Reflections on 2018-19

Despite the gyrations in financial markets over the last year, most of you looking at your upcoming 2018-19 statements should be reasonably pleased with what you see.

reflections-2018-19

Many of you invest some or all of your super in our Balanced investment option. If this is you, your return for the year will be just short of double digits (+9.9%), representing the 10th year in a row of positive returns. And this number is quoted after tax, so retired members paying no tax have actually cracked double digits with a return of +11.3%.

This type of outcome was looking near impossible in December 2018 when 12-month returns were close to zero, so the last six months have been quite remarkable—driven by developments that would have been considered highly improbable this time last year.

Improbable events

The ASX's big movers

Line graph showing ASX performance between June 2018 and June 2019. It shows a steady trend until August 2018, when a downward trend starts until December 2018, with steady growth since then. Key events highlighted are: Iron ore at $60 per tonne in June 2018; Fed signals pause in rate hikes in December 2018, Coalition winning federal election in May 2019; RBA interest rate cut by 0.25% in May 2019 and Iron ore at $112 per tonne in June 2019.

Source: Bloomberg

  • Having been in a rate tightening cycle for three years, in January 2019 the US Central bank (the ‘Fed’) signalled its intention to pause its rate hiking cycle. This sparked an immediate rally in share markets around the world. When it comes to having an impact on share markets, the Fed remains by far the most important player—even more important than the Donald.
  • In January 2019 Brazilian iron ore giant, Vale, announced the tragic collapse of a tailings dam and the temporary closure of a number of mines, taking about 70 million tonnes of supply out of the iron ore market. With Chinese demand still holding steady, the price of iron ore rocketed to over $112 per tonne after starting the year at around $60.
  • The Coalition’s election victory in May led to a strong rally in our banks. Investors anxious about changes to the treatment of franking credits, capital gains and negative gearing suddenly found their fears allayed.
  • In June 2019 the Reserve Bank of Australia (RBA) cut interest rates to an all-time low. Only months earlier in November 2018, the RBA’s governor had signalled that the next rate move was more likely to be up than down. This move further underpinned the rally in shares, particularly those with sustainable yields such as our ‘fortress’ assets—Transurban, Sydney Airport, APA, and ASX.

Best performing shares (of significance to UniSuper)

In a year that saw us receive Chant West’s ‘Best Fund: Investments’ award, we had more highlights than disappointments.

As UniSuper is now around an $80 billion fund, our largest holdings are concentrated in large companies. While smaller companies typically have more downside and upside (and, by extension, are more likely to be the best- or worst-performing shares in the market) these do not have a significant impact on your investment returns.. Therefore, for the purposes of this article, we’ll just look at companies in which we’ve invested at least $1 billion. Of those, here are our top three.

BHP

After topping the table last year with an astonishing return of +52.2%, the ‘Big Australian’ managed another first place finish with +32.8%. This was driven in large part by the rise in the iron ore price. If sustained, every $5 increase in the price of iron ore equates to around $700 million in annual revenue to BHP. Furthermore, selling US shale assets allowed BHP to return about $10 billion in capital to shareholders via a special dividend and share buyback.

Other resource companies have also returned capital, and the market has welcomed the new-found discipline towards capital management (the resources industry has a history of being a serial squanderer).

ASX

The Australian Securities Exchange (ASX) ranked second in our performance tables (+32.2%), so it’s another case of back-to-back stellar performances. We cautioned last year that (at around $64) the shares looked a touch expensive and that a repeat performance was probably not on the cards. Hopefully nobody paid attention because it’s now trading around $83. And dare it be said again, but the shares do indeed look expensive so we are not expecting a repeat performance. Hopefully we are wrong again. Apart from being a solidly growing profit generator, the ASX share price also factors in some ‘upside’ from its adoption of distributed ledger technology (‘blockchain’). Notwithstanding the ASX’s lofty share price, we’re unlikely to be selling it—it’s the classic ‘fortress asset’ that we look to acquire at a reasonable price, rather than opportunistically trade.

Transurban

Transurban-logo

Coming in at third place was the perennial stable star, Transurban (+30.8%). Given the established, ‘fortress’ nature of its toll road assets in major cities, Transurban has benefited greatly from the sharp decline in bond yields as investors look for other ways to earn sustainable income. Transurban’s growth profile was also enhanced by two very large deals—the West Gate Tunnel project in Melbourne (which included a 10-year extension to the CityLink concession) and the WestConnex deal (which saw Transurban buy 25% of WestConnex from the NSW Government).

The five toll roads involved come with a concession term of 42.5 years, compared to about 28 years that the company currently has. So not only is Transurban able to deliver an attractive, growing annuity stream, we expect it to do so for a very long time.

