Meet James: He's only 20 but has a decade of stock market experience under his belt

Most people consider themselves lucky if they started investing in their 20s or 30s. Many wait until much later in life. But James, a 20-year-old Livewire reader and university student, got started at the ripe old age of 10.

Initially starting with the goal of building a deposit for a house (I wish I was so forward-thinking as an adolescent!), James soon decided to take a longer-term approach.

James employs a top-down process, with a bias towards value. He learned the hard way, early on that cheap stocks can get much cheaper if the market moves against him.

I loved hearing about James’ journey and how he’s educated himself as an investor. At just 20 years old, he’s gained more practical experience than many people do in a whole lifetime, and his knowledge and understanding of economics and financial markets are truly impressive. If he keeps it up, I’m sure he’ll realise his goal of becoming as asset manager.

I hope you enjoy reading James’ story.

Livewire Investor Profile

Biggest portfolio holding: Hazer: 24.7%

How old are you and when did your interest in investing begin? 

My interest in the stock market began at a very young age. I grew up surrounded by my extended Italian family, who were property investors, accountants, and business owners. Their conversations fascinated me.

At the age of 10, I set up my modest stock market portfolio, and I started a tropical fish breeding business to fund my ongoing equity investments, so I guess you could call me entrepreneurial by nature.

I’m now 20, and my fascination with all things finance-related has only intensified.

What is your objective from your investing?

I initially started investing to realise the great Australian dream of home ownership.

I invested my savings into blue-chip dividend-paying stocks, as I lacked the skills needed to evaluate growth shares.

After three years of writing birthday and Christmas lists consisting exclusively of shares I wanted Santa to bring, I was able to grow my portfolio to $10,000. At age 13, I could now annoy every real estate agent in Australia with my frequent property enquiries.

Realising my perfect affordable property was in a cyclone zone and therefore uninsurable, I switched my investment strategy towards a longer time horizon.

I currently have a conservative risk appetite, as I only take on additional risk and leverage when there is sufficient upside.

While profits are the ultimate objective, I have used investing as an educational tool.

I have developed my critical thinking abilities, learnt to manage my finances, and gained a more profound economic understanding through investing. My end goal is to pursue a career in asset management.

What products do you use to execute your strategy?

I primarily trade ASX shares as I prefer to avoid currency risk. Currently, I’m only holding shares; I have, however, dabbled in options trading.

I would recommend avoiding the ASX options market as it is too illiquid. My profits have been cut north of 20% because of the spreads.

How would you describe your strategy?

I deploy a top-down approach to investing, deciphering economic policies to predict macro catalysts.

With this information, I attempt to find and exploit market inefficiencies by deploying a value-based investment approach.

I emphasise investing in companies that are in a strong competitive position.

Economic policy

Realising that economic factors drove my initial returns, I attempt to forecast factors that influence investment returns, namely inflation, interest rates, and real economic growth.

Currently, my investments are geared towards an inflationary and potentially low interest rate environment.

I have engineered this strategy as trillion-dollar US budget deficits are forecast to continue throughout the decade, increasing publicly held US debt to around US$30-35 trillion.

Unfortunately, the long-term appetite for US debt remains subdued, distorted by the US Federal Reserve's quantitative-easing program, which indirectly purchased 77% of all new debt issued during COVID.

In the absence of quantitative easing, yields would likely need to double to induce the demand required to absorb the growing supply of US debt.

This could increase US net interest expenses to 20% of government revenue by 2030 if yields rose to a modest 3%.

I believe the Fed is attempting to avoid this outcome by financial repression. The Treasury is exerting significant influence over the Fed to finance President Biden's social infrastructure programs.

In recent 10-year Treasury forecasts, the average yield on US debt remains below forecasted inflation, providing a negative real cost of debt.

I believe government officials are attempting to generate moderate inflation to gradually inflate away the US debt burden.

For various reasons, I’m assuming that US debt will continue to grow, entering into an era of fiscal dominance.

Over the medium term, monetary policy should continue to play a subservient role to fiscal policy.

If US debt increases while real yields remain negative, crowding out would occur as financial inflows decrease.

