income size) at retirement. In addition, I would like to make a total return in excess of the FTSE All share plus 2%. The FTSE all share plus 2% target is the ‘why bother’ element. In other words if I cant outperform the index then I might as well invest it all in a tracker and go off and play golf/ spend time with the family etc (or maybe for some of you researching shares is a preferred pastime to these alternative activities!).
Given these objectives I would categorise the fund as Quality Income. The intention is not to seek share price appreciation per se (albeit growth of the portfolio’s capital value would be an added benefit) but rather to grow the income stream using the compounding effect of dividend reinvestment until retirement. I have chosen this approach because (i) I have neither the aptitude nor time to research companies for as yet unproven growth potential and (ii) do not wish to rely on the market to be able to realise value via the share price. In other words I believe future dividend streams are much easier to predict than share price movements. I also have the luxury of a reasonable time span. I am not pretending that there is anything new in my approach. It draws unashamedly from other well known proponents of long…

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Disclaimer:  

As per our Terms of Use, Stockopedia is a financial news & data site, discussion forum and content aggregator. Our site should be used for educational & informational purposes only. We do not provide investment advice, recommendations or views as to whether an investment or strategy is suited to the investment needs of a specific individual. You should make your own decisions and seek independent professional advice before doing so. The author may own shares in any companies discussed, all opinions are his/her own & are general/impersonal. Remember: Shares can go down as well as up. Past performance is not a guide to future performance & investors may not get back the amount invested.


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16 Posts on this Thread show/hide all

mmarkkj777 23rd Oct '18 1 of 16
1

Hi Merlotman,

An interesting post.

I have a several buy and hold stocks which I intend to keep, however I'm currently in the process of reassessing what I intend to do with the rest of my investing for the next 5-10 years (hence I'm holding a lot of cash. Ok for now, but obviously not good for the longer term. Opportunity cost, etc.).

I'm been thinking about setting up something similar to your idea for about 40% of my stocks, as a kind of low maintenance element to my portfolio.  So I can keep a closer eye on the part in which I am more active ( a much smaller part as I also hold funds), of maybe 8 -12 stocks.  So, in other words formalising my buy and holds, and not just continue to hold if they are OK.

I'll be interested to see how you get on.

One comment on something that you mentioned in your post: wouldn't it be better to chose a stock you are interested in to write up on, rather than choosing one you have no intention of investing in?  It would probably make more interesting reading as you could give your reasons for down-selecting the stock.

All the best and I will stay tuned.

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crazycoops 23rd Oct '18 2 of 16

Hi Merlotman,

Thanks for sharing your strategy and the accompanying screen which incidentally, contains 4 of my holdings and 4 from my current watchlist (I have duplicated your screen to analyse in more depth and to see where some of my other quality holdings miss against it). I look forward to reading your updates as the strategy is implemented.

Cheers
Simon

Blog: Share Knowledge
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Howard Adams 23rd Oct '18 3 of 16

In reply to post #410884

Hi Crazycoops

I have just had a look at your Blog and in particular your write up of your Investment Strategy.

As you noted on your site, you like to share your activities in order to help others learn from them.

Well I for one will certainly be learning from your strategy.

So many of your ideas resonate, but your thinking is far more refined than mine

I thank you for your insights and clear articulation of your processes.

Regards
Howard

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crazycoops 23rd Oct '18 4 of 16

Thank you for the feedback Howard, I appreciate it.

Blog: Share Knowledge
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Merlotman 23rd Oct '18 5 of 16

Simon / Howard
Thank you for your kind words of support - I hope I can live up to your expectations! What has already struck me (and I would urge you to consider doing the same if you have time) is that by writing up the strategy (and subsequently the individual company analyses) it has really made me think about the selections and go in deeper than I would have in the past
Simon - I maybe wasn't clear enough but rest assured the main focus will be on those stocks selected. I think it just adds to the process if I occasionally give a rationale for the rejection of one of the names on the screen. This will usually be when a stock is rejected in the interest of diversity.
Stephen

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mmarkkj777 23rd Oct '18 6 of 16

In reply to post #410944

Hi Merlotman,

That was me, not Simon :-)

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kevfle 23rd Oct '18 7 of 16

This type of portfolio would probably suit somebody who is already in income drawdown and who wishes to draw the portfolio's natural yield only and not dip into capital. Clearly you would lose the compounding effect from reinvesting dividends, but providing that the income in year 1 meets the individual's needs at that time and grows by not less than the rate of inflation then it, in effect, becomes an inflation linked annuity.

The capital will fluctuate with the market but you would hope that in the long term it would hold its value in real terms.

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mmarkkj777 23rd Oct '18 8 of 16

In reply to post #411054

kevfle,

Yes I agree, or some of us oldies who are getting close and don’t want to take big risks anymore, coz we won’t necessarily have the time in the market to recover from a major catastrophe!

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lightningtiger 24th Oct '18 9 of 16
1

Hi Merlotman,

 I have had a look at your 33 shares in your compounder Buy portfolio, and taking into account recent points from kevfle and mmarkkj777, that "capital will fluctuate" and  "don't want to take big risks anymore", hope that this is not with real money!

While all the shares pay out dividends, the capital content is a disaster currently as can be seen by checking the 50 day MA. Only 3 shares are showing positive, the other 30 are all negative. The worst 3 shares over the last month are NUM -29.1%, IGG -26.7% and TCF -25.6%.

