The search for diamonds

I have previously stated if you want to manage a successful share portfolio, you have to follow the same basic principles as the old diamond miners who had to carefully pick through a sifting pan full of pebbles to find the ultimate reward: that ever-elusive diamond.

Each investment expert has his own “pan”. Some may prefer a more value-driven approach and will sift through companies to find those that are undervalued according to value models. Others may prefer a more technical or even quantitative sifting process.

I have used the term “consensus forecasts” in many of my writings and I would like to briefly define this concept before I continue.

Analysts who all follow their own sifting processes will have their research on companies combined and expressed as a consensus, which is an extremely helpful investment aid when you’re compiling a share portfolio. It can give us a good indication of the expected market growth.

I applied it in depth on both the stock market and individual sectors in my previous article.

We saw that according to Thomson Reuters consensus, analysts expect the big guns on the JSE to be the driving force behind our local market in 2018, while banks and resources may compete for the position of worst performer.

I personally do not agree completely with their opinions. First, because the bulk of the JSE has been driven by the big guns over the last two years and these now appear to be on the more “expensive” side.

Second, I am more optimistic about purely South African shares, which should perform better in a more stable political environment and, hopefully, in light of a stronger rand. I also believe that value is emerging in some small to medium-sized companies.

If, however, this panel of analysts are correct in their forecasts for 2018, the best growth should come from these 10 companies’ shares: Naspers*, Aspen, Investec plc, British American Tobacco (BAT), Mondi plc, AB InBev, Richemont, Hammerson, Vodacom and Bidcorp.

When sifting through companies, there will of course also be shares that analysts are less excited about. Out of the same 40 shares they expect the weakest growth in 2018 from these shares: Kumba Iron Ore, Assore, Mr Price, Discovery, Capitec Bank, Standard Bank, South32, Bidvest, FirstRand and Anglo American.

Please note that “weakest” performance does not necessarily point to the 10 worst companies. In most cases these companies have performed so well in recent years that they may just not offer the same value possibilities for analysts as others anymore.

By working through these figures and following our own sifting process, we have managed to identify five shares that may stand out in 2018. P.J. van Niekerk from PSG Old Oak provides a brief summary of each share below:

1. African Rainbow Minerals (ARM)

ARM is a diversified mining company that mines and beneficiates iron ore, manganese ore and alloys, platinum, copper, nickel and coal. It also holds a 14.5% stake in Harmony Gold. ARM is currently trading on a historic price-to-earnings ratio (P/E) of 8 and a dividend yield of 4.8%.

The group recently declared its 11th consecutive dividend while managing to lower the company’s debt levels.

2. Hudaco

Hudaco imports and distributes automotive, industrial and electrical consumables and operates mainly in SA. The company should benefit from the strengthening of commodity prices and recovery in the agriculture sector. 

Hudaco is a highly cash-generative business and has managed to consistently grow operating profits in challenging conditions.

3. PSG Group

At the time of writing, my employer, PSG, traded at an attractive discount of 14% to its sum-of-the-parts. Capitec is the group’s largest holding and contributes 54% to the group’s total assets, followed by Curro at 14%, PSG Konsult at 11% and Zeder at 7%.

4. Remgro

Remgro is a well-diversified investment holding company with exposure to the healthcare, banking, consumer products, insurance and industrial sectors. Remgro’s largest holdings consist of Mediclinic, FirstRand, RMI Holdings and RMB Holdings.

Other investments include the likes of Distell and RCL. Since the unbundling of its investment in BAT in 2008, Remgro’s share price has increased by 297% while the FTSE/JSE All Share Index gained 114%.

5. Rand Merchant Insurance (RMI) Holdings

RMI’s listed investment portfolio consists of a 25% holding in Discovery, 25.5% holding in Momentum Investments and a 29.9% holding in London-listed Hastings Group.

OUTsurance, the group’s largest unlisted investment, continues to report excellent results and if rumours of a possible listing were to materialise, it could unlock significant value.

Schalk Louw is a portfolio manager at PSG Wealth.

*finweek is a publication of Media24, a subsidiary of Naspers. 

This article originally appeared in the 1 February edition of finweek. Buy and download the magazine here.