Think long-term value
ifind fashion trends to be quite amusing. In the early 1990s, paisley shirts formed part of almost every man’s wardrobe. Ten years later we couldn’t believe that we just had to have those horrible curls and swirls, but at the time it was a fashion trend and we didn’t dare to be different. Towards the end of 2011, however, paisley started to make a comeback and suddenly some started to regret the fact that we got rid of those ugly shirts. It’s all about doing your homework and buying those items before they become trendy and it’s no different on the stock market.
Roughly five years ago, the global quantitative easing started to have a positive effect on shares worldwide, and bank shares, for example, grew by more than 150% between mid-2010 and mid-2015. After several interest rate hikes these past few months, however, this sector has now lost nearly 30% of its value following last year’s peaks and many are left wondering whether this may be only the beginning, as bank shares’ priceto-book ratios are still trading on the more expensive side.
Before we tackle that question, I think we should first ask ourselves why we as investors should consider an investment in shares in the first place. Should it be because we find a particular share price to be attractively low in the hopes of it growing to new heights in the following years? The answer is no. Shares should be bought with the main goal of providing you with a growing passive future income. Most of us invest with the intention of retiring with the capital we’ve saved during our careers. But if you buy shares with the intention of selling them at a profit within a short period of time, you are not an investor; you are a speculator and a gambler.
If we consider an investment in the top five SA bank shares (Absa, FirstRand, Investec, Nedbank and Standard Bank) five years ago (2011), you could have purchased a 4% dividend yield in these shares (before dividend tax at 15% currently), in an environment where money market traded at around 5.3% (before a maximum income tax rate of 41% currently).
What’s remarkable about this is that this income didn’t stay put at 4%, because as these banks’ revenues grew, their dividend payouts (income) rose by a whopping 20% per year. This is an extremely important point. As mentioned before, value investors like Warren Buffett strongly believe that a good investment shouldn’t be based on a share’s constant growth in price, but rather on the consistent growth of dividend payouts over time (its income-generating ability).
When we take a look at the top five SA banks’ dividend history, we will see that they have both an excellent profit- and dividend payout history. I am well aware of the negativity surrounding banks and the negative effect of recent interest rate hikes, possible bad debts and the drop in our local and global economies.
But we have to start buying again before this trend makes a comeback and the time is now. Just as clothing stores have end-ofseason-sales, you can now buy these shares at a 30% discount versus prices 11 months ago.
Remember, shares are bought as a long-term investment (seven to 10 years). Those who invested R100 in banks 20 years ago, would have earned approximately R2 (2%) on their capital in the first year. Today, 20 years later, that annual dividend income (before 15% dividend tax) would have grown to R45 on their original capital. This means that their income grew by 17% per year while the average wages in South Africa only increased by 9% over the same period. The icing on the cake is that bank shareholders also earned an additional 10% per year in capital growth over this period.
Don’t bankrupt yourself in an attempt to follow trends. Be proactive and buy value over the long term. This doesn’t mean that banks may not suffer more over the next six months, but see this weakness as an opportunity rather than a threat.
If you buy shares with the intention of selling them at a profit within a short period of time, you are not an investor; you are a speculator and a gambler. But we have to start buying again before this trend makes a comeback and the time is now. Just as clothing stores have end-of-seasonsales, you can now buy these 30%shares at a discount versus prices 11 months ago.