Peter and I get this question a lot: ‘‘what are the stocks you really want to buy if the market tanks”?
Unfortunately, there is no single answer because it depends on your timeframe, investment objectives and how much risk (and potentially reward) you are prepared to take and make.
But from the perspective of an investor considering cornerstone stocks that could go into a portfolio to be held for the long term, here is our ‘best of the best’. Obviously, the emphasis is on ‘quality’ and a company doesn’t qualify for this label without a substantive track record. This eliminates several “highflyers”.
To develop our ‘best of the best’ list, we applied the following filters:
- Firstly, we sought to identify one company (and only one company) from each of the major ASX industry sectors – 8 in total. This helps to ensure a basic level of diversification;
- We considered stocks with a track record as a listed ASX entity of at least 5 years (preferably 10 years);
- We looked for “blue chip” stocks in terms of market liquidity, delivery and consistency of earnings, industry dominance, ASX sector relevance and market esteem; and
- Within an industry sector, we biased the selection to a stock with lower relative volatility.
Here is our ‘best of the best’. We start with the biggest sector by market capitalisation (financials) first and work through in descending order. We could not identify a ‘best’ stock for three of the smaller sectors (telecommunication services, utilities and energy).
1. Financials – Commonwealth Bank (CBA)
This selection of Commonwealth Bank didn’t warrant much discussion. The only other contender was Macquarie Group (MQG), which while we are great fans, is more volatile because of its business mix (investment banking rather than commercial banking) and geographic spread.
For more than a decade, Commonwealth Bank has traded at a premium to its three major bank rivals because it has the best technology, the strongest balance sheet, the best franchise (number 1 or 2 in core markets) and the best leadership team. The last point was tested during the Ian Narev era, but under CEO Matt Comyn CBA has clearly regained this mantle.
Commonwealth Bank (CBA) – 10 years to 7/2020
Commonwealth Bank is not the cheapest bank and in terms of immediate value, I prefer Westpac. But as a cornerstone, it is significantly ahead of its competitors.
2. Materials – BHP
The ‘big Australian’ is the most diversified of Australia’s major material companies, with high quality iron ore, copper, metallurgical coal, nickel and petroleum assets. It is a low cost producer with some of the best assets in the world. It had a “misstep” with the Samarco mine disaster in Brazil in 2015 and lost credibility with the market trying to maintain a fundamentally floored progressive dividend policy. Following the resignation of Chairman Jac Nasser, it has worked hard to strengthen its balance sheet, increase productivity and apply absolute focus to shareholder returns. Now regarded again as a ‘blue-chip”.
BHP – 10 years to 7/2020
3. Healthcare – CSL
Now Australia’s largest company by market capitalisation, CSL is unquestionably our leading health care company. The global leader in blood plasma products and number two in influenza vaccines, CSL earns more than 90% of its revenue offshore.
Shareholders who paid the equivalent of $0.77 per share in the privatisation of the old Commonwealth Serum Laboratories in 1994 have seen the value of their investment increase by more than 400 times.
CSL – 10 years to 7/2020
A strong performer during the COVID-19 market meltdown, it has come off the boil over the last couple of months in part due to the sharp appreciation of the Aussie dollar. The company has a history of “under-promising/over-delivering”, and shareholders will be hoping that CSL does this again when it presents its full–year profit report in August.
4. Industrials – Transurban (TCL)
Benjamin Graham is credited with saying that there are only two certainties in life – death and taxes – but if he had nominated a third, it would have been road tolls (at least for Sydney, Melbourne and Brisbane residents). Transurban (TCL) is Australia’s largest operator of toll roads, owning about 80% of all assets in this category.
Not your average ‘industrial’ company, it gets classified in this sector because of its connection to transport. And because it has been so successful, it is now the largest company in the industrial sector and has just crept into the ASX top 10.
Transurban (TCL) – 10 years to 7/2020
Transurban has a brilliant business model. It is a cash cow, with inflation–linked revenues being applied to essentially the fixed costs of road depreciation, road maintenance and interest. Provided it can manage its development risk and attract the road traffic, it is almost guaranteed to increase its revenue each year and the distribution it pays to its shareholders.
5. Real Estate – Goodman Group (GMG)
Goodman Group (GMG) is one of the few real estate groups not to have downgraded earnings guidance due to the COVID-19 pandemic. Its focus on warehouses and large–scale logistics facilities has been rewarded, as customer demand in the online, logistics, consumer goods and digital economy has supported portfolio fundamentals and development activity.
Goodman operates through three divisions which roughly contribute a third of earnings each – property investment, development and property management. It is internationally focussed, with 31% of revenue from Europe/UK, 24% from Asia, 9% from the Americas and 36% from Australia/NZ.
The rise in Goodman’s share price over the last decade (as shown in the graph below) is quite impressive.
Goodman Group (GMG) – 10 years to 7/2020
6. Consumer Discretionary (Wesfarmers)
Another company with an impressive share price graph is conglomerate Wesfarmers (WES). More than half its revenue and earnings are generated from the powerhouse of Bunnings, leading to its classification in the ‘consumer discretionary’ sector. Other businesses include Officeworks, Kmart, Target and an industrial and safety division.
Under CEO Rob Scott, it has divested the Coles supermarket business and has exited coal mining. Acquisitions have been fairly light, with an investment in lithium producer Kidman Resources the notable exception.
Wesfarmers (WES) – 10 years to 7/2020
While Wesfarmers has not been without its occasional “misstep” (its attempt to “Bunningsise” the UK with Homebase cost shareholders a couple of billion dollars), its generally been pretty successful in managing the portfolio of businesses. Cashed up, it is looking for future growth opportunities.
7. Consumer Staples – Woolworths (WOW)
Woolworths or Coles? We have gone for Woolworths as it leads Coles in the supermarket business on key metrics such as gross margin, sales growth and cost of doing business.
Woolworths – 10 years to 7/2020
Woolworths has had its “missteps” including the Master hardware debacle, but under CEO Brad Banducci has re-built market confidence. Perennial struggler Big W is returning to profitability, while the spin-off of Endeavour Drinks (which includes the Dan Murphy business and Woolworths pub division) is generally viewed as a positive.
Woolworths is not cheap – but in the COVID-19 environment its “defensive” nature has meant that its shares have remained well supported. Also, the market has taken confidence from the withdrawal of competitor Kaufland and an easing in the “supermarket wars”.
8. Information Technology – Xero (XRO)
Many of the companies in this sector can’t demonstrate a “long term” track record, but one who can is accounting “software as service” business Xero (XRO). With 2.3m customers (1 million located outside Australia/NZ), Xero grew operating revenue by 30%, gross profit by 32% and EBITDA by 52% in the year to 31 March. It achieved its maiden profit.
Xero (XRO) – 8 years to 7/2020
Xero now dominates the Australian/NZ small business accounting software market and its challenge will be driving profitable growth in the UK and US markets. Like other IT companies, it is arguably way over-valued, but on track record in developing the Australian and NZ franchises, it warrants backing.
You can also see Peter and I sharing our thoughts on the ‘best of the best’ on Switzer TV – here is the link: https://switzer.com.au/the-experts/the-experts/author-slug/switzer-tv/
Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.