Autumn 2018 stock market drops

[Dod101]

<For a good selection of companies with weak moats look at the High Yield Portfolio board (that’s why these shares have high yields).>


That is the funniest sentence I have read on this web site for a long time.
It quite literally made me laugh out loud.

No idea where Gadge's quote came from as I cannot find it but then this is now a long thread. It seems to me to be a bit of an odd sentence not to say misguided if that is what was written. I think most of the high yield shares mentioned on the HYP Practical Board have a relatively strong moat not a weak one otherwise there would be more competitors to bring down the yields. Pray, what is it that Gadge finds so funny? Do tell.

It is anyway an interesting thread. As odysseus2000 said, investing is about emotion as much as anything, and we need to try to be detached so that it is our own emotions that we are buying into and not the market's, or the crowd's. Above all I think we need to be independent and detached and not be afraid to do our own thing. But we need a strategy otherwise we will be threshing around from one idea to the next and although I am no purist HYPer, at least it is a simple clear cut strategy which any novice can follow. It can be modified as we gain experience or begin to feel more confident to branch out a bit. I feel that if we hold a portfolio that we are reasonably confident about, market drops can mostly be ignored. It is when a particular share's price that drops for no apparent reason that we should be concerned. Often the market is telling us something and we need as many pointers as we can get.

Dod

[TheMotorcycleBoy]

No, I meant weak moats. The typical HYP candidate is a weak moat company, which is why it has a high yield. If it had strong moats like Unilever or Diageo...

Hi Salvor,

Out of interest what other firms (available to UK) are these "strong moat things", would Croda and Reckitt Benckiser be other examples?

Don't worry, I'm not going to run off right now and buy some!!.....just wanted to learn about them.

thanks
Matt

[odysseus2000]

Interestingly we are seeing a simultaneous break in all sectors of the S&P including biotech. This is the sort of stuff that happened in 2008 and is what one expect to happen in a serious market sell off:

https://twitter.com/0_ody/status/1055829934072086533

I have no idea if we are at a 2008 or 2000 moment but we have two troubles for equities:

1 We have a tariff war that is getting ugly and leading to price increases for many component things which will translate throughout the economy and may lead to inflation if it carries on..

2 We have a FED that is breaking with the tactics since 2008 by raising interest rates for no obvious reason. Powell is talking about this being needed as
employment is now near capacity. Seems crazy to me, but Powell is the one with the interest rate lever and although Trump has railed against the FED its not clear what he can do to get them to change policy, but it is worth keeping an eye on Trump/Powell to see if something is done.

The current action has reminiscences of 2008 where good results no longer mattered and everything got sold. Everything can change in an instant but at this moment I fear we may see much lower prices. Hopefully I am wrong.

Regards,

[TheMotorcycleBoy]

No, I meant weak moats. The typical HYP candidate is a weak moat company, which is why it has a high yield. If it had strong moats like Unilever or Diageo...

Hi Salvor,

Out of interest what other firms (available to UK) are these "strong moat things", would Croda and Reckitt Benckiser be other examples?

Don't worry, I'm not going to run off right now and buy some!!.....just wanted to learn about them.

thanks
Matt

For a list of companies with sound balance sheets and strong moats you could do worse than look at the investments of Fundsmith.

No idea about Croda or Reckit Benkiser, sorry.

Well, guess what?

I just found this:
https://www.fundsmith.co.uk/fund-factsheet

and RB is right there....

But anyway, no disrespect to you ap8889, I just wondered what firms were similar in moatishness to ULVR and DGE.

Matt

[RececaDron]

I'm increasingly of the view that the disinflationary developed-market era of the past 35+ years is coming to an end and the era ahead will be more of an inflationary one. Few investors have personal experience of investing in an environment biased towards inflation rather than disinflation, so the transition may be problematic. Former portfolio stabilisers like long-dated government bonds may not fulfill their role so well as they did previously. Low quality businesses will be exposed.

In a more inflationary environment, the key characteristic a business requires is pricing power. Absent that, margins will contract under rising input costs, causing valuations to fall or for a business to even become unviable.

Economic moats are what provide strong pricing power to businesses.

Initially, it may not entirely be a barrel of laughs even for high quality businesses enjoying strong pricing power, as valuation multiples might contract across the board as discount rates based off long bonds falls. However, this would be a temporary bump in the road: the high quality businesses will survive, remain highly profitable and should in time benefit from the demise of low quality competitors.

If I'm right about an inflationary regime change slowly emerging, I'd think very carefully about portfolio construction.

