Global markets remain choppy amid continuing inflationary pressures and rising interest rates. In such a volatile environment AFIC ‘s portfolio continues to show the benefit of having a high proportion of quality companies. Our store of franking credits and reserves which can be a feature of an LIC also helped us lift the recent interim dividend.
At the AFIC shareholder meetings in March, discussion ranged from the uncertain economic environment and franking credits to the strength of Australia’s banking sector.
We provide a brief overview of our responses to the common themes from shareholder’s questions.
Navigating inflationary pressures on the market
We believe inflation will remain a factor in the short term and will drive the behaviour of central banks globally, which have been raising interest rates in a bid to slow the increase in prices. In this environment, we expect markets to remain cautious.
The main market indices have not fallen significantly but have been volatile and with strong divergence in sector performance, reflecting a lack of investor confidence.
Whilst dividends from the companies we invest in have improved, the outlook remains uncertain. Importantly for shareholders looking for some improvement in income in a higher inflationary environment our store of franking credits helped us to increase our interim dividend, and we are very comfortable with our level of reserves and franking credits. This means when, for example, earnings and dividends from resources stocks fall as commodity prices ease, we are better able to sustain our own rate of dividends.
Australia’s major banks are safe
The recent collapse of two smaller banks in the US has unsettled equity markets and has led to people asking if the same thing could happen to Australia’s banks. The banks that collapsed in the US – the Silicon Valley Bank and the Signature Bank – had a high dependence on technology companies as customers and depositors, and did not appropriately match their assets and liability maturities properly.
This is not an issue for Australia’s banks and we don’t believe it signals the start of systemic risk for the financial system. Our banking sector is very well capitalised, is profitable, has been well regulated for a long time, and has a diverse customer base.
While the banking sector isn’t a concern for the Australian market, the home building and construction sector where several companies have become bankrupt in recent times is a concern. These collapses have been a result of the combination of companies having fixed-price contracts which didn’t allow for inflation and labour shortages which delayed project timelines.
The major Australian banks are an important source of income for AFIC shareholders, so we retain a meaningful holding in them, albeit an underweight index position.
Our investment approach remains on quality and the long-term
Our focus remains on investing in high-quality stocks that provide shareholders with attractive returns over the long term. We want to see a growing stream of fully franked dividends over time, and capital growth.
We are observational investors. We don’t try to predict the future, but we invest in high quality companies that can navigate challenging periods.
How do we do that? We try to find businesses that have characteristics that our experience tells us are likely to lead to a good long-term investment. These include good management with a strong track record, financial strength to ride the ups and downs of markets, a sustainable business model, unique assets or market leadership in their field, annuity-type income streams, and a plan for earnings growth.
Plumbing supplier Reece, logistics provider Mainfreight, biotech CSL, hardware retailer Wesfarmers through Bunnings, Auckland Airport, and online property settlement company PEXA are among the high-quality companies in the diverse AFIC portfolio. We also added Breville to our investments more recently and increased our holdings in Santos, Xero, ARB, BHP, Seek, Woolworths, Goodman, Equity Trustees, Wisetech Global, and Coles.
We remain confident about the quality of our largest holdings.
We look to buy stock in high-quality companies when we see value, and those opportunities often arise in uncertain times when share prices are under pressure.
This is the approach of investors prepared to take a long-term view of a company’s earnings prospects, such as AFIC.