Jeremy Glaser: For Morningstar, I'm Jeremy Glaser. I'm here today with Josh Peters--he's the editor of Morningstar DividendInvestor newsletter and also the director of equity-income strategy. We're going to look at his 2015 performance. Josh, thanks for joining me.
Josh Peters: Good to be here, Jeremy.
Glaser: Josh, you manage the Dividend Select portfolio; can you talk to us about how the portfolio did last year, particularly compared with some of the big benchmarks?
Peters: First off, I've got to tell you that, in any one year, I'm not really looking at comparisons against the S&P 500 or any other benchmarks. What really makes our strategy work well over the long run is focusing on the absolute-return component. What have I got for dividend yield? Typically, I'm looking for the portfolio to get between 3% and 5%. How fast are my dividends growing? If they're growing at a 4%, 5%, or 6% type of pace on top of that yield that I'm expecting, the market can do whatever it wants. I'm seeing the value build and flow into my portfolio.
But the S&P 500 is an opportunity cost for anybody because you can go get a really cheap index fund and not have to think anymore. So, as an active manager, I expect to add some kind of value over the long run, and we did edge out the market a little bit. The S&P 500 actually dropped a little bit on a price-only basis, but throw in its dividends--which are a lot smaller than ours--and it eked out a 1.4% total return. We had a capital loss, too, but our dividends are so much bigger that our total return landed at 2.2%. It's not what I expect, on average; but there never seems to be an average year in the stock market. It's always way low or way high--nothing, really, in the middle.
Glaser: What was the driver of this? Was it just that some of the sectors that pay more dividends did better or was it more of a stock-selection story?
Peters: This was really a stock-selection story in 2015, and nothing really makes that point more than our exposure in midstream energy, where the Alerian MLP Index was down more than 30%--even including distributions. It was just a total washout for that group. There were some very real problems. You saw Kinder Morgan (KMI) cut its dividend in December. The selling seemed to crescendo a couple of times, but it always came back and continued to drop. They've still dropped even further here in 2016. There are some real legitimate challenges in that sector.
But back up to March 2014: The best decision I made in 2015 was actually in early 2014--that's when I sold Kinder Morgan. And I also sold Energy Transfer Equity (ETE) and I really pared back on my midstream exposure--not because I saw the oil-price collapse coming, but because I just felt like they didn't have any margin of safety. So, I took my midstream exposure down. The names I held--Magellan Midstream Partners (MMP) and Spectra Energy Partners (SEP)--have very, very strong balance sheets, very well-supported distributions. They're able to pass through this very difficult time while continuing to grow their distributions, I expect. So, in this sector that got hit so hard, yes, Magellan and Spectra Energy Partners were down and Enterprise, which I bought first in August, had fallen, too, but you didn't see the kind of hit to our overall portfolio that you could have. With a low-double-digit percentage of 11% or 12% in midstream energy, we should have lost money if we were just performing in line with the Alerian Index in that segment of our portfolio; instead, we edged out a gain. So, that's one good example that sometimes it's not just about the sector but about the individual securities.
Glaser: So, that was outperformance attributed to avoiding things that went wrong. What were some areas that actually did well for you in the year?
Peters: Well, energy wasn't that. I also owned Chevron (CVX). The bottom of my performance table was really littered with cyclicals that had exposure to energy as well as a stock like Chevron.
At the other end, stock-picking kind of shows up, too. I actually got good results from staples, which helped. I think that's less of a help going forward just because I think valuations have gotten a little full. But we owned some of what I think are the cheaper names in that sector. The biggest single contributor to our return was actually General Electric (GE), which is a name we've been very, very patient, very tolerant of--even indulgent with--over the years, expecting that the turnaround under CEO Jeff Immelt would pay off. And we started to see the market respond to the really dramatic changes they're making to their portfolio of businesses. You can just see the risk level in that business coming down as they shrink the financial-services operation. It's still a cyclical, but I think it's a much-higher-performing company now, not only because finance is a much smaller piece going forward but because the organic growth they're getting on the industrial side of the business has picked up, too. That's the product of a deliberate effort to invest in new products, more research--what you'd think of as the best of the GE of old.
Glaser: Josh, thanks for the update on your performance today.
Peters: Thank you, too, Jeremy.
Glaser: For Morningstar, I'm Jeremy Glaser. Thanks for watching.
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