Is there something wrong with an algorithm that consistently fails to beat its benchmark, asks Richard Beddard.
It’s the Nifty Thrifty portfolio’s eighth anniversary and I’m afraid the news this time is no better than the news last June. The portfolio has edged up in value by 3 per cent over the intervening year, to just over £56,500, but the benchmark FTSE 350 index-tracking fund has increased in value by 6 per cent to just under £60,000. It looks as though the index-tracking fund, an almost effortless investment that required just one decision in June 2010, will be the first to double its original £30,000 stake.
The objective isn’t merely to match the index tracker, however. Managing the Nifty Thrifty takes some effort. To make it worthwhile, I expect it to beat the index handsomely over the long term, taking dividends, broker fees and taxes into account.
The Nifty Thrifty uses an algorithm to select shares. It takes the shares in the FTSE 350 index, excluding financial companies like banks and insurance firms, and ranks the strongest, those with an F_Score of five or more out of nine, in terms of profitability (return on capital or ROC) and value (earnings yield or EY).
|THIS YEAR'S REJECTIONS|
|Portfolio||Cost (£)||Value (£)||Return (%)|
|Since 9 September 2009||30,000||56,510||88%|
|Company||Shares||Cost (£)||Value (£)||)Return (%)|
|Galliford Try *||GFRD||162||1942.06||1585.98||-18|
|Morgan Advanced Materials||MGAM||658||1950.27||2287.87||17|
|Pets at Home||PETS||1181||1960.25||1510.5||-23|
|WH Smith *||SMWH||109||1939.19||2138.04||10|
|Taylor Wimpey *||TW.||1056||1951.12||2014.58||3|
|Wizz Air Holding *||WIZZ||62||1110.45||2148.3||93|
|William Hill *||WMH||308||1116.94||997.92||-11|
Notes: * = Removed from the Nifty Thrifty. Transaction costs include £10 broker fee, and 0.5% stamp duty where appropriate. Cash earns no interest. Dividends and sale proceeds are credited to the cash balance. £30,000 invested on 1 June 2010 would be worth £56,510 today. £30,000 invested in FTSE 350 index tracker accumulation units would be worth £59,553 today. Objective: To beat the index tracker handsomely over five-year periods. Source: SharePad, 1 June 2018
The portfolio table (above) shows the performance of the 30 shares in the portfolio immediately before I ran the algorithm on 1 June. I’ve liquidated the shares highlighted in red and replaced them with the highest-ranked shares, unless those shares were already in the portfolio. The new shares are highlighted in green in the candidates table (page 39), in which the portfolio’s constituents are presented in rank order.
The candidates table shows the shares in the new Nifty Thrifty portfolio – the portfolio that will either make good the poor performance of the past eight years or force me to write another maudlin article next year. The shares not highlighted in green were the re-selections. Some, such as retailer and motor repair shop Halfords, have been re-selected many times.
The performance table shows the share price performance of each share for the full period it has been a member of the portfolio. Over the last year there have, as usual, been winners and losers. The Nifty Thrifty has continued selecting shares that make the headlines, often for the wrong reason.
The year’s biggest loser was Carillion, the giant outsourcer, which is being liquidated. In the table, Carillion is valued at its share price on the day it went bust, which is why it shows a 96 per cent loss. The shares are worthless though, so when I removed them from the portfolio I wrote their value down to zero – a 100 per cent loss.
Shares in the AA lost about 50 per cent of their value during the year, although earlier in the year they were down about 70 per cent. The debt-encumbered seller of motor and breakdown insurance hit the headlines when its chief executive resigned, allegedly after a punch-up during a strategy meeting. Advertising agency WPP fell 30 per cent as advertisers switched their business to the internet. The board has booted out founder and chief executive Sir Martin Sorrell, alleging personal misconduct.
Against those losers, budget airline Wizz Air reported record profits in May and increased its share price by about 50 per cent. Retailer Next, and housebuilder Berkeley each added about 30 per cent to their share prices.
For the next year, The Nifty Thrifty portfolio is sticking with housebuilders. There are seven of them in the new portfolio. Judging by the Nifty Thrifty’s record, though, that may be a good reason to avoid them.
Nobody likes failing, which is why you don’t often read about it. I vowed to run the algorithm for 10 years. It’s a long time to plug away at something that has not created value, but maybe there’s a lesson in it. Mechanical investing is supposed to shield the investor from emotion, and maybe that’s true in the short term. As years of poor performance go by, though, it becomes harder and harder not to conclude there’s something wrong with the algorithm, or its implementation.
|THE NEW NIFTY THRIFTY LINE-UP|
|Rank||Candidate||Cap (£m)||EY (%)||ROC (%)||F_Score|
|1||British American Tobacco #||BATS||88,741||21.9||318.8||5|
|3||Euromoney Institutional Investor #||ERM||1,391||10.5||541.9||6|
|4||Dairy Crest #||DCG||769||18.2||44.3||5|
|8||Rentokil Initial #||RTO||6,315||10.2||72.4||5|
|10||Pets at Home||PETS||628||11||55.9||7|
|13||Morgan Advanced Materials||MGAM||976||13.2||35.3||8|
|15||Dixons Carphone #||DC.||2,142||15.2||29.8||5|
|17||Jardine Lloyd Thompson #||JLT||2,681||8.94||74||8|
|18||Crest Nicholson Holdings||CRST||1,131||19.3||23.2||5|
|26||JD Sports Fashion #||JD.||3,705||8.55||54.4||5|
|30||Barratt Developments #||BDEV||5,524||15.5||20.1||7|
# = New additions. These are the 30 shares ranked highest by a combined measure of earnings yield (EY) and return on capital (ROC). Only companies in the FTSE 350 are included. Source: Stockopedia, 1 June 2018