The R.I.P. Portfolio: Q2 2018 Update

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Includes: AAPL, ACN, AMGN, BABA, BAC, BHF, BHGE, BRK.B, C, CAH, CLDR, CRL, CSCO, DIS, DWDP, FB, FKINX, GE, GM, HON, INTC, JNJ, KEY, KR, MET, MRK, PFE, PG, PRU, SBUX, SFTBY, SPY, SYF, T, TGT, TWTR, TWX, UA, UTX, VZ, WAB, WNC
by: WG Investment Research
Summary

This real-money portfolio was first introduced to the Seeking Alpha community in December 2015.

The portfolio has underperformed its benchmark so far in 2018, with General Electric being a significant contributor, but it is properly positioned to benefit from several major trends.

The financial holdings were a drag to the portfolio's Q2 2018 performance but, looking out, the banks are well-positioned for the next few years.

The portfolio's projected income for 2018 is up almost 35% YoY.

The Retire In Peace portfolio, or R.I.P. portfolio, was first introduced to the Seeking Alpha ("SA") community in December 2015 and I have published quarterly articles that captured the activity and performance of the portfolio since that point in time. The companies that I write about on SA are largely the holdings of the R.I.P. portfolio, so the main purpose for the quarterly articles is to allow for my SA followers to track the performance of the stocks that I write about on this platform.

However, I am also interested in hearing from the entire SA community about these stock holdings because I learn valuable lessons from the insights that are provided on this platform. Therefore, I hope that these quarterly updates lead to constructive discussions about the companies that I consider core holdings.

The core holdings - see linked article above for a listing of the core holdings, in addition to each company's identified short- and long-term catalysts - are not necessarily the companies that I plan to hold for the next 30 years; but instead, they are the companies that I would like to hold for that period of time (i.e., buy-to-hold strategy). I will closely monitor these holdings and will trim, add to, or eliminate positions if a company's "story" materially changes.

The R.I.P. Portfolio's Goals And Strategy

I am building this portfolio with retirement in mind, so I have 30-plus years to invest and make adjustments; therefore, the quarterly volatility is not a major concern. These funds will stay in the market for the foreseeable future, so the portfolio will have the luxury of compounding for many years.

Compound interest is the eighth wonder of the world. He who understands it, earns it... he who doesn't... pays it." -Anonymous.

It is also important to note that this is a real-money portfolio. The R.I.P. portfolio is made of five different accounts: a Roth IRA, a Traditional IRA, and three taxable brokerage accounts. This is not my family's main retirement assets, but it is a portfolio that I hope will greatly contribute to a stress-free and relaxing retirement.

The Goals and Strategy section was last updated in January 2018.

Main Investments (i.e., core holdings) - The companies that are considered core holdings should have established management teams that have proven track records of creating value. Furthermore, the companies should have competitive moats and be above-average operators within the respective industries. The core holdings are mainly large cap companies that are widely held by the financial community and this is by design.

Goals & Strategy - The portfolio seeks primarily long-term capital appreciation by investing mainly in equity securities of high-quality companies that have already shown the ability to produce sustainable earnings growth.

The portfolio aims to beat the benchmark, the SPDR S&P 500 ETF (SPY), by at least 1% on an annual basis.

Missing out on short-term gains and/or having paper losses are not my main concerns, because I plan to stay committed to my long-term strategy of utilizing a bottoms-up investing philosophy to select companies that I plan to hold for many years.

The portfolio has the following allocation targets and acceptable ranges:

Industry Target Allocations Acceptable Range
Industrials/Conglomerates 15% 10-20%
Healthcare 10% 5-15%
Financials 10% 5-20%
Insurance 5% 3-7%
Technology 15% 10-20%
Communication Services 15% 10-20%
Basic Materials 5% 3-7%
Conservative Allocation Fund 5% 3-7%
Consumer 15% 10-20%
Other* 5% 0-10%

*The Other category comprises of speculative investments in companies that have the potential to create outsized gains over the next three-to-five years (what I like to refer to as "investing in seedlings"). The investments within this category could eventually become longer ranged holdings if after further analysis it is determined that the companies indeed have the attributes that I look for.

Contributions - I plan to contribute between $1,000 and $2,500 of new capital per month to the portfolio and I typically put the new capital to work each and every month, regardless of the performance of the broader market.

Q2 2018 Update

Below you will find the portfolio and its performance, and the activity for the second quarter of 2018.