Best performing investment option

In a very close finish, Global Companies in Asia (GCA) was our top performing investment option (+14.9%). It just pipped Australian Equity Income (+14.6%) and Listed Property (+14.5%) at the post. Once again, these are after-tax figures, so retired members who invest in these options and pay no tax on the returns will be even better off.

To understand why GCA has been so successful, you only have to look at the types of companies and consumer behaviour the portfolio taps into. If, over the last year, you've used Google, purchased Nike or Adidas shoes, used a Mastercard or Visa for purchases, gone to a Marvel or Disney movie or dropped into Starbucks or McDonalds, you've contributed to GCA's returns. If you haven’t done any of those things, you may well have used products manufactured by Unilever (think Rexona or Dove), Pfizer (pharmaceuticals) or Roche (healthcare and research). The bottom line is that it’s almost impossible to avoid the big brands in this portfolio.

We're really proud of Global Companies in Asia. We manage it in-house (i.e. we don't outsource to external investment managers) and it's recorded a stellar +14.6% compound return since we launched it in January 2012.

Worst performer (of significance to UniSuper)

Pole position for worst performer goes to Scentre Group (Scentre), which owns and operates Westfield shopping centres.

Scentre

Scentre recorded a -7.7% return for the year and has the dubious distinction of being our only major investment that recorded a negative return. Scentre was buffeted by the forces currently impacting the retail sector around the world—low wage growth, a cautious consumer and the threat of a paradigm shift in consumer habits from shopping in physical stores to online.

While one can never totally dismiss the signals of the marketplace, we’re confident that Scentre will survive the current cyclical (cautious consumer) and secular (online shopping) headwinds. Our thesis is that there’ll always be demand at both ends of the retail spectrum—the neighbourhood shopping centre anchored by a Coles or Woolworths, and the quality regional and CBD centres that can transition to ‘experience destinations’. It’s the middle of the spectrum that looks doomed to us. In terms of total sales, Scentre has ownership in 16 out of the top 25 centres in Australia, and four out of the top five in New Zealand. It has no problems filling its centres, with occupancy levels consistently around 99%. With a dividend yield of +6% and growth profile above inflation, we’re also comfortable with its valuation and are in no hurry to sell.

We started making a significant investment in Scentre around eight years ago and to date it’s returned over +10% per year, so it’s paid its way. One poor year does not make our long-term thesis wrong. But of course, it could be.

Low returns and disappointments

While our Cash option recorded the lowest return (+1.9%) for the year, it doesn’t qualify as the biggest disappointment because the return is about what one would expect with the RBA cash rate at historical lows. The Cash option is as close to a risk-free option as one can find. It’s there to preserve capital, not to grow it.

The real disappointment for the year was the general under-performance of our external managers of Australian share portfolios, with most of them failing to beat their benchmarks. We manage most of our Australian exposures in-house, but we do outsource a significant component to external managers. Over a long period, this has proven to be a value-adding exercise and we expect that will continue to be the case. We did, however, run out of patience and terminated three of them (out of 14). The investment profession can be rewarding when things are going well, but tough when they aren’t.

The dangers of chasing winners and dumping losers

With regard to disappointments, there’s a potential silver lining given this ‘year in review’ article’s track record.

In 2015, we identified Woolworths as our biggest regret, only to see it bounce back with over +20% p.a. for the past three years. Not only did we hold on to the shares we had, we actually acquired more at cheaper levels.

In 2017, our poorest performing investment option was Listed Property (-3%), and those who switched out missed the ensuing rally, with the option placing in the top three last year (+14.5%).

In 2018, our biggest disappointments were Aurizon (-15.3%) and Telstra (-34.4%), and both of them staged impressive bounces (+31.8% and +56% respectively) over the past year. Once again, we didn’t panic and in fact opportunistically increased our holdings in Aurizon at prices substantially lower than it is today. Note that we are no longer a substantial shareholder of Aurizon, as we took the opportunity to take profit. We also held on to our Telstra shares but couldn’t muster the conviction to buy more. The outlook still looks too challenging to take on a more significant stake in the company. Anyway, at least for the sake of Scentre shareholders, let’s hope history repeats.

The saying 'time in the market is more important than timing the market' may well be a cliché. But, as is so often the case—especially when it comes to investing your life savings—it’s a cliché because it’s true.





Past performance is not an indicator of future performance. This information is of a general nature only and may include general advice. It has been prepared without taking into account your individual objectives, financial situation or needs. UniSuper’s investment strategies will not necessarily be appropriate for other investors. Before making any decision in relation to your UniSuper membership, you should consider your personal circumstances, the relevant product disclosure statement for your membership category and whether to consult a licensed financial adviser. This information is current as at 4 July 2019. This is not intended to be an endorsement of any of the listed securities named above for inclusion in personal portfolios. The above material reflects UniSuper’s view at a particular point in time having regard to factors specific to UniSuper and its overall investment objectives and strategies.