LIC & LIT Listed Investment Companies (LICs) in 2017

{Note - this thread continued from here: Listed Investment Companies (LICs) in 2016}

 

Apologies for some inaccurate information in my posts on Peter Hall's resignation from Hunter Hall. Because I don't own anything to do with Hall I just skimmed through the initial AFR article and upon seeing the mention of Geoff Wilson I assumed they were talking about the LIC (HHV). It was the listed mgr (HHL) that the article was referring to. After that I got the asx codes mixed up. All very embarrassing.

I think I need to follow my own suggestion in the previous post "Stick to what you know and understand (old style LICs in my case)" and perhaps cut back on the home brew. A warning to all, simple investing is all I'm good at.

Happy New Year everyone.

 

One of the reasons investors have embraced the listed investment company (LIC) sector is the fact that many LICs offer a reliable source of franked dividend income. We have calculated that LICs with an Australian large cap shares focus currently offer an average dividend yield of 4.4%, with most dividends fully franked. For LICs with an Australian mid to small cap shares focus the average yield is 4.6%, although not all dividends are fully franked. Twenty-three LICs on our data base with an Australian shares focus and those with a blended portfolio of Australian and international shares with a dividend yield of 4.4% or higher are shown in the table below.





While dividends are a key consideration, investors should not buy LIC shares purely on the basis of dividend yield. It is also important to look at valuation metrics such as premiums and discounts to NTA as well as performance of the underlying portfolios. To this point, our data tables provide analysis that can help investors choose LICs to suit their own specific investing strategies.

Dividend sustainability

Dividend sustainability is a critical issue when choosing LICs. To understand whether dividends are sustainable, we first need to look at how LICs earn their profits. Most of the older, internally managed LICs, such as AFIC (AFI), Argo (ARG) and Milton (MLT) are long-term investors and do not actively trade shares. This means their earnings are largely dividend based. On the other hand, the earnings of the LICs with more actively traded portfolios and those with a focus on small or emerging companies, tend to have a greater reliance on capital appreciation. In times of a prolonged market downturn, when overall market returns are negative, LICs that have a greater reliance on capital appreciation are likely to experience greater pressure on earnings and could in fact report losses in the P&L account.

LICs that rely largely on dividend income for earnings are less likely to report losses during periods of market downturns, and therefore the dividends they pay to their own shareholders are likely to be more sustainable. However, if the companies they invest in are forced to lower dividends due to reduced earnings, then, depending on their own payout ratios, the LICs may also be forced to reduce dividends, or at best hold them at current levels. This happened following the global financial crisis when banks and a number of companies were forced to cut dividends to preserve capital. MLT dropped its dividend in both 2009 and then again in 2010, with a total reduction of 26% before resuming the upward trend in 2011. ARG’s dividend was down 17% from 2008 to 2010 before resuming its upward trend. AFI was able to hold its dividend flat post GFC, but it did not start increasing again until 2013.

LICs with a greater reliance on capital appreciation were forced to take more dramatic action in relation to dividend payments following the GFC. The WAM Capital (WAM) dividend halved from 16 cents per share in 2007 to 8 cps in 2008 and then fell to 4 cents per share in 2009. With better markets, the dividend has rebounded rapidly with WAM paying 14.5 cents per share in 2016. After paying a dividend of 8 cents per share in 2008, Contango MicroCap (CTN) did not pay a dividend in 2009, with dividends resuming again in 2010. In more recent times, Westoz Investment Company (WIC) dropped its dividend from 9 cents per share to 6 cents per share in 2016. The dividend was maintained in 2015 despite the LIC reporting a large loss due to poor performance of its West Australian dominated portfolio, but this ate into profit reserves. With the company reporting a small profit in 2016 the dividend was cut to prevent further erosion of profit reserves.