I only hold 3IN out of the 33 shares in your portfolio.

Unless you keep an eagle eye on the positive momentum of the shares, your money from the dividends can easily be wiped out, and your capital too, especially in this market down turn. 

BDEV was tempting to buy recently but it dropped 9% just before XD with a dividend payout of about 6%, the result of which would have been about -3% plus costs, not a good trade.


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Merlotman 24th Oct '18 10 of 16
4

Hi lightningtiger
Thanks for your input
I think your comments raise an interesting issue about differing investing styles. Neither is wrong – it just depends on what suits your aptitudes and personal circumstances. The most important thing is to have a strategy and stick to it.
The basis of my strategy is to create an annuity type income stream (I.e. as predictable as is possible flow of dividends). Prior to retirement this is to be used to increase the number of shares held (dividend reinvestment) and then once I retire to provide income. In my calculations the assumption is that I will never need to sell the underlying shares in order to provide a satisfactory income at NRA, so long as the target dividend stream is maintained. I therefore focus on a fundamental analysis of whether each company can continue to pay a growing dividend (hence the emphasis is on quality rather than simply a high yield). The market price of the underlying shares (and therefore technical analysis in general) is therefore meaningless from my perspective. I will leave it to my children / chosen charities to decide as and when the shares are to be sold.
I do understand that trading based on technical analysis can reap potentially great rewards - its just not for me as: (I) I want predictability of cashflow (ii) I dont want to be having to check SP movements all the time – a quarterly valuation is enough for me (iii) my background in FI means I am better suited to fundamental analysis (iv) I have the luxury of a relatively long investment horizon and a reasonably sized starting pot.
Finally please note that with any screen the Compounder is the starting point. I am not proposing to buy all or any of the constituents without further analysis.
Good luck!

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jjis 24th Oct '18 11 of 16

Hi Merlotman, cheers for your post which outlines what seems like a sensible approach. I have been doing something similar myself for the last 10 years or so with some success as I have been able to grow both my capital and income substantially over that time frame. The market was offering more value at the time I started (March 2009) & a long bull market is always a helpful background.

As you say there are worries about a potential setback either on going from here or in the next couple of years so your drip feed / pound cost averaging approach seems sensible too. One thing I would query though is your suggestion of reinvesting the dividends in the Companies that pay them with a minimum of £1000 to keep costs down. Not sure that will necessarily keep the costs down or be that practical. Personally I tend to let dividends accrue in the account and utilize it naturally when it has built up to a sensible level with which to add to an existing holding if a good opportunity is thrown up by Mr Market.Or I reinvest it along with cash from a sale or elsewhere in the portfolio. This can help with rebalancing as you may find with a limited number of positions, that your unit size may increase over time.

Personally I don't tend to use screens to run my portfolios, although they are useful for highlighting potential candidates for further research as you suggest. I note that you say you keep a longer list which seems sensible too. I do however Score the whole UK market on similar characteristic to those you have chosen which then gives a better view of how a stock compares overall and also gives more choice of potential investments. I've also run an example portfolio based on these Scores for the last three years, which has done alright so hopefully this might give you some encouragement that you are on the right lines.

Any way good luck with your investment plan - now comes the hard part - sticking to it throughout whatever Mr. Market may throw at you!

Website: Compound Income

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UK Value Investor 25th Oct '18 12 of 16
1

Hi Merlotman, your plan sounds like a good starting point.

I like your idea of having two screens, one for buying and a more relaxed one for selling. I guess most screen-based investors will tend to have an implicit 'sell screen' (I know I do) but having an actual sell screen might be better because it should create more disciplined selling. At least in theory!

Blog: UK Value Investor
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Stephen Bland 2nd Nov '18 13 of 16
2

Selling? What's that all about? Skilled income investors don't sell - ever.

The portfolio will change over time due to what I have termed "Market Trading", ie. mandatory corporate action like bids, cash returns, demergers etc. The market trades for you and this will, on balance, outperform the cack handed attempts of income investors who think they can beat this. They can't.

I accept that good traders, and they are as rare as rocking horse shit, can do better but the thread concerns income players. That is, buying a share for its dividends and ignoring capital fluctuations.

By definition (well mine anyway) income investors are lousy traders. The key is to recognise this fact about themselves and then use it to their strategic advantage. 

Few men will. It's like admitting you are a lousy driver or much worse, lover. That's why women generally make far better income investors, they don't feel they have anything to prove whereas blokes do.

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Merlotman 4th Nov '18 14 of 16

Stephen
Yep that's pretty much right...on selling that is (but probably also your comments regarding traders and female investors). Hopefully I won't need many more than 20 punches of that card - It's so liberating when you start investing for income and can ignore mr market
As an aside both you and John K have provided inspiration for my strategy - thanks both

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Merlotman 4th Nov '18 15 of 16

jjis
Belated thanks for your comments. I had a look at your website and strategy - very impressive. However my personal approach will be to hold for longer periods

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paulhomer8 21st May 16 of 16

In reply to post #415324

Hi Merlotman, very interesting post, thank you. Could i just ask what your relaxed screen looks like? Also the items not used on the checklist, how do you interpret these? Cheers

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