Company Ticker # of shares Price At 6/30/2018 Beg. Value - 4/1/2018 Activity - Purchases (Sales) Quarterly Unrealized G/L Quarterly Realized G/L Current Value Unrealized Gain (Loss) Portfolio Weighting YOC Current Yield Annual Income
General Electric (GE) 387.602 $13.61 $4,571 643 61 - $5,275 $(3,000) 4% 2.2% 3.5% $186
Baker Hughes (BHGE) 25.00 33.03 694 - 132 - 826 (101) 1% 1.9% 2.2% 18
Honeywell (HON) 37.31 144.05 5,365 - 9 - 5,375 1,297 4% 2.7% 2.1% 111
Berkshire Hathaway (BRK.B) 15.00 186.65 1,795 1,139 (134) - 2,800 (144) 2% 0.0% 0.0% -
United Technologies (UTX) 25.19 125.03 2,150 1,020 (21) - 3,149 10 3% 2.2% 2.2% 71
AT&T (T) 212.06 32.11 4,150 3,106 (447) - 6,809 748 5% 7.0% 6.2% 424
Time Warner (TWX) 0.00 98.77 1,892 (2,050) 159 18 - - 0% 0% 1.6% -
Verizon (VZ) 50.87 50.31 5,152 (2,936) 344 137 2,559 293 2% 5.3% 4.7% 120
Franklin Income (FKINX) 2553.02 2.31 5,770 - 127 - 5,897 1,063 5% 6.3% 5.2% 306
Walt Disney (DIS) 27.44 104.81 2,756 - 120 - 2,876 945 2% 2.4% 1.6% 46
Bank of America (BAC) 415.56 28.19 12,419 - (704) - 11,715 5,202 9% 3.8% 2.1% 249
Citigroup (C) 49.65 66.92 3,336 - (14) - 3,322 898 3% 3.7% 2.7% 89
KeyCorp (KEY) 79.13 19.54 1,538 - 8 - 1,546 670 1% 6.1% 3.5% 54
DowDuPont (DWDP) 103.59 65.92 6,563 - 265 - 6,828 857 5% 2.6% 2.3% 157
Synchrony Financial (SYF) 100.18 33.38 3,345 - (1) - 3,344 1,019 3% 3.6% 2.5% 84
Target (TGT) 9.35 76.12 645 - 66 - 711 187 1% 4.6% 3.4% 24
Kroger (KR) 113.98 28.45 2,718 - 525 - 3,243 28 3% 1.8% 1.8% 57
Starbucks (SBUX) 13.00 48.85 - 658 (22) - 635 (23) 1% 2.4% 1.0% 7
Johnson & Johnson (JNJ) 40.11 121.34 4,954 129 (216) (5) 4,866 602 4% 3.4% 3.0% 144
Amgen Inc. (AMGN) 8.29 184.59 1,403 - 127 - 1,530 104 1% 3.1% 2.9% 44
Pfizer (PFE) 149.60 36.28 4,812 408 208 21 5,427 1,028 4% 4.6% 3.7% 203
Merck (MRK) 19.69 60.70 1,043 - 152 - 1,195 137 1% 3.6% 3.2% 38
Charles River Labs (CRL) 11.00 112.26 1,174 - 61 - 1,235 101 1% 0.0% 0.0% -
Cardinal Health (CAH) 6.16 48.83 384 - (83) - 301 (138) 0% 2.7% 3.9% 12
AIG warrants AIGWS 69.00 14.50 1,935 (925) (10) (122) 1,001 (115) 1% 0.0% 0.0% -
MetLife (MET) 52.73 43.60 2,399 - (99) - 2,299 554 2% 5.1% 3.9% 89
Prudential Financial (PRU) 6.51 93.51 228 383 (2) 14 609 (9) 0% 3.8% 3.8% 23
Brighthouse Financial (BHF) 4.00 40.07 206 - (45) - 160 (30) 0% 0.0% 0.0% -
Apple (AAPL) 21.60 185.11 2,940 651 409 - 3,999 1,529 3% 2.6% 1.6% 63
Twitter (TWTR) 111.00 43.67 3,220 - 1,627 - 4,847 2,915 4% 0.0% 0.0% -
Facebook (FB) 3.00 194.32 - 499 84 - 583 84 0% 0.0% 0.0% -
CISCO (CSCO) 218.62 43.03 6,288 2,981 139 - 9,407 2,711 8% 4.3% 3.1% 289
Intel (INTC) 76.44 49.71 3,961 - (161) - 3,800 1,146 3% 3.5% 2.4% 92
Softbank (SFTBY) 12.00 35.65 449 - (21) - 428 (76) 0% 0.0% 0.0% -
Cloudera (CLDR) 2.00 13.64 43 - (16) - 27 (8) 0% 0.0% 0.0% -
Accenture plc (ACN) 5.14 163.59 782 - 59 - 841 264 1% 2.4% 1.6% 14
General Motors (GM) 81.19 39.40 2,923 - 276 - 3,199 602 3% 4.8% 3.9% 123
Procter & Gamble (PG) 8.46 78.06 555 287 (181) (208) 660 19 1% 3.8% 3.7% 24
Alibaba (BABA) 1.00 185.53 184 - 2 - 186 62 0% 0.0% 0.0% -
Wabash National Corp. (WNC) 51.00 18.66 895 164 (107) - 952 (5) 1% 1.6% 1.6% 15
Under Armour (UA) 104.00 21.08 1,492 - 700 - 2,192 584 2% 0.0% 0.0% -
Other -- -- -- 7,239 (433) 697 222 7,502 1,117 6% 2.0% 2.3% 172
CASH -- -- -- 96 (36) -- -- 59 -- 0% -- -- --
$114,463 $5,685 $4,070 $77 $124,217 $23,125 100% 3.3% 2.7% $3,349
Industry/Portfolio Companies Value Portfolio Weighting Goal Weighting Over (Under)
Industrials/Conglomerates - GE, HON, BHI, WNC, BRK.B, SFTBY, UTX $18,803.75 15% 15% 0%
Healthcare - JNJ, PFE, AMGN, CAH, MRK, CRL 14,554.62 12% 10% 2%
Financials - BAC, C, KEY 16,583.20 13% 10% 3%
Insurance - AIG*, MET, BHF, PRU 4,068.92 3% 5% -2%
Technology - AAPL, CSCO, INTC, ACN, CLDR 18,074.11 15% 15% 0%
Communication Services - T, VZ, DIS, TWTR, TWX, FB 17,674.58 14% 15% -1%
Basic Materials - DWDP 6,828.32 5% 5% 0%
Conservative Allocation - FKINX 5,897.47 5% 5% 0%
Consumer - KR, GM, TGT, UA, BABA, PG, SBUX, SYF** 14,170.42 11% 15% -4%
Other - XIN, RHE, KMG, FSI, MTZ, AVD, GPRE, TDOC, KTOS, TSLA, GE call option 7,502.07 6% 5% 1%
Cash 59.44 0% 0% 0%

