Our strong performance over 2021, in what was a very turbulent year, has further endorsed our approach of investing in quality companies. AFIC CEO Mark Freeman reflects upon the past year and discusses what may lie ahead.
2021 in retrospect
The performance of investment markets in 2021 has been stronger than most people probably expected, despite the continuing impact of the COVID pandemic. In January, the benchmark S&P/ASX200 Index was close to 6,600 points and in December it is around 7,400 points. We’re pleased in this environment that our performance has been ahead of the market.
We don’t try to predict or second guess markets. We seek to identify and select quality companies. The benefits of our bias towards sticking with quality companies shone recently with many of the companies we invest in providing positive updates at their respective annual general meetings. These include companies such as Mainfreight, James Hardie, Reece, Sonic Healthcare and ResMed. These positive updates from the companies within our portfolio are testament to our approach of investing in a diversity of quality businesses for the long term and importantly, which also have opportunities to grow.
During 2021, AFIC outperformed the benchmark index and we sustained our annual dividend despite earnings coming under considerable pressure from COVID-related dividend cuts. We have also maintained our very low management costs and renewed the skillset of our board through the appointment of new directors.
There are a number of challenges ahead for the global economy, cutting across many industries. Companies that we invest in have already called out issues that are likely to continue into 2022.
The challenge to supply chains globally is disrupting many industries and creating enormous cost pressures and producing long lead times for acquiring inputs for products. In some sectors we are also starting to see inflation in wages and in the costs of goods. There is also the persistence of variations of the COVID virus which is creating ongoing uncertainty and left market observers trying to work out if these issues are temporary or permanent.
However, our style of investing is based upon a realisation that things don’t always move in a straight line and so we are not distracted by these challenges. Even though markets like to recast things in straight lines, business doesn’t work like that. There will always be issues with the economy and periods where things work out better than we expected. As a long-term investor, we accept that.
Therefore, when we consider our investments, we ask: Does this company still have a strong market position? Is it still being run well by a good management team? Are there still opportunities for the company to grow? We focus on the attributes of a company rather than its short-term prospects and we keep testing those attributes. If there’s nothing to warrant changing our investment thesis about a company, we will hold onto it and even add to the position over time.
In particular, because we take a longer-term view, we can be opportunistic with movement in markets. We haven’t made significant changes to the portfolio despite some big market swings in 2021 and this is likely to continue in 2022. As the market evolves, we make sure that we buy the stocks that we want to own more of. If markets are going down, we approach it as an opportunity to buy.
We usually have a pecking order of quality stocks that we want to own more of, but sometimes those quality stocks are more difficult to obtain at an attractive price. For example, we believe that one of the stocks that we invest in, Reece, has great opportunities to grow in the US, but has been highly priced for years. Similarly, with Carsales.com, a very good company that is paving the way in terms of what an online company can do globally. The approach is the same across our portfolio when considering increasing our holdings. So, we’re being patient. That’s okay for us.
ESG considerations are integral to our investment process
Environmental, social and governance (ESG) considerations gained more prominence in 2021 and are likely to continue to be of growing importance to investors in 2022.
ESG is already embedded in AFIC’s investment process – it’s not a new or a separate approach for us, it is an integral consideration in every investment we make because it goes to the heart of the sustainability of a business.
We consider ESG matters to be an essential component of our analysis of whether a company has a sustainable business model. We are aware that ESG issues change over time, and the issues that will impact business over the next 20 years will be different to those of 20 years ago. Our responsibility is to continue to identify and understand those issues and how they affect the sustainability of the business model of the companies we invest in.
We understand the importance of communicating more about how we consider ESG in our portfolio and we will seek to communicate more to our shareholders and the market in the future.
In 2022 we will continue to do what we have done for close to 100 years. We will invest in a diverse portfolio of high-quality companies that we believe will deliver the best returns for our shareholders over the long term. We will continue to seek an appropriate balance of companies that can deliver growth and those stalwart companies that are more about income to satisfy these investment objectives.
At face value the investment market does appear to be fully priced. Consequently, we go into 2022 with a degree of caution. Nonetheless, equities are still an attractive asset despite the high valuations across many companies. The market continues to improve, notwithstanding concerns over rising inflation, reflecting the fact that interest rates remain low. Despite the likelihood of short-term disruptions, we remain optimistic that Australian equities can deliver good returns over the coming year, albeit not to the same very high level achieved more recently.