This may result in economic stagnation as increased debt levels coupled with reduced financial inflows should result in import inflation and the crowding out of funds from the private sector, whose expenditure delivers a significantly higher increase in GDP than government expenditure.

I only expect rates to rise back to their equilibrium level when the political cost associated with stagflation outweighs the financial cost of higher interest payments.

This could occur when the majority of US debt is held by intergovernmental organisations and the Federal Reserve, as interest payments would flow back to the Treasury, reducing the cost of debt.

I can envision a scenario where rates are raised earlier without adequately reducing persistent budget deficits. This would only delay and exacerbate future inflation.

I expect inflation will remain elevated over the next 20 years, with inflation averaging 3-7%.

It should be noted that assets are excluded from inflation gauges, and asset prices will probably inflate more.

Value investing

I attempt to deploy a value investing approach, seeking companies that can provide high stable returns.

My preferred metric is: Operating cash flow – sustaining and maintaining capital expenditure/enterprise value – any other non-revenue generating assets.

This formula derives a sustainable perpetual unlevered dividend yield, and it is superior to the EBITDA/EV ratio, which excludes taxes and capex.

I believe more investors should adopt this metric as it helps to mitigate confusion associated with evaluating the impact of capex and depreciation schedules.

Admittedly, it has some drawbacks, as it is difficult to distinguish between growth capex and sustaining and maintaining capex.

Sustaining and maintaining capex needs to be included in the perpetual yield, as it is required to maintain the current level of operating cash flows.

I exclude growth capex, as it provides additional future cash flows unaccounted for in the formula. Consideration should be applied to companies with:

• High net present value growth projects in the pipeline
  
• Significant debt loads, which increases the levered perpetual yield
  
• Limited franking credit balances.
  

In the current environment, I search for companies with a minimum perpetual yield of 6-8%, depending on their cyclicality and competitive positioning.

Competitive positioning

I look for companies that are in a strong and sustainable competitive position.

I analyse factors including:

• Customer loyalty
  
• Bargaining power
  
• Pricing power
  
• Economies of scale
  
• Cost curve positioning
  
• Expansion opportunities
  
• Strength of intellectual property
  
• Threat of potential obsolescence through innovation
  
• Availability of substitute products
  
• Threat of new entrants
  
• Industry positioning
  
• Impact of possible structural changes.
  

Through applying these filters, I believe that I have avoided value traps, including A2 Milk (ASX: A2M).

What are your top five holdings in percentage terms? Why?

1. Hazer Group (ASX: HZR): 24.7%
   
2. Origin Energy (ASX: ORG): 24.6%
   
3. Resolute Mining (ASX: RSG): 7.4%
   
4. Rio Tinto (ASX: RIO): 18.9%
   
5. Tassal Group (ASX: TGR): 11.09%
   

Hazer

Hazer is the ultimate speculative play, offering significant upside through their carbon-negative biomethane-cracking hydrogen production process.

The process provides substantial advantages over steam methane reforming, which emits 10-12kg of CO2 emissions per kg of hydrogen produced.

Hazer captures these emissions through their graphene by-product, providing an additional revenue stream, effectively transforming natural gas into a near emission-free energy source.

Using a biomethane feedstock, Hazer achieves carbon abetment of 150 tonnes per ton of hydrogen produced.

Hazer can easily obtain a multi-billion-dollar (currently $250 million) market cap if successful in scaling up and licencing their technology.

I am quietly confident that this can be achieved. However, I’m concerned that their technology may be reversed engineered if successful.

Origin Energy

I purchased Origin in April as their 37.5% stake in APLNG and their 20% stake in Octopus justified their $7 billion market capitalisation and potentially their $11.5 billion enterprise value.

I calculated the value of Origin’s APLNG stake at $8.9 billion, assuming a 9% weighted average cost of capital and conservative annual cash distributions of $800 million.

I’m incredibly bullish on the LNG outlook over the short term as LNG prices should continue to rally as the Northern Hemisphere enters winter.

While much of this supply crunch is temporary, I believe structural elements relating to the global energy transition will persist, holding LNG prices above US$10 for the foreseeable future.