In order to be able to pay dividends, LICs need to generate profits. However, it is possible for LICs to pay out more than they generate in profits in a given year by dipping into retained profit or dividend reserves from prior years, as WIC has done. So it is possible for LICs to smooth dividend payments to their shareholders by retaining profits rather than simply paying out 100% of earnings each year. The table above shows our estimates (based on published accounts) of the number of years each LIC could retain its current dividend payments without generating any additional profits. This is a good indicator of dividend sustainability when markets turn down. Coverage of one means that a LIC could maintain its current dividend payout for one year without generating any profit in the current year.

There are a number of LICs in the above table with dividend coverage of more than two years which means they are reasonably well placed in the event of a sustained market downturn. Of the LICs in the table, Hunter Hall Global Value (HHV), WAM Research (WAX), Australian United Investment Company (AUI) and Mirrabooka Investments (MIR), all stand out as having particularly strong dividend coverage.

Over the next year, we expect some LIC dividends may come under pressure as the income from their own portfolios declines due to lower dividends from resources and energy stocks and perhaps also the banking sectors. We note that Djerriwarrh Investments (DJW), one the highest yielding LICs currently, has already said it expects to cut its dividend from 24 cents per share to 20 cents per share in 2017. Based on the current share price this would lower the dividend yield to 5.5%, still an attractive, fully franked yield. This highlights the importance of watching management commentary for indications of potential changes to dividend payouts.

Conclusion

The LIC sector offers investors attractive dividend yields, but in periods of market downturns all LIC dividends are likely to come under pressure. While LICs that rely largely on dividend income from their underlying portfolios will suffer from reductions in dividends from their own investments, those with a higher reliance on capital appreciation are likely to come under greater pressure to reduce dividends. LICs with high levels of profit reserves are best placed to maintain dividends during periods of market weakness.

 

Thanks @johnpendlebury,

Got to be quick around here, that was posted awhile back here:

Listed Investment Companies (LICs) (IIR Report)

You might be interested in the debate from the above post over subsequent pages in relation to the accuracy of the content.

This thread is so long now it's easy to miss stuff.

In addition to the above other research reports can be found here:

Listed Investment Company updates - Cuffelinks

 

haha damn

 

Hoping the small midcap sector will cool down abit, looking to get some MIR on my partners lower income earning name, thinking of getting a small parcel maybe only 500 to 1k just to become a shareholder and wait for some.doom and gloom and top up and get in on SPP and rights offers on the future whilst reinvesting divs for the long long term!

Partner has free brokerage at the moment and like MIR's ex top 50 approach and not so shabby fee to cover this sector of the market!

Ex div date is 20 Jan i think so im highly doubtful it will cool down by then!

 

By no means was it the only reason but certainly Geoff Wilson's meddling in HHV appears to have contributed to Peter Hall eventually exiting. Many will disagree with me and I know that activism has its role to play at times but it's being abused more and more by barbarians for shorter term gain.

 

I like the idea of a small initial purchase to take advantage of SPPs when (if) they pop up. One of the reasons I spread my cash around all the LICs that I am interested in. Ongoing contributions will then be based on best buying.

 

Rights / Bonus Issues more beneficial as the holding increases in size but discounted SPPs (up to 15K) great for the small investor.

MIR, great idea to get on the register with a small initial purchase just in case. But patience wins the day. Most of our MIR was purchased during the GFC and the bear market that followed a couple of years later. I hadn't purchased any since then until the discounted SPP in late 2015. And haven't purchased anymore since the SPP.

 

Should you get your kicks with the new breed of LICs?

it is an old article but some of these LICs are still trading on discount as per their NTA....worth a look if you are after discounted new breed LIc's .

(not advise- I have been reading this thread during my xmas break-mind blowing information)

 

Nice, yes just want to get my foot in the door and 500 or 1k wont break the bank either and just ride it out for gloomy times.

Really like the ex top 50 mandate and think it will really compliment the old school lics on a 70/30 % portfolio tilt spread around ARG,MLT,BKI, WHF, and hopefully some AUI down the track alongside VGS for international exposure!

