LIC & LIT Listed Investment Companies (LICs) Q3 2018

{Note - thread continued from here: Listed Investment Companies (LICs) Q2 2018}


There are a number of problems or complexities in the information presented by the writer of the online commentary. Summarised most simply these are:

(d) Technical Errors/Estimates: the writer of the online commentary has used an XIRR function on Microsoft Excel to determine return.

I did use XIRR.
IRR stands for ‘Internal Rate of Return’ – XIRR simple allows you to use the IRR framework for calculating return where the period between cashflows is unequal. There is endless information on the internet if you are not familiar with IIR or how wide spread its use is in financial decision making.

The XIRR function makes a technical assumption (approximation) as to the price at which each cash flow is received and reinvested. (I believe it uses an assumption that the internal rate of return is generated evenly over time). This assumption is an approximation only, and differs from the true position where the return is generated unequally over the 16 years, and where for more accurate calculation purposes the dividends are treated as reinvested at the actual price that applied when the dividend was paid.

Note the word ‘reinvested’ that I have highlighted. There are pockets of misconception that IRR is reliant on an averaged reinvestment rate as alluded to in WHF's response. Which is just not mathematically correct or given any credence by anybody who understands the maths. I’m sorry if I lose you, I’m not good at explaining, but I will try to demonstrate.



The framework for the Internal Rate of Return is the rate at which the Net Present Value ("NPV") of all future cash inflows and outflows for a project is zero. In this WHF example, If you look at column F in the spreadsheet . Each nominal cash flow is discounted by 7.47%pa. If you sum up column F it equals $3.50 – the amount we originally invested, so at a return of 7.47% NPV = zero.

If we invest $3.50 on 29/8/2001and leave it there with no cash flow from it to compound at a rate of 7.47% we will have $11.76 on 21/6/2018. If we add up the actual cash flows and the market price on 21/6/18 we will have received $8.43 yet the XIRR formula tells us the cash flow also produces a return of 7.47%. Reconciling these two outcomes seems to be the basis of the re-investment is necessary for IRR to be accurate misconception. Yes, the only way you can get $3.50 on 29/8/2001 to be worth $11.76 on 21/6/2018 if there has been cash flows is to re-invest the cash flows at the IRR rate. But even if you don’t reinvest – the return is still accurate based on the remaining capital after cash flows that you have invested. Look at the last column in the spreadsheet. It is the present value of the cash still invested after recognising the cash (discounted at 7.47%) that has been returned to you.

In other words to reconcile $11.76 to $8.43 both being a rate of return of 7.47% on the initial $3.50 investment you don’t have to assume reinvestment is needed to make the calculation accurate – you just need to recognise that the cash flows reduce your outstanding investment. On the last dividend on 12/6/2018 under the cash flow scenario, you only have $1.3665 invested after taking into consideration prior cash flows.

WHF (the same as any other investment fund) use the more technically correct method as required by industry calculation standards. The difference can be material. On the period in question we have compared the two methods and the XIRR method understates WHF’s performance by 0.66%pa or an accumulated 28% over the 16 year period measured.

Hopefully I have explained and not confused as to why I do not accept the above bolded point.

WHF’s method (The industry standard) is an accurate representation of return only if you had reinvested all your dividends – at the DRP price.

The IRR return understood correctly is not reliant on reinvestment return. It’s a look back at what you actually returned on your original investment.

Whilst I don’t agree that one method is more accurate than the other I certainly agree that the differences can be material.

Which method is better depends on a few things?

Compounding reinvestment method is probably more informative than IRR if you are accumulating and participating fully in the dividend reinvestment program. However, I still have some issues with fund managers choosing to advertise their performance as the return from the compounding reinvestment method because:

a) Who is responsible for the asset allocation decision of re-investment? You the investor tick the DRP box and hold your nerve in volatility. Unless your name is Buffett and you internally re-invest all capital, you don’t earn the right to take credit for the capital allocation decisions.

b) The more volatility in the share price the better the DRP reinvestment method looks.

c) Non- repeatable structural changes like the lessening of a liquidity discount as a fund grows or a structural change in tax etc that structually lessens the discount is gold – You just have to reach far enough back in history to get a long period of re-investment at the high discount rate and your return will look much better than just the change of discount on the original investment. If franking credit refunds disappear – just watch the industry change their mind on methods as continuous re-investment of the past 20 years and then a structural decline in price discount will make the re-investment calculation method look sick for future reporting

d) DRP prices are often at a discount to NTA causing dilution. Despite not a large % of people opting for DRP/Bonus (WHF is around 13% on last dividend) there is an implicit assumption that 100% takeup at the discounted price would not have a greater impact on dilution.

I maintain that IRR is much more informative than compound reinvestment return especially if you spend any of your dividend income and/or take responsibility for how your dividends are re-invested.

Sorry - probably confused the crap out of everybody.

But going back to the very start.

