The market is in a weird place. With interest rates so low, it appears many investors are paying higher and higher prices to buy into companies that have a solid track record of earnings and/or are paying a decent dividend. This desperation to generate income from an investments appears to be having a distorting affect on the market. There are a number of great companies out there that are performing really well, but the way market participants are pricing them I believe is crazy. For one example, Dominos Pizza’s at $67 per share is trading at a multiple of 65 times 2016 forecast earnings. At a price like that it appears to me that management need to pull off miracles to live up to the hype.
But, just because I think many stocks are currently too expensive doesn’t mean they won’t keep going up. I’m always surprised how far momentum will go before it all comes down.
This current market dynamic has been making it hard for me to find many great businesses at fair to cheap prices to buy into. But, it has created a handful of ‘Asset Play’ situations where ordinary businesses have traded at deep discounts to what I believe they are worth.
I have bought into a handful of these Asset Play’s but I would much prefer to be buying into more great businesses which I can hold for a long time. Here’s why:
Investopedia says: “Asset play” is a stock market term that refers to a stock that is believed by investors to be undervalued because the current price does not reflect the current value of the corporation’s assets.
Essentially I invest in Asset Plays whenever I find a company that is trading at a large enough discount to their Net Cash or Net Tangible Assets (depending on the situation) to allow me to compensate my investment for any business risks that maybe involved in the company and also allows for a decent profit should it all pan out.
I currently have 4 Asset Play companies in my Portfolios, some with multiple investments in each. Two of these are plays on Oil & Gas companies and are yet to pan out whilst the oil price is still dancing around. The two other companies are non Oil & Gas related and since purchase six months ago one is up 50% for the first buy in and 100% for the second buy in, the other purchased only a month ago is currently now up 20%. This is good news, but also not an ideal situation.
Selling Asset Plays
As an Asset Play suggests, it is a play on a companies assets not a long-term investment in a great business. So once an Asset Play’s stock price reaches a point where there is no longer a discount in the share price to assets it’s time to for me to sell. They are not an investment I hold for a long-time. And when you sell an investment the Tax man comes a knockin.’
So these two Asset Plays mentioned above that have already began to rise quickly cause me two not so perfect situations:
- If they go up in price more than I believe the company is worth in under 12 months I will sell and miss out on the 50% capital gains tax (CGT) discount you receive if you hold an asset for over 12 months.
- If they go up in price more than I believe the company is worth in over 12 months I will sell and though I will recieve the 50% capital gains tax discount I will still need to pay tax on the gain before I reinvest the capital into another investment.
Note: Don’t get me wrong here, I’m not complaining about tax. I like paying tax. If you are paying tax you are making money. I’m purely explaining the investment situation I prefer to be in.
I Prefer Great Businesses for the Long Term
Over the long-term my aim is to compound my investments by over 15% per annum (or 20% at a stretch). To do this is simple enough in theory: Buy great businesses at a fair to cheap price that return over 15% per annum return on capital invested and ride them into the sun!
Aside from getting the investment analysis right in the first place, the hard part about great businesses is buying them at a fair to cheap price. As I opinioned at the start of this article I’m struggling to find many great businesses at a fair price and I have been deploying capital into Asset Plays.
For Asset Plays to achieve the same 15% plus return is a bit more complicated.
To achieve 15% you need to shoot a bit higher than you first expect, my rough calculation is you need to double your investment in 2-4 years to make it worth your while.
- After you buy in you double your money and sell = 100% return
- You need to pay discounted CGT (at the 37% tax bracket) = 81.5% return
- Over two years = 34.72% return = great return
- Over 4 years = 16.07% return = just sneaks in return
- Then you need to re-invest into more Asset Play ideas that return just as well if not better to keep up with 15%+ per annum.
- This is not easy.
Where as if you jump into a great business at the right price you may not have to make another correct decision for years. COH and WOW are good examples of this in my Historical Portfolio.
I like Asset Plays. I enjoy the game, so they are fun for me. They can also be very profitable contributors to your portfolios – see RHG and IGR in my Historical Portfolio.
(They can also be very costly if you get them wrong, see TIM in my Historical Portfolio. This is another story however – in short I got slack after doing so well at the time and essentially made a gamble, not an investment – it was a good lesson.)
So, I like Asset Plays, but I’d rather be invested in great business for a long, long time. For as long as they continue to be great businesses.
Alas they are hard to catch. But I am patient and will continue to wait. My time will come again.