See you all in 30 years for an update!

 

Curious if you looked at QVE which has a similar mandate (ex20). Long term I wish to have both, I went QVE at the time due to discount to NTA vs high premium, both are now at a premium.

 

FOFO or not I can't help but think history will repeat itself for some of the recent rash of new breed listings just as it did earlier in 2000:

 

I have looked at it but the fee is a bit higher and i like how MIR has been in the business for alot longer i have concerns in the long term if current management and directors move on as how the principles and how QVE may change its views and outlook and how this may impact its shareholders. No doubting its a quality fund and to be honest i could even do without MIR given the "big bird" lic's are probably still getting some mid /small cap exposure in their portfolios.

I just thought abit of small mid caps with the ex top 50 focus wouldnt hurt and will probably help more than me trying to find the next hot stock whilst being on a property forum thinking i can beat the market CONSISTENTLY! HINT TO MYSELF: STICK TO MY JOB and cut costs and preserve capital! Very boring!!!

So either MIR and QVE would do the trick! And the lower fee wins out for me!

 

Struth @pippen if you keep posting like this no one will want to read my posts.

I own both these LICs but MIR is the favourite. A few reasons mostly already stated above:
1. Bugger all key person risk (eg QVI IPO shelved as key trader quit)
2. Lower fee and likely to continue to reduce due to internal management (ie as FUM rise company fees stay relatively fixed)
3. Run by a big gorilla that's been around for many decades ie the same mob behind AFI, AMH and DJW.
4. Ex 50 rather than Ex 20 (Ex 20 still includes larger caps so potentially more overlap with the large cap focused LICs)
5. Performance not too shabby either
6. Been around in the "LIC environment" much longer

 

Haha i very much doubt it, im the new breed! But the low fee variety! Ive read and read and read on this forum and knowledge has improved a great deal mostly learning from yourself @austing among many others on this forum only wish i found this at 23 not 33 years of age!

 

Great stuff @pippen.

I hold QVE and comfortable doing so. I like Anton T's focus on industrials and his market commentary suggests that he tends to look down upon resources. Also, while QVE is new(ish), IML, the parent company has been around since 1996. From memory, the MER is expected to be lowered once a certain market cap is reached.

Will look to load up on MIR when a suitable opportunity arises for all the reasons that @austing has articulated.

Not advice.

 

All great comments. IML's track record is excellent and why I own QVE. However they are relatively new to the "LIC environment" which in the past has claimed the scalps of a number of good "unlisted" fund Mgrs. I continue to be optimistic about QVE though. If you buy at a discount over time it minimises the risk of losing capital if a LIC folds through choice or activism. If you regularly overpay for a new breed LIC however and it winds up you may not be so fortunate.

When it comes to the new breed LICs it pays to research carefully, choose wisely, buy at a sizable discount to compensate for high fees and minimise the risk of loss should the LIC be wound up. It's highly probable just like in the past not all new breeds will survive. They are very different beasts to the old established LICs.

 

Peter Hall is one of Australia's more successful investors.

So when he decided to dump his 43 per cent stake in Hunter Hall, the funds management group he founded, for what seemed like a fire-sale price, there must have been a good reason.

Hall was, in part, valuing his own worth to the business, and it seems he and others who offered to buy his shares felt he was very valuable indeed.

Since he sold for $1 and the shares had traded days earlier at $3.50, he told Chanticleer that it reflected the fact that "Peter Hall is worth $2.50 a share" or 71 per cent of the value of the business.


This was a stark example of "key man risk" and, in funds management, a key man can be the difference between a valuable or worthless business.


Key men are often found at companies that are run by their founders: they are guardians of the culture and they think and act as long-term business owners rather than bonus-hungry executives.

When it comes to funds management, the role of the key man can be particularly prominent.