*AIG TARP warrants are included in value and weighting

**Direct consumer play (read articles on profile for more info)

Sales & Purchases - There was an uptick in trading activity this past quarter because I started trading in-and-out of dividend-paying stocks in order to capture additional income.

See information below for details on how I am positioning the portfolio for the future.

Current Makeup Of Portfolio

Below is a graphic from Morningstar that captures a high-level snapshot of the R.I.P. portfolio as of the period-end.

Source: Morningstar

Full Disclosure: The AIG Tarp warrants are not included in this Morningstar analysis.

I do not want to spend too much time here but there are a few data points that should be highlighted: The holdings of the R.I.P. portfolio are attractively valued when compared to the S&P 500 on a price-to-prospective earnings basis but, in the same breath, the portfolio holdings also have lower-than-average ROA and ROE ratios. Moreover, the projected EPS growth over the next five years for the portfolio is well behind that of the average for the S&P 500.

Lastly, the R.I.P. portfolio is highly levered to cyclical companies and, as expected, Large Cap value makes up almost 64% of the total assets.

Portfolio Performance for Q2 2018 and since the portfolio was first introduced to SA community (December 4, 2015)

Return (Q2'18) Return (YTD) Return (Intro) Return On Invested Capital (Review)
3.5% 0.0% 26.7% 38.3%
This period YTD Since Intro Since Intro
Beg. Balance $114,463 $110,901 $52,610 Initial Value $46,042
Contributions 5,685 13,335 50,799 Contributions 50,799
Unrealized G/L 4,070 (19) 20,807 Realized G/L 4,251
Ending Balance $124,217 $124,217 $124,217 Unrealized G/L 23,125
Portfolio Bal. $124,217
Dividend Inc. $868 $1,707 $4,322
Realized G/L 77 1,142 4,251 Dividend Income $4,322

Full Disclosure: The American Association of Individual Investors, or AAii, prescribed calculation (The Beginning Vs. the End) was used for calculating the portfolio's return for each period-end.

The realized gains (losses) recognized for the quarter were: $199 gain in a retirement account and a $(122) loss in a brokerage account.

