On a regular basis, articles are written regarding Sector Allocation. In a nutshell, this refers to the allocation of a portfolio across various business lines (industry sectors). There are several methodologies in use, but most use a risk tolerance/individual preference/age matrix to identify an investing strategy tailored to ones’ circumstance.
Last week I shared my International Allocation to close 2017, this week my focus will be how I allocated the portfolio between sectors. This is a composite view as I don’t currently differentiate between US and international companies. Also, my approach to investing likely differs from most in that I attempt to identify trends or situations that may prove to be profitable. Then I’ll run with the idea until the broader market adjusts its’ pricing. An example of this is Financials which represented 16.6% of my portfolio in 2015 on the assumption that it was ripe for consolidation. I added further in 2016 on the premise of rising interest rates. The market caught up with – and exceeded – my expectations with the election and hope for 2017 regulatory reform. I’m not much of a buyer now in this sector as frankly there remains little upside potential and I consider myself overweight. I continue to hold with the expectation of rising dividends through the stress tests, CCAR cycle and further interest rate increases.
The downside of investing based on a thesis is – unless diligent – the portfolio can quickly get out of balance. The upside is that if correct, you tend to beat the market. One could say it’s timing based on external events. So let’s first check my themes:
THESIS DRIVEN INVESTING
|THEORY||DATE||TTL RETURN||S&P RETURN|
|Small Banks||15 May 2014||76.1%||56.0%|
|Transaction Processor||29 May 2014||39.4% *||54.4%|
|Smaller banks||2 Sep 2014||60.6%||47.1%|
|Consumer focus||6 Jan 2015||72.2%||44.0%|
|USD weakness||25 Mar 2015||24.3% *||38.9%|
|Underlying Primerica assets||24 Dec 2015||22.2% *||38.4%|
|Coke bottlers||31 Oct 2016||19.7%||32.0%|
|Blockchain/China controls||14 Dec 2017||5.2%||3.0%|
|* indicates mergers or spins which distort reported returns. Of these, only Primerica lagged the S&P. The other laggard I suspect will be a beneficiary of the tax plan.
The ‘meat and potatoes’ of the portfolio resides in the ‘Anchor’ holdings which are targeted at 18% in total. These three issues have lagged the target for a couple of years (and are currently about 13.5%) hence my renewed effort to increase my KMB, CLX and WEC holdings this year.
Two other components factor into my 2018 thought process – free trades. In prior years, I performed a handful of trades in my brokerage account sometimes in 10 share increments, but more often in 25 or 100 share lots. This was done to reduce the percentage paid in fees to a nominal amount. My broker has placed 20 free trades in my account while Motif has implemented a no-fee option which I tested on Friday morning. While these no-fee trades exist I will probably execute more – but smaller – transactions, essentially filling in some gaps in my smaller holdings. This may also result in the sector allocation for 2018 seeing minimal improvement.
With the caveats out of the way, let’s take a look at my end of year sector allocations:
2017 EOY SECTOR ALLOCATIONS
|SECTOR||YE 2017||YE 2016
|Discretionary||24.36%||25.43%||will be reduced to 11.47% with 2018 sector changes|
|Financial||32.18%||29.29%||some of the increase could be considered Technology|
|Telecommunications||1.36%||1.55%||will be increased to 14.25% with 2018 sector changes (Communications Services)|
|Sector changes on schedule for September 2018
Basically little change from last year – a little heavier in financials. I’m hoping my purchase strategy reduces this to some degree, but I’m willing to wait a little further into the rate hike cycle before getting overly concerned. But it’s a little like herding cats – you get most of them heading one direction and invariably a couple dart another direction.
As I’m finished with my analyses for 2017, next week regular programming returns.