The businesses they build are largely centred around their talents and, unless they take active steps to make themselves more dispensable, investors will perceive this to be the case.

Delicate balancing act

For fund managers associated with companies that have become publicly listed, key man risk is an extremely delicate balancing act for the boards that have accepted the job of overseeing the empires built by these key men.

The directors are subject to the actions of dominant shareholders, whose talents hold the key to the immediate success and stability of the business.

But they can't shirk from the reality that, without a succession plan, the long-term value of these businesses will eventually trend to zero as mortality catches up with founders.

It's an issue facing the boards of global equity titans Magellan and Platinum, where brands and fortunes are tied to the key personalities that built those businesses, Hamish Douglass and Kerr Neilson.


At the most recent shareholder gathering of Magellan, chair Brett Cairns admitted the board had yet to find a solution to the key man risk associated with the cult-like following Douglass had built among financial advisors and retail clients.

"Absent something transformational, our key man risk will take time to mitigate," Cairns said. "The board's longer-term strategic objectives aim to facilitate this and progress has been made."

No residual value
At Platinum, the importance of Neilson as a stock-picker and figurehead is also central to the worth of the business and some analysts have assumed the group will have no residual value if he departs.


Neilson himself told shareholders that the focus was on "having the team to run this business ... for 30, 40 years".

Some of the great organisations that started in the 1930s "are stronger today than they have ever been", he said.

The challenge for Platinum is, under Neilson's watch, new key men may emerge and decide they are talented enough to build mini-Platinums and may be lured by capital providers to chance their arm.

Beyond the listed space, sophisticated institutional investors pay very close attention to key man risk even as they acknowledge the talent that surrounds them.


Signs of wavering interest
Investors in top Australian hedge funds keep a close watch on well-proven trading talents for any signs of wavering interest.

Do they have intentions to retire? Are they spending too much time on the golf-course, at the farm or in the beach house? Have they "checked out"? Any hint of this can lead to redemptions.

In time we will find out just how important Hall is to the future of Hunter Hall (aside from co-founding the business). Will money follow him out the door en masse?

A case study from overseas was the sudden and acrimonious departure of Bill Gross from bond giant PIMCO in September 2014.

PIMCO is majority owned by German insurer Allianz. Although Gross founded the group, he was effectively an employee, albeit an exceptionally well remunerated one. So his exit didn't require him selling stock. He could simply be fired or resign.

Certain to bleed money
But his status as the bond king and his enormous media profile meant PIMCO was certain to bleed money if he exited, and it did.


The Total Return Fund Gross managed declined from a peak of $US284 million in April 2013 before Gross left to $US84 billion in September.

The outflows were a drag on Allianz's profits and it was only in November that PIMCO was able to post inflows for the first time in three years.

On that evidence, Gross was clearly an asset to PIMCO. But the money was already starting to leave, and he had to leave some time. Gross also failed to attract significant funds to his new shop Janus, despite the billions that followed him out the door.

There is a no more extreme example of a hedge fund titan that's intent on managing key man risk than Bridgewater's Ray Dalio.

Apparent feud
One of the most successful hedge fund managers of all time, Dalio believes Bridgewater's edge is its culture of radical transparency. His commitment to being challenged was tested after an apparent feud with his second-in-command Greg Jensen.

Now it has been reported that Dalio plans to build a computer system to automate his management philosophy so his market-beating influence will be hard-wired into the organisation forever.

In that bizarre context, key man risk is a little less frightening. But ultimately, these great investors have to work out if they want to be remembered as someone who built a vehicle to enhance them, or a business that outlasts them

 

Thanks @johnpendlebury,

The AFR's been running hot with articles on this especially today. Will be some useful lessons in this for many investors so it's worth seeing how this unfolds.

The dangers of key person risk has really been put up in lights for all investors to see with what's happened to Hunter Hall.

I'm most interested in how SOL comes out of this.

Cheers