Origin’s robust generation portfolio remains attractive, primarily incorporating modern gas-fired power stations.

The Beetaloo Basin Gas project should deliver further upside. However, I am wary of APLNG’s multi-billion-dollar legal dispute with upstream gas developer Tri-Star, which may be responsible for the relatively low sale price of $2.12 billion for 10% of Origin's APLNG stake.

Resolute Mining

Resolute mining serves as a levered bet on rising gold prices, having the lowest market capitalisation to production rate of 1,471 and the highest all-in sustaining costs.

This goes against my typical strategy of investing in companies at the bottom of the cost curve. I did this as I wanted to gain significant leverage to the price of gold while lowering my opportunity cost of investing in historically lower-yielding gold stocks.

I made this investment as gold could potentially enter an extended bull market if inflation persists.

I can see significant value through a sum of the parts valuation. Resolute’s non-operating assets, including equity investments and notes receivable, stand at $226 million.

This figure excludes $150 million in upside payments associated with the Ravenswood sale.

This investment has significant risks as Resolute faces significant production headwinds at Syama while facing a $77 million tax dispute with the Malian government.

Rio Tinto

Rio Tinto is an attractive value proposition given its fully vertically integrated low-cost aluminium business and its growing copper portfolio. Rio Tinto’s shares-outstanding and net debt has steadily decreased, justifying their increased price.

Aluminium and copper demand remains robust from increased demand from the construction, electronics, electric vehicles, and renewable energy sectors.

Rio’s aluminium portfolio is attractive as China, responsible for 56% of global production, implements caps on production, which is expected to curtail after 2024, exacerbating the aluminium shortage.

Tassal

I invested in Tassal as a reopening play at the start of this year, expecting that salmon prices would rebound from increased restaurant demand.

I initially realised this thesis as salmon prices rose 50% in three months. Unfortunately, supply has caught up to demand as the Northern Hemisphere salmon harvest was larger than expected, because farmers reduced their 2020 harvest.

I expect salmon prices to rise as Northern Hemisphere harvesting activity decreases over the winter.

Salmon prices are currently 50% off their pre-COVID peaks compared to other meat prices, providing considerable upside.

I’m personally optimistic with Tassal’s outlook as the company maintained a 4% yield despite COVID-induced operational headwinds.

Tell me about your worst investment.

Decimal Group is by far my worst investment. I originally purchased it in 2013 off the back of a 20% decline, banking on the continued growth of their mining engineering business.

Unfortunately, commodity prices across the board entered into an extended slump — and so did my investment. I am currently down 98%.

If I sold my position, I would lose money as the $10 brokerage fee is worth more than my $8 position. From this mistake, I learnt to deploy a top-down approach to investing.

How do you deal with losing positions?

I’m a subscriber to Benjamin Graham’s Mr Market analogy, which describes the market as an emotional and often irrational being.

Graham says the market is there to serve you, not guide you, and that it is a voting machine in the short run, but a weighing machine in the long run.

I have learnt to slowly buy into positions from these lessons, re-evaluating my holdings as the market evolves.

I continue to buy into losing positions if I have a strong understanding of the underlying business and my conviction remains unchanged.

How does Livewire help with your investing process and what tips can you share with other investors about using Livewire?

Livewire is an excellent platform for all things investment-related. Your high-profile contributors provide a wonderful insight into current market dynamics.

Best of all, as a fledgling, poverty-stricken, university investor, I am grateful for Livewire's free and high-quality content.

Do you have a favourite contributor you recommend other investors follow?

My favourite investors are Ray Dalio, Michael Burry, and Catherine Wood, as they are vocal with their economic outlooks.

I love hearing the conflicting deflationary and inflationary arguments they present. I do my own research, but their strongly worded arguments serve as an excellent starting point.

What is the topic you would like fund managers to write about?

I would be ecstatic if Jim Simons wrote an in-depth book explaining how the Medallion Fund cracked the market to achieve a 70% annualised return since 1994.

Somehow I think that’s not going to happen, and I would probably struggle to understand the maths behind their complex event-driven Markov chains.

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