Although the inflationary "regime" may change only slowly, the narrative surrounding it won't: it'll move in jerky fits and starts, until eventually it enters the common knowledge causing markets to reprice things rapidly and dramatically, by when it'll be too late to take meaningful portfolio action.

If I had a HYP (I don't) I'd be looking carefully at the quality of the businesses I was invested in to see what evidence there was for strong pricing power. I agree with the view that HYP candidates generally don't enjoy strong economic moats, because if they did investors who recognised this would in general have already bid up their prices thereby reducing dividend yields.

[TheMotorcycleBoy]

I'm increasingly of the view that the disinflationary developed-market era of the past 35+ years is coming to an end and the era ahead will be more of an inflationary one....

?
https://uk.reuters.com/article/uk-brita ... KKCN1MX1H5

[RececaDron]

TMB, I don't base my investment strategy around what the British public expect inflation to do; or rather if I were to occasionally do so, it would be in a contrarian manner to bet against the received knowledge.

But more importantly: every time there's a growth scare (and there'll always be a steady stream of candidates, some of which will materially impact growth or even lead to the occasional recession), then inflation impetus will naturally abate, long dated govt bond yields will fall, the inflation narrative will be parked for a while.

I'm referring to a 37-year-to-date era ending and turning slowly; the long term disinflationary impetus transitioning into an inflationary one, jaggedly, not in a straight line. The US, recovering first and emerged first from post-GFC emergency monetary conditions, should lead the way.

I'm really not trying to convince anybody, merely laying out my thoughts because doing so is helpful to me; if somebody else finds it useful that's a bonus. I'm just another punter posting on the internet, so you should rightly approach whatever I (and anyone) writes with scepticism.

[TheMotorcycleBoy]

I'm really not trying to convince anybody, merely laying out my thoughts because doing so is helpful to me; if somebody else finds it useful that's a bonus. I'm just another punter posting on the internet, so you should rightly approach whatever I (and anyone) writes with scepticism.

Sorry, I didn't mean to be offensive in my last post. I just happened to be whizzing through reuters seeing what terrible fates we had all befallen lately, and hence a slight note of irony emerged...

I guess now though it is a pretty strange time, what with Trump vs China, various strands of protectionism cropping up all round the world, and of course the *lovely* scenario panning out over our green little since the GFC of 2008 and this Brexit thing that's now going down. God knows what's lurking around the corner.

I'm just trying to be fatalistic myself, and be stricter with myself i.e. more patient and get into this dollar-cost-averaging thing.

Matt

[TheMotorcycleBoy]

RD But are the US actually recovering from post-GFC monetary conditions? Isn't their indebtedness getting worse? And also my impression (which I find reinforced throughout articles on the WWW) is that 30% growth recently in the S&P500 is merely a bubble out the back of Trumps Tax cuts. I won't write further - since writings on this abound online.

[odysseus2000]

I'm increasingly of the view that the disinflationary developed-market era of the past 35+ years is coming to an end and the era ahead will be more of an inflationary one. Few investors have personal experience of investing in an environment biased towards inflation rather than disinflation, so the transition may be problematic. Former portfolio stabilisers like long-dated government bonds may not fulfill their role so well as they did previously. Low quality businesses will be exposed.

In a more inflationary environment, the key characteristic a business requires is pricing power. Absent that, margins will contract under rising input costs, causing valuations to fall or for a business to even become unviable.

Economic moats are what provide strong pricing power to businesses.

Initially, it may not entirely be a barrel of laughs even for high quality businesses enjoying strong pricing power, as valuation multiples might contract across the board as discount rates based off long bonds falls. However, this would be a temporary bump in the road: the high quality businesses will survive, remain highly profitable and should in time benefit from the demise of low quality competitors.

If I'm right about an inflationary regime change slowly emerging, I'd think very carefully about portfolio construction.

Although the inflationary "regime" may change only slowly, the narrative surrounding it won't: it'll move in jerky fits and starts, until eventually it enters the common knowledge causing markets to reprice things rapidly and dramatically, by when it'll be too late to take meaningful portfolio action.

If I had a HYP (I don't) I'd be looking carefully at the quality of the businesses I was invested in to see what evidence there was for strong pricing power. I agree with the view that HYP candidates generally don't enjoy strong economic moats, because if they did investors who recognised this would in general have already bid up their prices thereby reducing dividend yields.

interesting idea.

What do you believe will be the key drivers of inflation?

