Patersons Model Portfolios
Patersons Model Portfolios

Protection of capital in a market downturn – the Patersons Portfolios systematically moves to cash to protect capital during periods of prolonged market weakness. The asset allocation is determined by our market risk model which uses the concept of mean reversion within a dynamic range to identify key support and resistance levels and the likelihood of a trend change in the sharemarket.

Patersons QVR Portfolio.

A long only portfolio of companies in the S&P/ASX200 Index selected on quality, value, and financial strength factors.  The portfolio moves systematically to cash during bear markets to preserve capital. QVR stands for quality, value at risk.

Patersons Income Portfolio.

Suitable for investors looking for high quality ASX200 stocks  with sustainable high dividend yields.

Objective

To significantly outperform the ASX200 Accumulation Index on a risk adjusted basis over the medium/long term using a systematic, objective and qualitative process. The suggested time frame is 3 to 5 years.

Strategy

Before consideration into any portfolio, stocks are initially screened on Quality factors. These factors include pricing power, financial strength, profitability, free cashflow and efficient capital allocation. Our research has shown that stocks that rank highly on all these factors have superior information coefficients and are likely to outperform the market over the full market cycle.

The secondary screen is to quantify the Sentiment on the stock by trend identification. According to Eugene Fama, sentiment and momentum is regarded as an exception to the Efficient Market Hypothesis. In other words, there is a strong case for adding a momentum screen to select stocks in the pursuit of market outperformance. Only stocks that are trading in confirmed primary uptrends are considered. Sentiment is important as it is a leading indicator in identifying underlying problems which are not often picked up by the quality screen.

The final screen is Value. We use three separate quant models to calculate the fair value of stocks in the ASX200 – one each for industrials, resources and infrastructure & REITs. In its simplest form and for industrials, the fair value of a company is based on the present value of potential capital gains (occurs when profits are retained and reinvested in the business) and the present value of dividends paid to shareholders.

Dividend policy is a critical feature of this model. In order to maximise the value to shareholders, a firm should try and retain more of its earnings if its return on equity exceeds its cost of capital (and vice versa). A discount rate is applied which incorporates the risk free rate, inflation and various idiosyncratic risks including earnings uncertainty, balance sheet strength, sector exposure and size.

Value is quite subjective and may take a full market cycle (3-5 years) to be realised. For this reason, it is important that we do not use our model to identify the cheapest stocks (as most are prone be being value traps) but rather, use the model as a guide to avoid those that are most expensive. For cyclical companies with high earnings uncertainty such as those in resources, rather than use consensus forecasts in profitability and dividends which are prone to high forecast error, we weight our assumptions towards a normalisation in historical trends (eg long term commodity prices) and make adjustments to account for the underlying risk pre­mium in the current environment. 

Finally, a shortlist of stocks is then presented to an investment committee on a weekly basis. This meeting provides an additional layer of risk management, by considering whether there are any fundamental issues associated with the chosen companies including management and industry specific risks. Here we answer questions like what stocks should we include or remove or which ones we should continue to monitor as a potential addition once the share price moves below our quant based fair value estimate.  Catalysts for a stock removal from the portfolio may include a change in the primary trend, an earnings announcement, a change in the company structure or when the share price has deviated significantly from our fair value calculations. 

QVR Portfolio

The purpose of the QVR portfolio is to identify a list of about 20 high conviction stocks which have strong balance sheets, good management, and provide sustainable earnings growth and strong returns on capital. 

Income Portfolio

The selection process for the income portfolio comprises an additional screen to identify stocks with dividend yields which are sustainable. The components of this screen include earnings revisions, cashflow, expected
dividend growth rates and trend in payout ratios.

 

Performance

The following table provides a comparison of our portfolios with the benchmark (S&P/ASX200 Accumulation Index) inclusive of any cash allocations. The Portfolios have outperformed the market significantly over the long term on a risk adjusted basis, as indicated by the  Sharpe Ratios below which measures the excess return of the portfolio per unit of risk.

Performance Ending 31 Mar 2017 (%)
Return (%) Month Rolling
Quarter
Rolling
Year
Since Inception
(p.a)*
Sharpe
Ratio
QVR Portfolio 4.4 5.8 15.6 14.4 0.9
Income Portfolio 3.1 5.3 13.5 13.8 0.9
Benchmark -
ASX200 Accum.
3.3 5.6 21.4 8.5 0.4
 
 
Note: This article is intended to provide general advice only, and has been prepared without taking account of your objectives, financial situation or needs, and therefore before acting on advice contained in this document you should consider its appropriateness having regard to your objectives, financial situation and needs. If any advice in this document relates to the acquisition or possible acquisition of a particular financial product, you should obtain a copy of and consider the Product Disclosure Statement for that product before making any decision.