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VALUE INVESTING
By
This is the latest regular two-monthly review of my high yield portfolios, of which the first, HYP1, is now over three years old. The newcomer, HYP2, is eleven months old. I stress that the primary aim is growth of income not capital, although many people use the concept as a growth vehicle by reinvesting dividends which in my view is an excellent idea. Note that these are merely demonstration portfolios to illustrate a high yield approach with no dabbling. They are not a recommended set of shares, nor would I necessarily choose the same portfolios today. The strategy is intended for the very long term, eternity as a minimum, and it follows that short-term fluctuations are of little importance. It is worthwhile emphasising the highly attractive tax situation of dividend income compared with other types such as interest, rents or pension annuities. Dividends are tax free to a basic or lower rate taxpayer and liable to tax at only 25% on a higher rate payer. The portfolios should be considered in total, as regards capital and income, as if they were funds, with the distinct advantage of no charges. Investors in HYPs should not pay much attention to individual share movements which can be dramatic. Here are the latest figures. Cost includes all purchase expenses. HYP1 The estimated value including reinvested income would be about £85,172, an increase of 13.6% on the original investment in three years four months. This is roughly in line with cash. The portfolio value is unchanged from the initial £75,000 investment but remains substantially ahead of the market, which is down some 29%. Comparison with trackers on a reinvested income basis would show it to be even more ahead because of its 4.2% yield on cost in the latest complete year, that yield being well over the market yield. The familiar pattern of large individual movements continues with the unchanged losers Royal and Britannic down 77% and 66% respectively. The top gainer is still Gallaher, up 60%. A piece of welcome news on Britannic is that it has announced resumed dividends, having ceased payment for a year. Although we have had several dividends cut in the portfolio, I believe that Britannic was the only share that axed them completely for a time. HYP2 The estimated value including reinvested income would be about £100,340, an increase of 33.8% on the original investment in about eleven months. This is way ahead of cash The portfolio remains well ahead of the market in its short life to date, up about 28% against a rise of 18% for the latter. Comparison with trackers on a reinvested income basis would show it to be even more ahead because of its anticipated 6% yield on cost, that yield being very substantially over the market yield. Even after only eleven months, the typical diversified portfolio phenomenon of large individual share fluctuations has already asserted itself powerfully ranging from Dixons up 75% to loser United Utilities down 6%. General Comment Cash is an important target to beat over the long term for which these portfolios are designed. I would not be too pleased if they beat the market yet failed to beat cash. Equities, to justify investment in them, should deliver a handsome premium over cash through long periods in return for the risks. Calculating on the reinvested income basis, HYP2 has so far done the business handsomely in this respect whilst HYP1 is about equal to cash. If you look at the portfolios on an income withdrawn basis, as if a person was having to live on that income, then HYP2 is delivering a far higher income, at 6% estimated, than any deposit account. HYP1 paid out 4.2% last year which at the moment is about the same as the very highest deposit accounts. However because interest rates were lower before that and its dividends were a little higher, it was beating cash income for its first couple of years. But that's gross. Once you take tax into account the picture is even more attractive because of the very advantageous situation of dividends compared with interest where basic rate payers derive the dividends tax free and higher rate payers are liable for 25%, compared with tax on interest of 20% and 40% respectively. It will be very interesting to compare the progress