My position sizing system

• 5% initial position for a company incorporated in a developed market
• 2% initial position for a company incorporated in an emerging market

My old position sizing system was a two percent initial buy plus an additional two percent later for companies incorporated in a developed market. I usually did this second buy after a few months of holding the first portion. The purpose of this lag was to get comfortable with the company in the meantime. Sometimes, I did not get such comfort and sold the share. Similarly, I bought half percent positions plus a half percent later on in emerging market companies. It was a careful start because I started a whole new portfolio. However, I ended up holding 75 shares. There is no way to follow 75 companies as a part-time private investor. 

There is a lot of research addressing the proper diversification of a stock portfolio. I believe the picture below illustrates somewhat of a consensus conclusion.

We can see that a portfolio with only one stock results in a huge standard deviation of its annual returns. Adding one stock reduces this standard deviation considerably. Assuming that the added stocks are equally weighted, the variability of the total portfolio goes down as we add more stocks. At some point, let's say at 25 stocks where the arrow is placed in the graph, adding stocks does not reduce variability in any significant way. 

The graph is compiled by looking at a large number of portfolios. We are looking at reality, not a theory. Nevertheless, this perspective on diversification is debated. Many value investors argue that variability does not represent risk; only permanent loss of capital does. The number of shares does not matter either, but rather how confident you are about the business prospects of the underlying companies after intense research. Charlie Munger was not afraid to hold only three shares. However, I do not have the quality of information, insight, experience, and advisors that Charlie Munger had access to. For now, I will go with the traditional concept of risk as expressed by the diversification graph above. 

In any case, I was severely over-diversified, holding 75 shares. It will be nearly impossible to beat an index fund with so many shares. I already experienced that a very successful 0.5% position, such as my triple return with Luckin Coffee, will barely affect my overall portfolio performance. I concluded that my 1% positions in emerging markets China, Thailand, Malaysia and Indonesia did not make sense. I decided to take 5% positions in Malaysian companies from now on. For China, Thailand, Indonesia, and other emerging markets I will allocate 2% per company. That is still a small allocation, but I currently do not have the confidence to take a 5% position per company in these markets.

The reorganization

After deciding on my new position sizing rules, it was time to take action. I sold off a bunch of shares where I did not have the conviction to top them up to 5% or to 2% for a range of different reasons. This was a useful exercise in itself. I increased the allocations of all the remaining holdings, except for Greggs, ABF, Reckitt and Haleon, which already got too expensive. In the case of turn-around situation LG H&H, I want to wait for the Q4 2023 results. With the reorganization mostly done, I own 25 shares now. 

Further concentration?

Looking at the chart above, I could reduce my 25 positions further to 10 positions. The variability of the portfolio as a whole would not increase that much. I could start with taking 5% positions to 10% where I feel confident that a company is extremely undervalued, such as Boustead Singapore and Ibersol. However, from my past experiences as an investor, I have learned that my ex-ante level of confidence is often misplaced and irrelevant. There is no correlation between my level of confidence in a share pick and the subsequent performance of that share. 

As an example, my current best performers are Exotic Food PCL, Tianjin Pharmaceutical Da Ren Tang Group Corp Ltd and Associated British Foods PLC. I would never have guessed these picks as being my winners two years ago. I would probably have guessed Alibaba or Tencent then. Without a mechanical allocation system, I would have doubled down on these two stocks. This doubling-down behaviour is known as Get‐Evenitis or, more officially, loss-aversion bias. A mechanical sizing system is an antidote to this bias. It saved me from a bigger disaster in the Chinese tech space. 

Hence, I will stick to my mechanical allocation system. Should I ever change the current 5% and 2% sizing numbers, it will be wise to apply the new rules to all my shares, not to a selection.  

Disclosure: long position in all the shares mentioned, except Alibaba, Tencent, Tianjin Pharmaceutical Da Ren Tang Group Corp Ltd and Luckin Coffee, which I sold off

Breaking my own checklist rules

Earlier, I revealed my Stock Buy Checklist on this blog. Today, I will review the stock holdings violating this checklist's rules. This gives me a chance to explain some rules in more detail and the reasons for violating them sometimes.

United Plantation Berhad is not in the consumer staples or infrastructure industry.

My most constricting rule is to only buy consumer staples and infrastructure-related companies. United Plantation Berhad is the only real exception to this super rule. It runs oil palm plantations, counting it as a commodity producer. They sell some consumer products like NutroPalm Golden Palm Oil through their associate Unitata, but these activities are minimal. I decided to buy United Plantation shares anyway because its operations are run very efficiently. There are only so many great companies on the Malaysian stock exchange.

