Our two committees met this week, so now is a good time to reflect upon what goes on when you are trying to establish an investment strategy.
Senior investment managers and analysts of this firm gather together to discuss the news that has emerged during the past few weeks, to look at the opinions of other respected investment houses and to try to give guidance to those charged with managing investments on behalf of private investors.
Ours is a long term approach. The cost of dealing and the tax implications of selling for many in this country will mean that we try not to change our mind too often or to vary our stance unless we are sure that a significant move is likely to take place. In this we are different to institutional investors, where costs are significantly lower and capital taxation is usually less of a problem. Just at present we are trying to determine how best to deliver a more defensive stance to portfolios.
Now, defensive is one of those words that will mean different things to different people. You could argue that the most defensive position you can take is to move your portfolio into cash. But most investment professionals will interpret a defensive posture as concentrating on those shares that are expected to hold up reasonably well against any market shake-out.
In other words, if you consider share prices too high, but do not wish to be out of the market in case you are wrong and shares continue to move ahead, invest defensively.
And this is the paradox. Quite often a defensive portfolio will under- perform in a bull market. More over, it is unrealistic to expect a portfolio constructed with a possible bare run in mind not to go down if the bottom falls out of the market. The hope is that it will not fall in value that much. But remember: this type of relative performance simply means that you lose less money than if you invested aggressively.
So, how do you invest defensively these days? Yield counts. A good dividend income gives something of a parachute to a share, providing the yield is not a reflection of a likely dividend cut, of course. Utilities fall into this category. So do some out-of-favour sectors, such as diversified industrials. But there is no guarantee that these sectors will prove as defensive as once they were. So much depends on why a market turns down.
Traditional domestic earners, like supermarket groups, have also been considered defensive investors in the past. The profits of companies like this look less vulnerable to an economic downturn. However, again, traditional wisdom may not necessary hold good for the future.
But one area that could prove to be defensive in the next bare market are the smaller to the mid-cap stocks. Already the FTSE mid-250 is starting to out-perform the top 100 share index. Professional investors seeking value has been sited as the reason for this and it is true that smaller companies now tend to offer the higher yields and low earning multiples that are no longer obtainable in the UK's 100 largest companies.
Moreover, there could be one interesting side effect of the next bare market. Just as indexed portfolios have helped drive the share prices of Britain's leading companies higher, so a market fall could be exacerbated by investors withdrawing their money from the same tracker funds. Concentrating on the shares outside the FTSE-100 might be the best defensive ploy you could make at present.
Brian Tora is chairman of the Greig Middleton investment strategy committee.