Who?
Pat McKeough, portfolio manager and publisher of financial newsletters, including The Successful Investor, and the website TSI Network.ca.
The Strategy
As simple as it is successful, Mr. McKeough’s strategy is to stick with well established, successful companies in the five main sectors of the economy and avoid stock market and media darlings that have been bid up to new highs.
The companies in his stable have strong balance sheets, good relations with their customers, are widely traded and are most able to survive economic downturns.
Once the stocks have been chosen, clients’ holdings are spread out across the five main sectors of economy: manufacturing and industry, resources and commodities, finance, consumer goods and utilities.
“We do that because rising resource prices may be good for resource stocks, but they raise costs for manufacturers,” Mr. McKeough said in an interview. “So if you’re in both areas, you don’t get killed.”
Similarly, rising interest rates work in favour of banks but they hurt consumers, he noted. Investors in both areas “win by not losing.”
“If you follow that plan, you will avoid making two dumb moves,” Mr. McKeough says: “buying poor quality companies, and getting too heavily involved in the flavour of the month only to end up watching it go downhill.”
Avoiding or paring back hot stocks served Mr. McKeough well with high-flying Nortel, among others. “I got nasty letters when I said investors should take some profits in Nortel,” he recalls. “We don’t wind up owning a lot of something like that.”
In the big rush to oil stocks a couple of years ago that pushed the price of a barrel of oil well into the triple digits, energy stocks accounted for about 40 per cent of the Toronto stock market’s value, he noted.
“We wouldn’t dream of going anywhere near that high with oil stocks in a client’s portfolio.”
He also looks for hidden assets, such as real estate, research that has been expensed but has not yet yielded a profit, and customer relationships that a company can use to sell a wider product line – Apple, for example, which started with computers and widened its offering to iPods, iPhones and now iPads, or Amazon with Kindle.
He prefers stocks to bonds because he believes the future belongs to inflation, which will lead to rising interest rates and falling bond prices.
“We’ll probably see inflation of 5 per cent in the next few years,” he says. “All the rules about how much you should hold in bonds were drawn up in the bond heyday. They don’t make sense when you look at it now because of the prospect for rising inflation.”
When It Works Best
Over long periods. “We lose less in market downturns, but when the market is shooting up, usually because of strength in a narrow sector, we can’t keep up because we’re not going to concentrate our holdings. The longer people are with us, the better the results are.”
What Could Go Wrong
“People get seduced by hot stocks, or they want to trade more,” he says. “Some clients don’t have the patience for it.”
Or the stock market could collapse, in which case good companies would fall with the bad.
How Is He Doing?
Very well. Mr. McKeough manages a number of pooled funds as well as portfolios for individual clients. Following are compound annual returns for the pooled funds to April 30, 2010, from inception in December, 2002: Stock Picker Fund up 10.1 per cent; Canadian Fund up 7.5 per cent; Growth and Income Fund up 8.5 per cent; American Fund up 8 per cent in U.S. dollars and up 2 per cent in Canadian dollars.
Market Outlook
“Everybody agrees that government debt and deficits, and the Greek bailout, are really serious,” Mr. McKeough says. “Where we disagree, and where some people go off the rails, is in the urgency of it. You can muddle your way through for an awful long time before the whole roof caves in.”
Through a combination of more effective taxation and economic growth, the world economy can live with debt and deficits until eventually they are whittled down a bit, he believes. Given how low interest rates are on short-term deposits, and the poor longer-term outlook for bonds, “among income-producing investments, stocks are about all there is,” he says. “Well established ones, ones that pay dividends.”
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