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    A macro view on globalisation from a top bond manager

    A presentation from a top asset manager this morning and the release of the monthly outlook from global bond fund manager conveyed a similar message. The fund manager’s view was, either the capitalism system is broken or equity markets are mispriced. Pimco’s article was titled, “The Future of Investing, Evolution or Revolution?”

    We have discussed Pimco’s views in the past. They have been in a fantastic space over a very long period of over 30 years, i.e. bond managers in a period of time when bonds produced very good consistent returns for investors. Most of their investors have been pension funds and so tax is not a predominant consideration for higher yielding assets.

    The firm, which manages into the hundreds of billions of dollars has maintained a close relationship with government and indeed are one of the preferred players in the latest package announcement, the PPIP – Public Private Investment Program, where the US government will lend money to funds managed by the likes of Pimco, gearing up private money, to be used to buy high yielding debt from financial institutions at discounts to their current face value. As a fund manager, Pimco and their clients will definitely benefit from this deal, underpinned by the government. Bill Gross of Pimco has called it a “win, win win”

    Thus Pimco is not shy to pronounce that its motto has and is “shake hands with the government”. I.e. lending money to the government has been a winning strategy for the firm for 30 years.

    Only now he says in the same sentence, “Shake hands with the government is and has been our motto although the contractual certainty of a government handshake may now be questioned in an increasingly number of marginal areas.” Our emphasis

    In his investment outlook he discusses 3 main top down trends in global markets:

    o Delereving

    The leverage process was growth positive. Now the delevering process has begun with a bang. He questions whether too much debt can be cured by the issuance of even more debt. They do think that there is a near certain probability that the financially based global economy of the past half century will not return

    o Deglobalisation

    Global growth provided some adrenaline to markets, now we are seeing the beginning stages of protectionism and trade barriers, which is not growth enhancing.

    o Regulation

    The economic philosophy of free markets and capitalism is being called into question from a multitude of interested parties. The increase in government ownership and control of industries is a significant move away from the free market model that has dominated for the past 25 years.

    If this is the way the world is heading, then he points out that there may be a greater emphasis on surviving as opposed to thriving. However because asset prices have fallen so dramatically – even corporate bonds – which appear to be priced at attractive levels, he says that asset classes near the perimeter of risk have a definite future because they will eventually be priced right.

    So it’s not all doom and gloom. A new environment, but definitely one with opportunities.


    Ian de Lange
    021 9144 966

    Permalink2009-03-31, 17:21:36, by ian Email , Leave a comment

    Dow Jones Industrial Average

    On a daily basis the movement in the Dow Jones Industrial Average is both widely quoted and followed. Its one of, if not THE original stock market indices. Watching the movement of an index definitely gives an indication of the market direction, but the more astute investors will always look past a broad index, concentrating more on each specific share in their portfolio.

    The Dow Jones Industrial Average (DJIA) was created by the Wall Street Journal editor and Dow Jones & Company co-founder, Dow Jones, in 1896. It originally represented the average of 12 stocks from the US and the average value commenced at a value of 40,96.

    Of the original 12 stocks that made up the average, only 1 remains in the index, namely General Electric. It however was removed in 1989 and returned back in 1907.

    Included at the time were American Cotton Oil, American Sugar, American Tobacco, Chicago Gas, Laclede Gas, US Leather pfd, US Rubber and National Lead.

    The number of stocks was increased to 20 in 1916 and to the current 30 in 1928.

    The index is a calculated as the sum of the prices of all 30 stocks, divided by a divisor. This divisor was initially 12, being the original number of shares, but has been adjusted for the 30 stocks and for stock splits, company spinoffs etc.

    Being a price index it therefore equally weights all companies, irrespective of the relative sizes.

    As with all indices, the components that comprise the index are changed regularly. As companies fall in relative size and importance, so they are dropped off the index in favour of “in favour” larger companies. Therefore as with market weighted indices, there is a greater emphasis on companies that have already moved up in price, while dropping off companies that have fallen substantially.

    This is akin to an investment approach of selling after a share price has fallen substantially and buying after it has risen.

    For example, Microsoft and Intel were added to the Dow 30 in November 1999, AIG added in 2004 and Bank of America added in February 2008 – i.e. after they had already experienced large price appreciation. AIG was dropped in September 2008 as it went into effective nationalisation.

    General Motors Corporation was included in the index in 1925, when the index was at 20 constituents. The price is now at $2,72 from over $90. The price fell substantially today, but because of the low price, it does not make too much of an impact on the index.

    GM and Citigroup have been dropped from the Global Dow list of 150 shares.

    There has been a lot of debate about whether stocks like GM should be dropped from the average, especially given the fact that index buyers are essentially buying into shares which are not even in the top 500 of US companies by size.