From an income standpoint, the portfolio's annual dividend income has grown significantly since 2016 (portfolio was first introduced in December 2015).

Note: Q3-Q4 2018 and Full-year 2018 are projections.

The portfolio's dividend income was $868 for Q2 2018, which is slightly higher than the previous quarter ($839 in Q1 2018), but significantly higher YoY ($598 in Q2 2017). Furthermore, the portfolio's projected dividend income for 2018 is ~35% higher than the income received in 2017, and this is even after factoring in General Electric's steep 50% dividend cut. Lastly, it should be noted that I do not have a specific income goal for the portfolio, but I have purposefully focused on investing in high-quality dividend paying stocks since late-2015.

The recent performance of the portfolio through Q2 2018 is nothing to brag about (and that is putting it lightly), as the portfolio has fallen behind its benchmark so far in 2018.

The poor performance was largely a result of the overweight General Electric position blowing up in my face in early 2018, and more recently the underperformance of the financials, but the strong past performance was a direct result of the investments that were made in the Financial, Technology and Communication Services sectors (see the "Looking Ahead" section below for additional thoughts on the positioning of the portfolio):

During the most recent quarter, the top performers and under-performers for the portfolio were: Performers - [1] Twitter, [2] Under Armour, and [3] Kroger; Under-performers - [1] Bank Of America, [2] AT&T, and [3] Xinyuan.

I will now spend a few minutes talking about the top performer, Twitter, and under-performer, Bank Of America, over the last quarter, which are two companies that I am very bullish about.

Twitter has been a long position in the R.I.P. portfolio for years now and I am glad that I stayed the course when investors were concerned about the company's long-term viability. I decided to add to my Twitter position when shares were in the mid-to-low teens because I felt strongly that the company was properly positioned to make an impact in the changing media space. As I described in early 2017, I was betting on the platform/product that Twitter was offering - this is still the case today, as I am bullish about Twitter's platform/current service offerings.

I still do not believe that Twitter will grow into a company that size of Facebook or Google but, in my opinion, Twitter has carved out a nice niche that really sets itself apart from the big dogs. No one really knows if Twitter is still a takeout candidate but I personally would prefer for the company to go at it alone. As you can probably tell, I believe that Twitter is a long-term buy even at today's price.

Now moving to the worst performing stock for Q2 2018, Bank Of America. This bank is the top holding of the portfolio and I have no plans to reduce my stake in this large financial institution. The poor performance for Bank Of America, and the other large U.S. banks for that matter, was a result of investors being concerned about a flattening yield curve and poor consumer confidence. As shown below, the major U.S. banks significantly underperformed the SPY in Q2 2018.

Chart BAC data by YCharts

I, however, believe that there are several reasons why investors should remain long BAC:

  1. Tax reform benefits (as described in this article)
  2. A rising rate environment
  3. Pullback of regulatory rules and requirements
  4. The capital return story (see dividend/buyback increases identified below)

Therefore, I would actually be adding to my Bank Of America holdings during this pullback if I did not already have an overweight position.

Noteworthy Quarterly News:

General News

[1] It was announced that Twitter will be joining the S&P 500 index, which caused the social media giant's stock to jump almost 5% on the day of the announcement. This news does not change the investment thesis but it should be viewed as a positive development for Twitter and its shareholders.

[2] General Electric was booted from the DOW after being a part of the index for over 100 years. Could it possibly get any worst for this once market darling?

Buybacks And/Or Dividend News:

[1] P&G increased its quarterly dividend by 4.0% (from $0.6896 to $0.7172), which makes the forward dividend yield 3.7% based on today's price.

[2] MetLife increased its quarterly dividend by 5.0% (from $0.40 to $0.42), which makes the forward dividend yield 3.9% based on today's price.

[3] MasTec announced that another $100M was added to the company's buyback program.

[4] Apple increased its quarterly dividend by 15.9% (from $0.63 to $0.73), which makes the forward dividend yield 1.6% based on today's price. Additionally, the board added $100B to the company's buyback program.

[5] KeyCorp increased its quarterly dividend by 42% (from $0.12 to $0.17), which makes the forward dividend yield 3.4% based on today's price. The bank was also authorized to repurchase $1.225B of its stock over the next 12 months.

[6] Cardinal Health increased its quarterly dividend by 3.0% (from $0.4624 to $0.4763), which makes the forward dividend yield 3.8% based on today's price.