Usually within the mantra of too much money chasing too few goods one has inflation during wars or when some vital component like oil is rationed as in the 1970's.

Do you see some similar threat that will bring up inflation now or in the near future?

Regards,

[TUK020]

I know the likes of Dod and others will disagree but in my view, only four things matter in the long term:

Compound interest
Dividends
Time
Costs

Rely on the first, maximise the second and third but minimise the fourth.

Most changes in capital values are just noise; trying to distinguish signal from noise takes a very long time, beyond the time frame of most investors so they are mostly just trading noise. Great for them, traders, brokers, PR agents, marketing companies and the press but deadly for the investor.

Do as little as possible for as long as possible.

If I could suggest a fifth: diversification

[SalvorHardin]

Out of interest what other firms (available to UK) are these "strong moat things", would Croda and Reckitt Benckiser be other examples?

Don't worry, I'm not going to run off right now and buy some!!.....just wanted to learn about them.

A bit late in replying, I've had a week off.

Reckitt Benckiser - definitely strong moat (brands). You only have to look at Nurofen, a branded version of a generic drug (Ibuprofen) for which a premium price is charged, or the number of their products which are in the typical household (it's quite surprising what they make). I can't say anything about Croda, I've never looked at it (I don't even know what they do).

Strong moat UK companies off the top of my head: Diageo, Reckitt Benckiser, Unilever (I have large holdings in all three). The utilities have strong moats though they come with huge regulatory and political risk nowadays which could damage / destroy their moats. There are going to be other companies, I just don't spend much time nowadays looking at the UK so I don't spot them as a rule. As has been said, everything that Terry Smith's Fundsmith is invested in is probably going to be a company with a decent moat.

I stand by my comment about the typical HYP company having a weak moat. BP, Shell and the Miners are all price-taking companies. Insurers mostly compete on price in an increasingly commoditised market. Banks are subject to contagion and terrible management (greed, idiocy and gearing are an awful combination). Construction is a sector that's subject to cost pressures all the time whilst their long-term prospects are dependent on "land banking" which is under political pressure (i.e. politicians don't like the builders getting planning permission then not using them for many years). Utilities have a superb moat for their regulated businesses but these are increasingly subject to political risk in the UK.

In the last decade rather a lot of HYP companies have posted profit warnings which came very true, cut dividends, stopped paying dividends or even gone bust (or been bailed out by the state). Here's my original post:

viewtopic.php?p=173225#p173225

A good example of a strong moat is the North American railroads. Their business is somewhat cyclical, so their share prices can be quite volatile, but their business prospects over the medium term and long term are excellent. No-one is building another railroad of any consequence (too hard to buy the land, get permissions, etc.), they've got inbuilt advantages over trucks for longer distance shipping (much cheaper per tonne-mile) and they're more environmentally friendly than trucks (a political advantage). Until teleportation comes along they're in a great position! Their weakness is their exposure to the economy as a whole plus the threat of political interference (much less than in the UK).

A great example of a destroyed moat is regional and local newspapers, which used to have a superb geographical moat which has been ruined by the internet.

[TheMotorcycleBoy]

A bit late in replying, I've had a week off.

No worries, mate.

Reckitt Benckiser - definitely strong moat (brands). You only have to look at Nurofen, a branded version of a generic drug (Ibuprofen) for which a premium price is charged, or the number of their products which are in the typical household (it's quite surprising what they make). I can't say anything about Croda, I've never looked at it (I don't even know what they do).

Strong moat UK companies off the top of my head: Diageo, Reckitt Benckiser, Unilever (I have large holdings in all three). The utilities have strong moats though they come with huge regulatory and political risk nowadays which could damage / destroy their moats. There are going to be other companies, I just don't spend much time nowadays looking at the UK so I don't spot them as a rule. As has been said, everything that Terry Smith's Fundsmith is invested in is probably going to be a company with a decent moat.

This is what Croda do:
https://www.croda.com/en-gb/products-and-markets

quite a diverse range of consumable "things"

Anyway, regarding ULVR: Mel and I bought this when we first started back in March. However when they made the going Dutch announcement we turned chicken and sold (we still made about 6% which was better than nothing). I'm now considering buying them again....I'm thinking of seeing if they will flutter back into the 4000-4050 then buy. Does that sound like a decent/achievable plan to you? Or maybe I might wait around for more Brexit bad news and buy if they fall less than 4000....comments?