Several Malaysian companies have a market cap below 100 mln USD

InNature, Able Global, HAIO/Beshom, Suria Capital, and Spritzer are all flirting with the 100 mln USD market cap threshold. All these companies were well above this threshold when I bought their shares. However, the Malaysian Ringgit has devaluated against the US Dollar since then. That's not enough reason to suddenly remove these companies from my portfolio. The purpose of the market cap rule is to avoid buying a company so small that a black-swan event like a fire, a flood, or a fraudulent employee might threaten the continuity of its operations. In that light, it is not really relevant that a market cap goes from 100 to 98 mln in USD when the actually used currency is the Malaysian Ringgit.

Natural Food International Holding Ltd has a market cap and book value below USD 500 mln.

This company produces cereals and other healthy food products in the Chinese market. The book value is not even 200 mln USD, which is far below my threshold rule for mainland Chinese companies. As I wrote above, the market cap rule is set for my peace of mind regarding the stability of a company. In the case of Natural Food, we have the presence of US food giant PepsiCo as a significant shareholder. PepsiCo is also represented by a board member. I will assume that PepsiCo did due diligence into Natural Food before buying its shares and will continue to keep an eye on developments within the company.

Camellia PLC depends on operations in India and Africa for most of its revenues.

I focus my research on Asia Pacific, Europe, and US-based companies. Although Camellia is based in Kent, United Kingdom, its lands, gardens and plantations are located worldwide. It owns a few brand names, like Jing Tea and Goodricke. However, the bulk of its production should be considered agricultural commodities. Finally, Camellia is a conglomerate. So, here we have three violations of my checklist rules: 1. geography, 2. conglomerate, and 3. commodity-related. I bought Camellia long before I compiled my checklist. Likely, my experience with this company's poor management and its collapsing share price inspired some of the checklist rules. I will sell this share to finance an investment idea that conforms to my checklist better.

Boustead Singapore, CK Hutchison, Saha Pathana, ABF, F&N, and LG H&H are conglomerates.

Talking about conglomerates, I have a few others in my portfolio, although my checklist encourages me to avoid them. Like Camellia, I bought most of these shares before I wrote my checklist. In those days, I still had a value-investing approach where you would calculate the sum-of-the-parts of the different businesses and assets and then compare the grand total with the market cap. You often see a big 'holding company discount' making the share seem like a bargain. Value investing blogs and fora keep pouncing on such 'deep-value bargains'. The problem with this approach is that the discount usually does not close. The management and majority shareholders are simply not interested in closing the discount. You will remain stuck in these poorly performing conglomerate shares until management changes its priorities and reorganises the company's structure and activities, if ever. 

This is not a concern for the six conglomerates mentioned in the title. I gladly hold them for the long term, even if they remain conglomerates. Saha Pathana, Associated British Foods (ABF), and LG H&H are primarily active in consumer staples which is my portfolio focus. The same goes for Fraser and Neave Ltd (F&N), which also has a printing and publishing division, but it is only responsible for 11% of the total revenues within F&N.

CK Hutchison has consumer staples operations through their retail activities (A.S. Watson) and infrastructure-related assets with their ports and mobile telecom operators. This fits within my 'consumer staples and infrastructure' philosophy, although CK Hutchison also has investments in sectors such as utilities, pharmaceuticals, media, and energy, of which I have no knowledge. 

The same goes for Boustead Singapore Ltd, which is active in software, energy, and medical services, besides developing business parks through the listed Boustead Projects subsidiary. This share is also a relic of my deep-value investing days, long gone. The share price has been going nowhere for the last ten years, but the dividend yield is reasonable, and I trust the management. Because of the Boustead Projects activities, the stock fits in my infrastructure bucket. Although Boustead's other activities do not fit my philosophy, they seem stable.

Ho Bee Land and Boustead are developers.

Adding to my Boustead objections: its most significant subsidiary Boustead Projects, is a developer, not a REIT. I typically prefer a REIT over a developer because developers tend to have very cyclical earnings, and it is difficult to get reliable profit projections on the properties still under construction. In contrast, properties in a REIT portfolio are already operational and easier to value. In addition, the various regulations governing a REIT limit the opportunities to abuse minority investors. In fact, Boustead Projects recently initiated a REIT (Boustead Industrial Fund), but unfortunately, it is not publicly listed. 

