It seems as though the benign market conditions of 2017 will soon be a distant memory. Volatility has returned and risks have increased, although the bull still seems to be resisting the bear – at least in my universe of stocks and benchmarks. I am of course kicking myself for selling my hedge on volatility (UVXY – a long position on volatility) just a few weeks before it all kicked off. It would have delivered a 200-300% gain – well, there was perhaps a 15 hour window when this would have been possible before the product, along with others of this nature, were suspended. I stopped following the story and price after that as I was more interested in the behaviour of my actual portfolio.  

The timing of the initial market correction in early February and the subsequent share price movements over the past month have proved to be perfect for gaining a deeper understanding of my portfolio. Shortly before the correction, I had developed a volatility rating system based on Stockopedia’s risk ratings that I have covered here previously. It’s not a complicated system (Cash = 0x, Conservative = 1x, Balanced = 2x, Adventurous = 3x, Speculative = 4x and Highly Speculative = 5x). I use the multiplier against each shares’ portfolio weighting to give a weighted volatility for each share and more importantly, an average for the portfolio overall. Although I don’t (yet) report it here, I actually run 7 portfolios, each with different objectives and strategies – so I have been able to view the impact of volatility through each of these lenses.  

It’s been fascinating, at least for a saddo like me it has! 

There were two shares that didn’t behave as one would expect during the market drawdowns; Anglo Asia Mining (AAZ) and IQE which also happen to be my two highest weighted holdings. I will return to these two companies later in this article. These two holdings aside, everything else behaved more or less exactly as one would expect. The low volatility holdings still fell but they fell less than the middling and high volatility holdings. In terms of recovery, the high momentum shares have tended to appreciate more readily and rapidly. 

This has given me a really useful insight into managing volatility across the various sub-portfolios that I manage. For the record, the average weighted volatility across the entire portfolio is currently 2.93 (Minimum 0, Maximum 5) and my aim is to reduce it to between 2 and 2.5 overall over the next couple of months. Moreover, I believe it will be possible to rev up volatility when the market is “risk on” and reduce volatility when it goes “risk off”. Let’s see. 

Aside from my recent obsession with volatility, I have been busy structuring and balancing each of the portfolios under the surface. In particular, I have been focused on diversifying via aspects such as company size, growth/value/quality characteristics, income profile plus other factors such as geographical earnings mix and sector/industry mix. “Natural Yield” is another key portfolio measure. Overall, it currently stands at 2.38% and I am aiming to raise this closer to 4%. 

Fundamentally, I continue to focus on the underlying business performance and prospects at a share specific level and beyond that, organise the holdings via the portfolio rules/guidelines that I am developing. I am almost ready to begin sharing these in more detail but first, I have some top slicing to do which will cascade down like magic dust to the underlying holdings/structure that I have created. In particular, I need to normalise the weighting of my two largest holdings; AAZ and IQE. Here’s where I am at with these: 

Anglo Asian Mining (AAZ)
I think most of my Twitter buddies have probably questioned my sanity by having such an overweight position in this smallcap gold and copper mining company, operating out of Azerbaijan. I first took a speculative position in this company a couple of years’ ago at around 15/16p. Since then I have built a larger position as the company has passed various milestones and my appreciation of the business has deepened. I now find myself with an overweight holding, the share price nicely consolidating at around 40p and the company on the verge of a significant re-rating, in my opinion. 

In truth, I am not minded to take too much off the table here because it gives me exposure to two key commodities via a business that I have come to know very well and a management team that have earned my trust. One has to get past the perceived political risk (personally, I believe there is more political risk in the UK and US than in Azerbaijan) and accept the volatility that comes with commodity shares (i.e. they tend to rise and fall quite dramatically in line with movements in the underlying commodity price), exaggerated in this case by a very illiquid share. It is illiquid because the company have not diluted shareholders over the years. There are only around 114m shares in issue and many of those are held by insiders (the CEO is the largest shareholder) and long-term investors which leaves a very small free float.   

By not diluting shareholders, the company have had to use to debt in order to execute their business plan, including a loan from the CEO. In the time that I have been a shareholder, the debt has reduced dramatically and now stands at a very manageable level, as evidenced by the February refinancing announcement (the timing of which was largely responsible for AAZ holding firm during the market correction). Of more interest to me, the refinancing deal has enabled more funds to be invested in exploration during 2018, the details of which should signal the next move up for the share price, perhaps gradual, perhaps dramatic. The speed of share price reaction to the next resource/exploration news will guide how much I top slice. News of whether the company starts paying a dividend this year will likely influence the level of long-term core weighting that I retain. 

I’m not sure there is much that can be said about IQE that hasn’t been said by so many people already. Despite an underlying business proposition that I think is very exciting, I am reminded of the quote by Andre Kostolany “What counts is not the quality of the shares but the quality of the shareholders.” Unfortunately, IQE has become a bulletin board favourite and has attracted a lot of short interest. This usually means trouble, especially as so many PIs seem to be running leveraged positions (I’m not judging by the way but it does make me less comfortable about my own holding – I prefer quiet and boring these days). Against this, IQE does have significant business merit and there are some serious institutional investors on board and good quality analyst coverage.  

I was fortunate to have top sliced some IQE at 180p (it’s not often I catch the top) but I then bought back in too early in the 130s before the Shadow Fall and Muddy Waters short reports came out. The former was made public the Friday before the market correction which meant that the company was vigorously defending itself the week of the correction, hence the share price behaving inversely to the wider market. I did take a little pleasure from the irony of Shadow Fall’s timing – if they hadn’t published that Friday, IQEs share price would have fallen much more the following week. When the Muddy Waters report was published later in the week, I was dismayed to see so many people selling (again). That week, I made two decent sized purchases of IQE shares (one on the Monday and the other the Friday), just either side of 100p. I have subsequently top sliced some of those at 134p.  

Unless the share price goes bonkers again in the meantime, my intention is to top slice my IQE holding quite significantly after the 2017 results are in and 2018 forecasts have been upgraded which coincidentally, also aligns with being able to sell some either side of the tax year end. It is currently c16% weighting and my intention is to normalise at around 5% weighting as a core holding.  By contrast, AAZ is more likely to be normalised in the 8-12% range but as ever, I reserve the right to change my mind as events unfold. 

Apart from these two overweight holdings, I have many other portfolio companies that will be reporting results during March and April, along with a target buy list of 17 companies (9 of which are existing holdings). My next update will likely be once I have reviewed results and executed most of the planned portfolio changes. In the meantime, if any readers fancy following my stress levels over the next month or so, I have updated the current portfolio holdings/weightings going into results season (please note – I will be revamping the portfolio analysis view over the coming weeks, so those pages are still showing data from the beginning of the year).  

Until then… 

See you on Twitter!
Simon (@BrilliantLeader) 


Disclosure – At the time of writing, I own shares in AAZ and IQE, mentioned in this article.