AFIC Managing Director, Mark Freeman, discusses the LIC’s strong performance for the first half of the 2021/22 financial year and outlines what the outlook is for the future.
AFIC’s profit for the first half of the 2021/22 financial year (period ending 31 December 2021) was $146 million, up 73.5 per cent on the previous corresponding period. We also maintained the interim dividend for shareholders at 10 cents per share fully franked.
AFIC’s investment strategy is to own a diversified portfolio of quality companies that are well placed to deliver earnings growth over the medium to long term. The latest half-year results reflect the quality of companies in the portfolio during these uncertain times.
The results have continued AFIC’s outperformance of the S&P/ASX200 Accumulation Index. In the half-year period, the portfolio return was 6.9 per cent including franking, compared to the Index’s return of 4.6 per cent. For the 12 months ending 31 December 2021 our portfolio return including franking was 22.4 per cent, again above the benchmark index’s return of 18.7 per cent including franking. AFIC’s performance figures are after costs.
Our performance was driven by the strong rebound in markets over the period with continued low interest rates and a rebound in corporate earnings growth. The recovery in dividend income from many of the companies we invest in was strong.
However, operating costs for businesses are likely to remain elevated as a result of supply chain challenges, making it challenging to sustain this strong earnings growth.
We will watch the upcoming reporting season to see how the costs are impacting companies and how they could offset them. We are always trying to invest in companies that have strong market positions and have some ability to pass on cost increases with their pricing.
Investment income lifted to $159.4 million compared to $93.8 million a year earlier, with the biggest increases coming from the major banks, Macquarie Group, BHP and Rio Tinto on the back of strong iron ore prices.
Macquarie Group, Sydney Airport, Mainfreight, James Hardie Industries and Goodman Group contributed strongly to portfolio returns. Short-term volatility provided attractive opportunities to increase our holdings in Transurban, Coles Group, CSL, Goodman Group, Domino’s Pizza, and BHP. We believe the long-term prospects of these companies remain strong.
We initiated positions in JB Hi-Fi and WiseTech Global, we view both these companies as having market leadership positions.
Just as important as the companies in our portfolio, are those that we don’t own. We do not own Afterpay and Fortescue Metals Group and this contributed to our performance as both companies had a particularly tough six months in the market. We exited Qube Holdings, APA Group, Lifestyle Communities, Origin Energy and Altium, given the challenges these companies face in their respective industries which may affect each company’s long-term prospects.
We continue to keep costs low. Our management expense ratio was 0.15 per cent on an annualised basis, with no performance fees.
The key event occurring in markets right now is the discussion around interest rate rises from central banks globally. This expectation has forced markets to reassess the valuation of many companies.
Despite these challenges on the macro-front, we believe we’re invested in high quality companies, and most importantly, companies with strong balance sheets. Some of our larger holdings Transurban, CSL, and ResMed are expected to deliver meaningful earnings growth despite current economic challenges.
Short periods of market volatility often present good buying opportunities for investors focused on a company’s long-term prospects. So, even in this environment, we remain well positioned to purchase our preferred companies in the right circumstances.
In summary, we believe our portfolio is soundly positioned, despite the prospect of higher interest rates and greater global uncertainty, to provide our shareholders with attractive income and capital over the medium to long term.
Our approach to international investments
We have invested about $72 million in 41 international companies, representing 0.7 per cent of our portfolio. It’s a small part of the overall portfolio and the performance so far has been encouraging.
Our intention is to build a consistent track record from these international investments before considering the next step.
When we invest in international companies, we apply the same fundamental principle as with any of our investments. Interestingly, our portfolio of Australian and New Zealand companies already includes many companies with international operations, such as Fisher & Paykel Healthcare, Cochlear, CSL, Macquarie, James Hardie and ResMed.
Our approach to forming a separate LIC of international companies in the future would be governed by the same considerations that apply to AFIC: could we have a suitably diversified portfolio, could we run it at a low cost with no performance fees, would portfolio turnover be low, can it be tax-effective? We will only form a LIC comprising international investments in the future if it meets those criteria.