A former Fool returns and kicks off with a review of his high yield portfolio strategy.
Where was I before I was so rudely interrupted?
Ah yes I remember, something about value investing and high yield portfolios (HYP).
For commercial reasons, in my disinterment here I won't be able to say too much about the HYP in future and will be concentrating more on value investing and other matters but I am going to make a few opening comments.
I've had a quick look back through the HYP board, which for some reason has bifurcated since I was last around into Practical and Strategies, and as I expected there has been a lot of criticism and condemnation due to the effects of the bear market on HYPs. My response to such comment is that bear markets and cut dividends are absolute certainties on occasion during any long-term hold strategy. If you lack the perseverance to ride this out, don't do it.
The real question about HYPs and bear markets is not that they happen but whether the long-term income growth aim of the strategy will deliver despite the periods of setback. Nothing that has happened in the current market or similar situations in the past convinces me that it won't. Despite what some have said, this time it's not different.
I'll review now some of my fundamental HYP construction rules and see how they stack up under the extremely testing conditions we've experienced recently.
The Time To Buy Is Now
This controversial rule exists for two reasons. One I believe it to be true and two, it infuriates some critics which can't be bad. I know I'm doing something right if certain people think I'm doing something wrong. I set this rule for investors who have no ability to take a view on the market. That's most. They do however have to realise they lack such ability which can be difficult for many to admit.
The financial press, fund managers, bulletin boards and so on are just full of people ready to give you a market view. Ask a number of these people where it is headed. Most will suggest a direction but very few will say they have no idea though I'm one of the latter. Once you know you don't know then it makes no difference when to buy. Consequently it is now.
If you invested in an HYP over the last year or two then went immediately by the bear market you may be feeling you bought at the wrong time, resulting in paper losses and several cut dividends. You may even go so far as to identify some ostensibly prescient person who forecast the downturn and wish you listened to them. You'll probably look only for comment that satisfies what you wish to prove -- and you'll it find it too because of the vast volume of pointless chatter out there covering every possible eventuality. But the fact is that as a HYPer you had to face your first and inevitable bear market at some stage, it just happened to be now.
If you really do possess the skill to make successful market calls repeatedly, and it isn't skill if you can't do it repeatedly, then congratulations. In which case you won't be reading this or messing around with a laid back income strategy like the HYP, you'll already be rich from this talent by trading derivatives. But since you just read this paragraph, I take it you haven't made money from this very rare ability and I conclude that you really don't possess the timing sense that you think you do.
Strategic Ignorance
A much misunderstood concept of mine but like the above, I find support in its annoying certain people. It simply means deliberately taking no long-term view of a particular share's prospects or of the sector or general economy but instead rejoicing in the liberation that such ignorance brings to share selection by becoming part of the strategy. It certainly does not mean as some think, or as some critics have mischievously chosen to misinterpret, ignoring the current state of a company's fundamentals and buying any old shares.
Diversification
This is crucial to HYP structure. However tempting it may be, do not go overweight in a sector. Over the last year we've all seen what's happened to those who had too much in banks for example. Regrettably this is one area where I don't expect people to object much. I do so hate it when everyone agrees with me. It grates with my innate contrarianism.
Big Caps
I think it is advisable to stick with large companies for HYPs. That means FTSE 100, maybe with the odd one or two from the 250. I know that some small caps have been good performers and equally some big caps have been disasters. But on balance a big cap is far more likely to recover both income and capital from a major setback than a small company and this is the reason for my advice. It's about long'term security of the shares in your portfolio. Some setbacks are certain to happen but when they do you want your shares to have the best chance of survival. The largest businesses are more likely to do so in my view.
High Yield
It may seem obvious but this is the name of the game. The idea is for HYP shares to have a higher yield than the FTSE100 at the time of selection in most cases. However this does not mean that a small number of average or even lower yielders cannot be picked where it is advisable to do so, usually for the sake of essential diversification. Provided the portfolio yield is in total high, then it is an HYP.
No Promises
Finally and again it's obvious, there can be no guarantee that the HYP or any other risk strategy will deliver in the end what is expected of it, in this case a growing income long term with the chance of capital growth too. Some people become over enthusiastic in bull markets and over pessimistic in bear periods when the chances of success suddenly appear much less likely, particularly to relative newcomers. But if you can't take the long view, you shouldn't really be in the HYP at all.
And that's it for my renaissance Fool article. If there's anyone who agrees with it all, I do apologise.
> David Kuo and Stephen Bland discussed the HYP strategy in this podcast, waaaaay back in 2006.