of HYPs 1 and 2 because they were launched respectively at what seems to be, with hindsight, around a market top and bottom respectively. Many people have asked about timing HYPs but I have always claimed that the right time is now. Now yesterday, now now and now tomorrow. In other words when you have the cash available and you are convinced this is the strategy for you, you should go in at that point. Its not for waverers though, you must be prepared to hold for the very long run and be immune to short term comment and events. I believe this strategy will leave trackers behind. The early evidence, though too soon to draw any long-term conclusions, is doing just that. The reinvested income basis will be even more likely to beat trackers because of the much higher income of the HYPs and the complete absence of any charges. The longer time goes on, the more pronounced will be this higher income effect as it compounds. Given the lack of investor involvement required, indeed advised, and the similar long-term timescales, this makes HYPs eminently suitable alternatives for those considering tracker funds in my opinion. In my new value newsletter, I feature a long-term hold high yield selection each month to show readers how to construct an HYP by purchasing suitable shares at regular intervals. The author holds Alliance & Leicester, Lloyds TSB, Mitchells & Butlers, Scottish & Newcastle, United Utilities shares.HYP1 start date 13 November 2000
£ orig. no. price val move
invest price shs. now now %
Un. Util. (LSE: UU.) 1 5000 620 807 520 4196 -16.1
Gallaher (LSE: GLH) 5000 416 1190 670 7973 +59.5
Scot. & New. (LSE: SCTN) 5000 490 1010 422 4262 -14.8
Royal & Sun (LSE: RSA) 2 5000 393 1271 91 1156 –76.9
All. & Leic. (LSE: AL.) 5000 645 768 868 6666 +33.3
Britannic (LSE: BRT) 5000 1020 485 352 1707 –65.9
Lloyds TSB (LSE: LLOY) 5000 705 702 435 3004 -39.9
InterCon. Hotel (LSE: IHG) 3 2500 380 658 507 3054 +22.2
Mitchells & But(LSE: MAB) 3 2500 356 691 244 1686 -32.6
Boots (LSE: BOOT) 5000 575 861 721 6208 +24.2
Land Sec. (LSE: LAND) 4 5000 771 651 1051 6842 +36.8
Ass. Br. Ports (LSE: ABP) 5000 321 1542 474 7309 +46.2
Hilton (LSE: HG.)5 5000 232 2275 217 4937 -1.3
Rio Tinto (LSE: RIO) 5000 1120 442 1334 5896 +17.9
Anglo American (LSE: AAL) 5000 942 526 1322 6954 +39.1
Shell (LSE: SHEL) 5000 572 865 370 3200 -36.0
Totals 75000 75050 +0.0
FTSE100 6274.8 4445.2 -29.2
Income Yield on capital invested %
Year ended 13/11/01 £3,451 4.6
13/11/02 £3,474 4.6
13/11/03 £3,197 4.3
Notes
1 United Utilities cost per share and total holding amended following rights issue.
2 Royal & Sun cost per share and total holding amended following rights issue.
3 InterContinental Hotels and Mitchells & Butlers were acquired as a result of the
division of the former Six Continents holding into these two new shares.
4 Land Securities reorganised in September 2002 resulting in a cash payment which
was used to purchase additional shares in the company.
5 Hilton replaced Blue Circle which was taken over for cash at a profit over the
£5,000 cost, the whole of the proceeds being reinvested. This is why the total
original cost of Hilton derived from the above table is more than £5,000. The
start investment of £5,000 has though been retained here so as to maintain the
original cost of the portfolio at its true figure of £75,000.
HYP2 start date 02 April 2003
£ orig. no. price val move
invest price shs. now now %
Lloyds TSB (LSE: LLOY) 5000 338 1479 433 6404 +28.1
Scot. & New. (LSE: SCTN) 5000 348 1436 422 6060 +21.2
Dixons (LSE: DXNS) 5000 87 5762 152 8758 +75.2
Un. Util. (LSE: UU.) 1 5000 546 915 520 4758 -4.8
Hays (LSE: HAS) 5000 78 6435 125 8043 +60.9
Legal & Gen. (LSE: LGEN) 5000 75 6696 97 6495 +29.9
BA Tobacco (LSE: BATS) 5000 580 862 811 6991 +39.8
Brad. & Bing. (LSE: BB.) 5000 297 1685 306 5156 +3.1
Hanson (LSE: HNS) 5000 320 1563 411 6424 +28.5
Land Sec. (LSE: LAND) 5000 736 680 1051 7147 +42.9
The BOC Group (LSE: BOC) 5000 795 628 891 5595 +11.9
BAA (LSE: BAA) 5000 465 1075 521 5600 +12.0
Shell (LSE: SHEL) 5000 394 1271 370 4703 -5.9
AMVESCAP (LSE: AVZ) 5000 311 1609 419 6741 +34.8
Anglo American (LSE: AAL) 5000 970 516 1322 6822 +36.4
Totals 75000 95697 +27.6
FTSE100 3753.4 4445.2 +18.4
Notes
1 United Utilities cost per share and total holding amended following rights issue.