Let’s assume a scenario where Thanos uses his infinity stones to destroy all the universe but two companies remain.
These are companies that remain in sgx listed where one company possess the best growth character in terms of large cap and another company that has the best defensive character.
The two remaining companies in the universe are DBS
Why Choose DBS?
The reason why we choose DBS is because they’re a beast. In short, they’re our proxy for growth.
DBS is a player that shines in the face of strong economic growth.
In the face of strong economy, they prosper based on increasing SIBOR rates, NIM and loan credit.
They have diverse businesses local and overseas in different multiple geographical areas which reported very strong growth numbers over the years.
Their earnings yield have consistently gone beyond 10% yield and their return on equity have averaged at about 10.5% for the last 10 years. They also gave out dividends of about 4-5% which is decent for such a strong growth play.
Their only problem is they are always expensively valued and will be impacted a lot more than other stocks during the downturn.
The GFC in 2008, Euro Crisis in 2011, China debt in 2014, Oil Crisis in 2015 all proved that as a case.
Why Choose Vicom?
The reason why we choose Vicom is because they are a defensive player.
Vicom has monopoly moats that owns 7 out of the 9 inspection center in Singapore.
They also have businesses in other areas that are contributing one-third of their bottomline which is undisclosed.
Vicom is chosen because cash is such a poor generator of returns that over time it will drag our returns unless they are being utilized optimally.
While Vicom has their own risk being an equity in nature, their 6% unlevered yield from their free cash flow makes up much of the rewards in return.
I’ll have to make this real simple so that a 9 year old kid or 70 year old grandmother can understand and execute the strategy.
For the purpose of diversification, let’s assume we have to hold these two companies regardless of any situation and we only play around in the percentage allocation between the two.
My example would have only binary decision: 80 – 20 or 20- 80.
There’s no other permutation that are allowed because my grandmother demands simple solution or she would be giddy.
The only key criteria that would require a rebalancing act is when the Price to Book value of DBS falls above or below -1SD their 10 years rolling mean within their P/BV band.
What this means is assuming the 10-year rolling mean in 1.29x, then you should you should allocate 80-20 in favor of DBS whenever the current P/BV is below -1SD the average mean and you should permutate switch to 20-80 in favor of Vicom whenever the current P/BV above 1.29x.
If we follow this rule, this means we will allocate ourselves 80-20 in favor of DBS in the cusp on the Great Financial Crisis in 2008 (Sep 2008), the Euro Crisis in 2011 (Nov 2011), the Oil Crisis in 2016 (May 2016) and everything else we would be holding on to the other scenario.
For example, today the current valuation for DBS is 1.40x, which means you should technically switch already to 80-20 in favor of Vicom.
Sure, this idea means you would never catch the bottom neither can you catch the top, but that’s where your defensive company play a big part that your cash cannot.
Of course there are limitations with this approach.
One limitation is that the figure for the last 10 years is always rolling, so that would be a moving target on its own. I guess it’s up to individual preference on the valuations to see which cut-off makes the best sense.
Another limitation is that in the face of economic downturn, Vicom as a defensive company would also be impacted given the equity nature of the company. However, the advantage over cash is it gives out a higher yield and also participates some levels of growth during the good times.
My test only includes the data from the 1 Jan 2008 to 30 Jun 2018.
The only time the rebalancing act takes place is during:
- GFC in 2008 (Sep 2008), Euro Crisis in 2011 (Nov 2011), Oil Crisis in 2016 (May 2016), where the allocation of 80-20 would be in favor of DBS; and
- Recovery from GFC in 2010 (Feb 2010), Increased Rates in 2017 (Nov 2017), where the allocation of 80-20 would be in favor of Vicom.
Everything else is a status quo hold during the period in between before the rebalancing.
The returns over the last 10 years (inclusive of dividends) spike to 29.67% per annum which beats the standard comparison of the STI ETF which yields around 6.7% returns over the same period.
I’m only half joking when I say earlier that Thanos destroys all but left with these 2 companies.
I am seriously looking into the aspect of this strategy but with further smaller minor modification to that. Obviously, holding two companies inside the portfolio lies the risk in having too little diversification in itself so I will probably be mixing it around with some Reits play in between to make up the numbers and also to spread the over-exposure on one sector a bit.
The two companies chosen have strong moats and are a proxy representatives to how the Singapore economy is doing.
While there may be some biasness in relying for past historical returns, I don’t believe this is simply a look on hindsight.
I think this strategy could work really well if they are being executed properly.
Thanks for reading.