[7] Baker Hughes, A GE Company increased its quarterly dividend by 50% (from $0.12 to $0.18), which makes the forward dividend yield 2.1% based on today's price.

[8] Synchrony Financial increased its quarterly dividend by 40% (from $0.15 to $0.21), which makes the forward dividend yield 2.5% based on today's price. The company's board also approved a buyback program worth $2.2B that ends on June 30, 2019 (only 12 months out).

[9] Target increased its quarterly dividend by 3.2% (from $0.62 to $0.64), which makes the forward dividend yield 3.3% based on today's price.

[10] Citigroup increased its quarterly dividend by 41% (from $0.32 to $0.45), which makes the forward dividend yield 2.7% based on today's price. The bank was also authorized to repurchase $17.6B of its stock over the next 12 months.

[11] Bank Of America increased its quarterly dividend by 25% (from $0.12 to $0.15), which makes the forward dividend yield 2.1% based on today's price. The bank was also authorized to repurchase $20.6B of its stock over the next 12 months.

Merger, Acquisitions and Disposals:

[1] General Electric announced that its Transportation unit will be merging with Westinghouse Air Brake Tech. Corp (WAB) in a deal that is valued at ~$11B. Details for the deal include:

Source: Company Presentation

As shown, GE shareholders will receive 40.2% of the shares in the newly created entity and GE the company will retain a 9.9% stake.

Additionally, the company recently announced that it would spin off Baker Hughes, A GE Company in an orderly fashion over the next few years and also spin off 80% of GE Healthcare into a separately traded public company. I believe that General Electric will soon be the simpler, more-valuable company that it set out to be several years ago.

[2] The Time Warner-AT&T merger was finally approved and completed. Some investors are concerned about the amount of debt that AT&T had to take on for this merger but I am very bullish about the company's long-term business prospects with the Time Warner assets now in the fold. In addition, AT&T acquired AppNexus in a push to accelerate its push into advertising.

Looking Ahead - It's Not About Tomorrow, It's About 10 Years From Now

In a broader context, I have been (and will continue to) position the R.I.P. portfolio to capitalize on a three major trends: [i] the digitalization megatrend, which includes autonomous cars and the Internet Of Things industry, [ii] a rising interest rate environment, and [iii] the changing media space, which includes how companies will be structured and how content will be consumed by/distributed to customers.

The following companies in my stock universe are the ones that I see being the biggest beneficiaries of these trends: [1] Digitalization - Cisco, Intel, Apple, Accenture, General Electric, Honeywell, GM, AT&T, and Verizon; [2] Rising Rates - Bank of America, Citigroup, KeyBank, AIG, PRU and MetLife; and, [3] Media Shift - Disney, Twitter, Time Warner, AT&T, and Verizon.

More recently, I have also been factoring in expectations for the business environment to improve over the next few years, as the current administration appears committed to creating a business-friendly environment. The widely expected tax reform bill passed in late-2017 and it significantly lowers the corporate tax rate. Additionally, I fully expect for the new administration to roll back some of the burdensome regulatory requirements, i.e., Dodd-Frank and SIFI, or at least limit new rules from being implemented, so the big banks and insurance companies will benefit from an improving backdrop.

Final Thoughts

I look forward to reading (and responding to) everyone's thoughts on this portfolio because I believe that the best investment advice is hearing opposing viewpoints and responding to constructive criticism. I try to contribute at least $1,000 per quarter to this portfolio, but sometimes it will be a little more or a little less. I will attempt to provide updates on at least a quarterly basis but I may miss a quarter or two over a 12-month span (I have not missed a quarter since late-2015 so hopefully this streak will continue in 2018).

For full disclosure, I plan to still write about these companies on a regular basis so stay tuned. And lastly, I always have these two quotes in mind whenever I make an investment decision:

Peter Lynch - "Behind every stock is a company. Find out what it's doing."

Warren Buffett - "Successful investing takes time, discipline and patience. No matter how great the talent or effort, some things just take time: You can't produce a baby in one month by getting nine women pregnant."

Disclosure: I am/we are long GE, BHGE, HON, BRK.B, UTX, T, VZ, FKINX, DIS, BAC, C, KEY, DWDP, SYF, TGT, KR, SBUX, JNJ, AMGN, PFE, MRK, CRL, CAH, MET, PRU, BHF, AAPL, TWTR, FB, CSCO, INTC, SFTBY, CLDR, ACN, GM, PG, BABA, WNC, UA, MTZ, FSI, GPRE, TDOC, AVD, KTOS, RHE, KMG, XIN, TSLA. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.