Matt

[Spet0789]

If you like Unilever at today’s price, buy it and leave it alone until you don’t think it’s a good company any more, or it becomes eye-wateringly overvalued. Don’t trade it. You’re just wasting energy to do so.

Unilever (and many of the other companies mentioned) is one of those shares you should expect to buy and own forever. 8% compounded dividend growth for decades and long term investor returns similar to its return on capital.

[odysseus2000]

SalvorHardin
A good example of a strong moat is the North American railroads. Their business is somewhat cyclical, so their share prices can be quite volatile, but their business prospects over the medium term and long term are excellent. No-one is building another railroad of any consequence (too hard to buy the land, get permissions, etc.), they've got inbuilt advantages over trucks for longer distance shipping (much cheaper per tonne-mile) and they're more environmentally friendly than trucks (a political advantage). Until teleportation comes along they're in a great position! Their weakness is their exposure to the economy as a whole plus the threat of political interferen

This s the bull case as put forward by Buffett & others.

Here is a bear case.

Railways are the kings for the movers of heavy commodities such as coal & hydro carbons. But coal is in a secular decline & oil at least for transport is likely about to enter a period of secular decline. Two of the main markets declining. This leaves agricultural commodities & the movement of heavy imported goods from dock to market or factory to market.

The next issue with trains is that they can't get to the consumers house so that any kind of consumer product has to be unloaded & then trucked to the destination. Currently there is a big shortage of drivers which pushes up road hauling costs, but if the developments in robotic driving happen one then has a significant competitor that can go to a consumers home.

Additionally railways have significant maintenance costs.

It is not clear to me that the moat surrounding railways is that strong anymore.

Regards,

[odysseus2000]

This is an interesting and fascinating film made in 1956 by the US railways defending their position and illustrating their importance:

https://www.youtube.com/watch?v=3pRSDItUGmM

In the 62 years since the railways have declined in importance.

Regards,

[TheMotorcycleBoy]

There is a compelling counter-argument: As we enter an energy constrained future, the moat of the railroads will be enhanced. Rail is much more energy-efficient than trucking, and physics ultimately trumps all.

That's a good point.

I wish our polits were as logical! I live in the fens and work in IT in Cambridge. Most of the eastern part of the country's IT workers work in Camb. too, alas all using the same road to commute there! For well over a decade they (govt. etc.) have ummed and ahhed, and then finally royally screwed up infrastructure improvements to Cambridge. The main route into Camb. is the A14 and it is and always has been a dual carriageway disaster. If you join it anytime between 6.40 and 10.00am you have 50-99% chance of a long, stressful journey.

Back in the noughties, they had the opportunity of recommissioning a defunct rail link from St ives to Camb. Instead they choose a brand new guided bus way along the same route! It opened, IDK, about 8 years back. It was the usual over budget, over time nonsense. After a year or so bits had to be redone due to flooding. It was such a waste of public money, and as of now, most of the traffic still uses the A14 - which they are finally upgrading.....and the penny has finally dropped.....turn it into a motorway.

So coming back to your point. Railroad is great idea....but where will be political impetus to build come from? The next labour government Hmm...

[odysseus2000]

There is a compelling counter-argument: As we enter an energy constrained future, the moat of the railroads will be enhanced. Rail is much more energy-efficient than trucking, and physics ultimately trumps all.

Energy constrained? That was the thesis of peak oil in the 1970's.

Since then we have wirked out how to use renewable power with the uk at 30% and rising.

The advent of solar, wind, wave with storage gives us more practical power than we have ever had.

Railways may be energy efficient, but what matters to most of us is convenience, speed of delivery & cost. To me it looks highly probable that this will be given by electric propulsion driven by robotic systems. If that happens I do not see much of a future for rail.

Regards,

[TUK020]

There is a compelling counter-argument: As we enter an energy constrained future, the moat of the railroads will be enhanced. Rail is much more energy-efficient than trucking, and physics ultimately trumps all.

Energy constrained? That was the thesis of peak oil in the 1970's.

Since then we have wirked out how to use renewable power with the uk at 30% and rising.

The advent of solar, wind, wave with storage gives us more practical power than we have ever had.

Railways may be energy efficient, but what matters to most of us is convenience, speed of delivery & cost. To me it looks highly probable that this will be given by electric propulsion driven by robotic systems. If that happens I do not see much of a future for rail.

Regards,

Robotic systems will enable cross-modal transitions. The most effective way for a robot freight truck to get across country, will be for it to catch a train
for the bulk of the journey

[PeterGray]

And much easier to make self driving that cars or trucks