Ho Bee Land is also a developer, but most revenues come from renting out its existing investment properties. It owns an impressive portfolio of offices in London and Singapore. Shareholders have repeatedly pressured management to divest this portfolio into a REIT. At a minimum, this will yield tax benefits, but it might also benefit the share performance. However, management has yet to honour this request. Ho Bee Land does not have many development projects compared to its portfolio of investment properties, so the company is safe enough for me to keep holding. The company seems significantly undervalued too.

DFI retail group and Imperial Brands have more debt than equity.

Two companies in my current portfolio violate the debt/equity < 1 rule. However, the Interest Coverage ratio in both cases is more than sufficient. Dairy Farm (DFI) runs supermarkets and restaurants. Most of its debt is the liability for its future store leases. According to current account rules, DFI has to list these under 'debt', but store lease liabilities are much safer than actual debts resulting from loans. When a company takes out a regular loan, it is to finance a new factory or some new business activity where the ultimate payoffs can only be guesstimated. In contrast, the expected yields on long-existing retail store rentals are much more certain than a new factory or a new business activity. I don't worry much about these store leases for existing restaurants, convenience stores, and supermarkets.

Imperial Brands is a tobacco company. The balance sheet seems weak at a quick glance, but incoming cash flows from smoking-addicted customers seem reliable and will relieve the debt burden over time. The management sets a "target leverage towards the lower end of our net debt to EBITDA range of 2-2.5 times." They are at 2.4 now and still reducing debt. If they indeed reach a net-debt/EBITDA = 2, that looks pretty safe. Fitch rates their debt as BBB. I am not worried but will keep an eye on debt repayments.

Luckin Coffee pays no dividends.

I prefer my holdings to pay dividends, but it is not a strict requirement. For growing companies, it usually makes sense to skip dividend payments and re-invest profits into the business instead. Luckin Coffee invests in the fast expansion of its coffee shop chain. 

Luckin Coffee is listed as an over-the-counter (OTC) stock.

OTC and Pink Sheet stocks are hardly regulated. I had never bought an OTC stock before Luckin, and I don't plan to do that again. There is a high chance of running into fraudulent companies in these markets. Luckin Coffee had also admitted to committing fraud when I started looking at the stock. My research mainly focussed on whether the fraud could be even bigger, as was exposed already. So far, that has not proven true, and the stock price has been going upward throughout 2022.

When I bought my Luckin stock in May 2022, the fraud-committing people were already removed from management positions. Luckin was entering arrangements to compensate the defrauded parties. My thesis is that Luckin can successfully move on from this dark era. It was a gamble when I took my position, but I considered that the most prominent Chinese coffee shop chain should be in a portfolio called The Coffee Can APAC. As I am writing this in December 2022, we can witness Luckin Coffee solving its legacy fraud issues while growing its operations quickly. I hope Luckin can re-list soon on the Nasdaq, preferably with a secondary listing in Hong Kong.

ABF's Primark is a fashion brand. 

Even worse than being listed as an OTC stock is running a fashion brand. I am not a follower of fashion myself, but I am aware that brands come and go, sometimes very quickly. It is impossible to assess those cycles in advance. Hence, I usually avoid investing in fashion retail companies. Nevertheless, in the case of Associated British Foods (ABF), I got comfortable with their Primark business, which delivers about half the profits for the overall conglomerate.

ABF started the Primark clothing stores initially in Ireland, then Great Brittain, then Europe, and recently jumped over to the United States. I visited several stores myself. Primark sells cheap clothes, packed to the brim in large stores at city-centre, triple-A locations. Customers love it, judging from the Google Map reviews and the consistent queues to pay at the cashier registers. The Primark brand signals a low price level and straightforward buying process rather than style and fashionability. I am confident that Primark customers will keep going to its stores as long as Primark sticks to its approach. It may be successful in Asia and South America too.

Daiwa House Logistics REIT is active in Japan. 

I am still contemplating whether I want to invest in Japanese companies. The demographics in this country predict a terrible economic future. Japanese company managements are often not shareholder friendly at all. Dividend payments are low and charged with a steep 20.42% withholding tax. Japanese stocks are generally priced relatively high from a value-investing perspective.

Daiwa House Logistics REIT seemed reasonably priced at its IPO and has an impressive portfolio of large, modern warehouses. Despite all properties being located in Japan, the REIT is a Singaporean entity. This means there is no dividend withholding tax for individual investors. Also, the Singaporean REIT regime requires the REIT manager to pay out at least 90% of earnings. This restricts the REIT manager from hoarding excessive cash on the balance sheet as many Japanese companies tend to do. For these reasons, I bought the REIT a few months after its IPO. My doubts about Japan's demographics and economic future still stand. Is this a Coffee Can REIT that I can hold for decades while sleeping well?  

