CIE July 2019 Portfolio Update

Please find below the July 2019 Investment Update and NTA Statement for Contango Income Generator (ASX:CIE). Click here to download the report.

Investment Objective

CIE is an income-focused listed investment company, with a portfolio of companies largely outside of the ASX top 30. CIE’s stated objective is to generate sustainable dividend income, while maximising franking where possible. We select companies that, in aggregate, have a history of paying consistent dividends. The portfolio is characterised by a strong and diverse portfolio of companies that exhibit good cash flows and business models.

Over the past 12 months, CIE has paid a dividend yield of 6.51%, or 8.40% including franking credits. Dividend yield is calculated as the last four dividends paid over the 12 months to 31 July 2019 relative to the closing share price at the beginning of the period.

Performance Summary

CIE’s investment portfolio performed strongly over the month of July 2019, with a return of 2.99%. The NTA before tax of the portfolio stood at $0.96 per share.

The portfolio moved higher over the month as positive sentiment over the outcome of the Federal Election, upcoming tax cuts and interest rate reductions overrode a continuing slew of earnings downgrades.

Many of the stocks which have struggled over the last year are now starting to price in the benefits of improved activity from the above factors. Nonetheless, we expect the upcoming reporting season to be challenging as, despite some recent positives for equities, the results season covers a period in which economic activity slowed and corporate profits were pressured. After this period we expect activity to stabilise and improve.

Portfolio Commentary

CIE’s cash position at the end of the month was 4.7%, compared with a target cash weight of 5%. We will continue to be opportunistic with our investing, especially over the reporting season, so the cash level may move around this target.

Throughout July 2019 activity in the fund was muted as we anticipate a volatile upcoming result season. After a strong recovery in its share price, we reduced our large holding in Stockland Corporation. We also exited the fund’s position in Duluxgroup after the successful takeover of the company and further reduced our holding in Bendigo and Adelaide Bank.

Duluxgroup share price

Duluxgroup was sold from the portfolio

Source: Bloomberg

We increased our existing positions in GPT Group, APA Group and Viva Energy REIT. These are considered defensive positions leading into reporting season.

A position was initiated in oOh!media, a leader in outdoor advertising. The industry, although cyclical, benefits from a stable structure and some organic growth. Industry statistics show that growth has occurred over the recent period. With oOh!media reporting this month, we feel this initial modest position is prudent.

Image source: Kalkine Media

Market Commentary

Global markets were mixed over the month with the US, UK and Australia all higher. Continental Europe, Japan and China were all modestly lower. Although slowing US earnings were still positive giving some impetus to the market.

The global bond market largely held its recent gains. The US 10-year traded in a range of 2.0-2.1%, while the market awaited an anticipated reduction in interest rates by the Federal Reserve. The Fed delivered a 25bp cut on the last day of the month.

Australian bonds continued to rally. The 10-year Australian bond rate fell from a yield of 1.4% to 1.2%  by the end of the month. The low bond rate points to prolonged period of low interest rates.

United States Fed Funds Rate

Source: Trading Economics

The Australian market as measured by the S&P ASX 200 index was 2.93% higher over the month, making it one of the best global performers. Despite ongoing earnings downgrades, share prices are being driven by lower interest rates and tax cuts. These factors should bring better conditions ahead.

Sectoral performance was mixed with Consumer Staples doing well (9.7%) as well as Health Care (5.9%) and Consumer Discretionary (4.9%). The worst performing sectors in the S&P/ASX 200 index were Energy (1.8%), Financials (1.7%) and Materials (1.0%). Overall a neutral outcome for the portfolio.

The best performing stocks in the portfolio were Virtus Health (14%), Viva Energy REIT (14%), McMillan Shakespeare (14%), Smartgroup Corporation (13%), Bapcor (12%), Lendlease Group (12%) and IPH (12%). Most of these stocks have some exposure to the consumer sector and are being driven by the boost that tax cuts and lower interest rates will deliver in due course.

The laggard was Adelaide Brighton (-12%) which delivered an earnings downgrade on the last day of the month. The company’s earnings update shows the current issues in the market. Past conditions have been quite poor, which will be reflected in results, while tax cuts and lower interest rates should, in time, improve prospects.

Portfolio Outlook

We anticipate the upcoming result season to be volatile. Shares have rallied as interest rate cuts and upcoming tax cuts are expected to boost activity and profits in the future. The upcoming result season, however, covers a period in which economic activity slowed and corporate profits were pressured.

As a result, reporting season may see some weak operating results. The market will be looking closely at outlook commentary to gauge whether individual companies are showing any signs of recovery.

Close attention will be paid to the distinction between cyclical and structural concerns, with the market being more forgiving of cyclical issues. We will use any volatility to add to or establish positions in companies if we see opportunities through this period.

The ongoing decline in interest rates should be a positive for yield-focussed strategies like CIE. Although there may be a bounce in yields post any trade resolution, underlying world growth remains modest at best.

CIE remains significantly exposed to those high income generating securities. In our view, these investments will be increasingly valuable in a world of low rates.

Interest rates remain low and economic activity, although slowing, remains positive. While volatility in equity markets is expected to continue, indications of inflation remain largely benign giving confidence that the investment outlook remains favourable over the medium term.