2010 is now history and it's time to update my portfolio returns to check on my progress so far.
In 2010, my US portfolio, which excludes real estate and foreign accounts, returned (including dividends) approximately 11.3%. Comparing with the S&P 500, which returned (including dividends) approximately 15.1%, my returns are not great.
But my results don't bother me at all, because my portfolio has less risk than the S&P and does better than the S&P in down years. Let's see why. But first, let me define risk.
I don't consider risk to be equal to beta or the Sharpe ratio. That's because I don't mind price swings (which increase beta) as long as I believe that in the long run, my buying power will be maintained or increased versus inflation.
In other words, I consider risk to be the degree with which I may lose principal, either via loss of capital (due to bankruptcy, long-term loses in the underlying companies, etc) or inflation.
With that, let's dissect my portfolio a bit to understand where I trailed the market and why I should not worry about it.
Looking at my holdings and the weights they play on my overall allocation, I found out that the main reason for underperformance in 2010 was due to my bias towards large value companies. These are mainly blue chips that pay steadily-growing dividends such as HD, WMT and JNJ.
Let's look at a couple of those:
Johnson & Johnson (JNJ). The BandAid maker opened the year at $64.41 and closed it at $61.55, hence returning -4% in share price appreciation. When adding the 3.2% dividend, JNJ's total return was a negative 0.8%.
Walmart (WMT). The world's largest retailer opened the year at $53.45 and closed it at merely $54.09, thus returning 1.19% in share price. When adding its dividend of 2.2%, WMT's total return was 3.39%.
Home Depot (HD). The home-improvement retailer opened the year at $28.93 and closed at $30.21, thus returning 4.4% in share price. Adding its 3.3% dividend, HD's total return was 7.7%.
Therefore, my over-reliance on these big names caused my portfolio to lag behind the larger market.
However, as I've mentioned before, I believe my capital will be preserved better if I stay with these stocks for the long-run, as opposed to rotating in and out growth or "story" stocks throughout the year.
For the largest part of my portfolio, my goal is on dividend growth and capital preservation. As such, I believe these companies will continue doing the job. All three have been increasing dividends over the years (HD did pause for a while though, but I believe they will resume soon) and as long as my capital is safe with them, I will reap the benefits of the increasing dividends over time.
To recap my investing approach: When I invest, I look for companies with a history of sustainable dividend growth. Then I factor in this growth and current share price to determine a price I should pay now that will yield at least 11-12% dividend return over many years, with a margin of safety of between 10 and 15% (depending on various fundamental and historical factors).
For this reason, I'm quite happy with my returns so far. I will lag the S&P in good years, but I will do better in the down years (like I did in 2008).
Disclosures: I own every stock mentioned above at the time of writing.