The WHFchart depicting long term outperformance still doesn’t pass my sniff test – nothing in WHF’s response helps me form a different opinion. If anything, the response makes me more apprehensive. It seemed to me a fob off. I've tried to back my arguement with detail, but I know that adds complexity - I'll leave it there, so that this thread can resume its normal programming.


If you save, regularly and sufficiently and diversify, a few small allocations to active managers in the portfolio because you take them at face value when they guild the lily won’t do too much harm, at least not as much harm as not saving or not investing at all.​

 

Great post Nodrog. Thanks for time you have put in to share this (presuming you analysed it for pure fun )
Two questions:
1. If you take IRR as the more meaningful metric for the investor, how do we benchmark the IRR rate against say the ASX accum. index etc? I presume we’d have to build out the IRR for that over same time period etc.
2. In your experience how does this WHF methodology compare to the Argo’s, AUI’s, MLT’s and AFI’s of the world? All of whom I presumed had little burning need to gild the Lilly compared to smaller newer players...
Thanks and appreciate that there’s always a good read on here!!
Edit: realised WHF state theirs is “technically correct” and noted your comments that their method seems to be the industry standard...

 

No updates on the thread for last couple of days, everyone has gone silent.
At the same note, none of the LICs that I am watching are currently below NTA, really wants the markets to go down a bit to topup

 

Bell potter indicative NTA reports are back and latest IIR report:

https://cuffelinks.com.au/wp-content/uploads/Indicative-NTA-20180629.pdf

https://cuffelinks.com.au/wp-content/uploads/Monthly-LIC-Report_June-2018-1.pdf

 

I think you’ll find most of the classic LICs are currently below NTA. Looks good enough to me.

https://cuffelinks.com.au/wp-content/uploads/Indicative-NTA-20180629.pdf

 

Yes and dates moved into Q3 so I was checking if everyone had moved somewhere else and I was left behind here!!

 

Still here watching and holding BKI

 

The classic larger LIC behaviour, ie lower volatility. Can tend to underperform in strong markets but hold up better in times of gloom.
Of course those just interested in the income are probably oblivious to such things.

 

More importantly I still can’t believe we’ve been able to buy 24 x 440 ml cans of imported Guinness for $55. Great way to spend your BKI dividend.

 

That's a bargain basement price. It's never as good out of the can but it's Guinness.

Based on your holdings of BKI, you'll be drinking Guiness for a very long time.

 

I meant to add it’s from Dan Murphy’s. Although I think it may have just gone up to around $58. Still a bargain given the cans are 440 ml.

BKI is a relatively small holding so yes dividend ok for Guinness. Larger holdings dividends are needed for expensive craft beers.

 

A good example of the need to 'shop around', same product at Coles (Liquorland) and Woolworth's (BWS) is around $71

BKI NTA and Monthly Report shows the FY2018 Interim Dividend to be 3.625cps.

This will certainly help this poor old Irish immigrant buy a couple of Pints.

 

actually just checked the Dan Murphy catalogue. 24 cans of Guinness for $54.90 till Sunday.

 

PM Capital sets out to fix LIC market

 

In my limited understanding of things, this just seems like another angle to get people to part with their hard-earned for a 'maybe' capital guaranteed product,providing all goes to plan.Reckon I'll pass.

 

This is why I love this forum, I went out and bought a case yesterday

 

More info:

More choice, more flexibility, more control over your global LIC investments | PMCapital

 

Recently i've been thinking i should spread some into internationals, mainly because the dollar is getting weaker. But i'm struggling to find a LIC worth looking at that has interests overseas also.
I know DUI has a small portion internationally, but there in ETF. I know ETF's are incredibly popular, but i don't own any and the reason being is because i've struggled to understand the positives to it when it's constantly buy and sell within the fund. I like the idea of buying and holding onto it, especially when it's been purchased cheap. I don't see this as a practice for ETFs.
I'm not trying to start a debate between the two.. i'm very new to this. I'm just wondering if there are any other LICs worth looking at that put some attention overseas and have reasonable fees?

 

The 'weaker dollar... diversify globally' line is bandied about like a truth, but what if the economists (dart throwing monkeys) are wrong and the AUD rises and ASX plays a game of catch-up to the US or even outperforms for the next few years?

My contrarian opinion is that currency risk is under-appreciated in global portfolios and that the ASX offers surprisingly good diversification as it is, not to mention smooth sweet dividends.
E.g. You will find correlation with China and emerging markets right here in smaller Aussie resource stocks. US exposure is also well represented in some of the bigger Aussie stocks.

Europe and Japan exposure is a bit harder to come by on the ASX so you could look at one or two global LICs like PIA (solid), PMC (always expensive), EGI, FGG or WGF (at a discount). Or if you want lower fees, there's nothing wrong with having a few ETFs as long as they are not flavour-of-the-month smart beta types.

 

That assumes the dollar is going to keep getting weaker. Who knows that?

Makes more sense to me to buy when the dollar is stronger rather than weaker.

In any case I wouldn’t buy international for currency reasons, I’d buy for diversification reasons.