Dairy Farm and Hutchison Port have sizeable operations in Hong Kong.

I reduce my portfolio exposure to companies that generate a lot of their profits from within Hong Kong. The city's future has been clouded for a few years already. Let's not get into the political details here, but it looks like the role of Hong Kong as a gateway into China is diminishing. Currently, Hong Kong is still ranked very high on surveys that estimate the cost of living. However, measured over the medium and long term, I wonder if much of this wealth may disappear. 

My holding Dairy Farm derives a lot of income from Hong Kong consumers. The management does not disclose the exact amount, but by combining other metrics, I estimate it to be about a quarter of total earnings. On the other hand, Dairy Farm is also exposed to many retail opportunities in China and South-East Asia. These could balance out deterioration in the Hong Kong market.

Hutchison Port Holdings Trust derives a lot of income from its Hong Kong port. This is obviously based on the geographical location as a deep-sea port which will remain unchanged. Different demographical and political circumstances are unlikely to affect these port operations.

Conclusion

I do not use my checklist blindly. As illustrated in this article, I break my rules when there are good reasons to do so. It is more important to keep an eye on the underlying concerns behind the rules. I felt some of these concerns while preparing and writing this article, for example, in the case of my last remaining Japanese stock, Daiwa House Logistics REIT. In addition, I feel uncomfortable around companies where several rules are broken simultaneously, as with Camellia and Dairy Farm. 

Coffee in my portfolio

I named my investment approach the Coffee Can Portfolio APAC after a buy-and-hold method developed by American analyst Rob Kirby. I tweaked the approach he suggested by focusing on infrastructure and consumer staples stocks. As a result, I have a bunch of coffee-related companies in my portfolio. I thought it would be fun to highlight those.

JDE Peet's is the unmistakable coffee king in my portfolio. The company offers many coffee brands all over the world: Peet's Coffee, Jacobs, Douwe Egberts, Campos, Tassimo, Senseo, L'OR, Super (Singapore), Old Town White Coffee (Malaysia), and tens of other brands. Some of those have cafe-type outlets which you can visit. The picture shows a pop-up store of Peet's Coffee in Shanghai.

Luckin Coffee is a Chinese coffee giant which runs cafes but has no packaged product yet. In some of their outlets, you can sit down to enjoy your coffee, but most are takeaway only. They have more stores than Starbucks in China, but in revenue, Luckin is still second because their products are cheaper.

Maxim's Caterers is a 50% participation of my holding DFI (Dairy Farm International). Maxim's has the license to exclusively run Starbucks stores in Singapore, Hong Kong, Macau, Vietnam, and Cambodia.

Maxim's Caterers has a joint venture with Fraser & Neave, another holding of mine, to run Starbucks stores in Thailand. This joint venture is also 50/50.

Staying with Dairy Farm International, its house brand Meadows offers instant coffee and 3-in-1 coffee mix in their supermarkets, such as Giant and Cold Storage as well as in third-party outlets (Foodpanda).

South-Korean consumer goods conglomerate LG H&H runs a beverage bottling operation that produces drinks from the Coca-Cola Company. The canned coffee brand GEORGIA is one of the Coca-Cola drinks they licensed for Korea. 

China Foods Limited is licensed to sell Coca-Cola beverages in 19 provinces of China. They don't offer GEORGIA, but they do have another canned coffee drink in their portfolio called Costa RTD coffee. Costa is a coffee shop chain acquired by the Coca-Cola Company in 2019. There are Costa coffee shops in China too, but it seems that China Foods is not involved in those. 

The strangest coffee drink from my holdings comes from Want Want China: Mr. Bond Coffee. I could not find any information about it. Are they referring to James Bond? The man shown on the can resembles detective Sherlock Holmes rather than master spy James Bond. Also, I am pretty sure Bond prefers Martini over coffee.

For the final two coffee servings, we leave Asia. British bakery chain Greggs sells coffee to go with their sausage rolls and sandwiches. Classics such as Mocha, Americano, and Latte, with special editions during holidays. Recently they added two canned coffee offerings: Caramel Latte and Original Latte, as the picture shows.

Associated British Foods offers various grocery items all over the world. In their long listing of those, I found Jarrah, which is an Australian brand of powdered coffee. You pour hot water over the powder to make it ready for consumption. Jarrah offers a hot chocolate variant too.