    Bank of America and Citigroup have also struggled, falling to $6,45 and $2,39 from over $50 each.

    Looking at the detail of how often companies have been swapped out in this relatively simple index over the years, and indeed how the inclusion into an index does not somehow afford immunity from a large decline, it is evident that blindingly following in index is not a considered investment approach.


    Ian de Lange
    021 9144 966

    Permalink2009-03-30, 17:52:13, by ian Email , Leave a comment

    Global currencies

    A cursory look at the headlines across the globe continues to highlight the ongoing problems in the global economy. Weak economies have impacted stock markets, but they also play a large factor in the movements of one currency versus another.

    The heads of the G20 meet late next week. One of the discussion points is going to be global currencies and specifically the role of the US dollar as the world’s only reserve currency.

    Economic news from Europe indicated that manufacturers saw orders plunge by a third in January compared to a year back, according to the FT. Based on this information it appears that the GDP for the first quarter is likely to contract by more than the 1,5% of the 4th quarter.

    The key central bank interest rate for the euro is currently 1,5%. It will drop either 0,25% or 0,5% next week. The ECB has been far slower in lowering interest rates compared to the UK and the US.

    The euro fell against other currencies. It fell back over 1,5% today to around $1.3288

    The Pound also fell against the US dollar with Britain’s GDP declining in the 4th quarter by 1,6%, slightly higher than the forecast of 1,5%.

    The US Dollar index tracks the US dollar against the euro, yen, pound, Canadian dollar, Swiss franc and the Swedish krona. It is trading at around 85 up from 82 a week back.

    US Dollar index

    Ironically therefore the dollar remains relatively strong, despite the massive intervention from the government and the Federal Reserve in trying to devalue the currency. The reason is that the other currencies against which it is measured are just as weak.

    For many years the talk from US secretary treasurers has been that of a strong US dollar, but the actions of the Federal Reserve now clearly demonstrate a desire to weaken. Increasingly exporters, especially China are getting edgy about the weakening US dollar, especially when they own so many of them in the form of dollar denominated debt.

    The rand weakened to R9,60 dollar.

    In a world where one currency merely floats against another, with not one having an intrinsic underpin and each economy is trying to weaken the unit to remain competitive, it becomes a difficult business trying to assess which currency to allocate funds to.

    This is one reason why gold as measured in various currencies appears to have a generally long term uptrend, when measured against paper.

    On that note have a wonderful weekend.


    Ian de Lange
    021 9144 966

    Seed Investments provides advice and ongoing investment management to Private Clients. If you would like to discuss further, please contact Vincent Heys on contact details above or vincent@seedinvestments.co.za

    Permalink2009-03-27, 17:38:45, by ian Email , Leave a comment

    Strategies for a sideways market

    There is one view that proposes that the US equity markets really peaked in 2000 and since then have essentially been in a generally sideways pattern, bottoming out in 2002 and peaking again in October 2007, only to drop substantially back again to their current levels. It is possible that in total this up and down pattern may yet persist for many years to come.

    The last time that global markets went through such an extended sideways pattern was from 1966 – 1982

    The chart below reflects some of this time period.

    S&P500 1961 - 1979

    Source: Sharelynx.com

    Typically a strong bull market is followed by a long period where prices in general don’t move up, but end up flat.

    During this period however they are likely to experience strong up and down moves as can be seen on the chart above. Prior to the last bull run in the US which started around 1982, the period 1966 to 1982 was characterised by a sideways market.

    In such a market, a common occurrence is for two important elements of total return to work in contradiction to each other. i.e.

    o Corporate profits are rising steadily ; but
    o The prices that investors are willing to pay for profits are contracting. i.e. PE multiples are contracting.

    These sideways markets come after a period of where price multiples are extended above average and so the excess valuations need to be worked out of the system.

    Naturally a worse scenario is where both corporate profits continue to fall and investors pay a lower multiple for these earnings.

    In a sideways market investors don’t want to be buy and hold investors. i.e. they should not be buying an index with the view that it will outperform 10 years.

    In these markets a more appropriate strategy is active management and selected stock picking. A value bias tends to outperform a growth bias.

    Kind regards

    Ian de Lange
    021 9144 966

    Permalink2009-03-26, 18:12:03, by ian Email , Leave a comment

    A Look at some Local Economic Indicators

    Stats SA today released the February inflation figure, with the 12 month figure not only higher than January, but also some 0.4% above consensus. The Reserve Bank now targets headline inflation, as opposed to the previously targeted CPI-X (inflation less mortgage payments), and this was measured at 8.6% for the 12 months ended 28 February 2009.

    We all now know that the repo rate (the rate at which the Reserve Bank lends to banks, and to which the prime lending rate is linked) was dropped by 100 bps (1%) yesterday, after Tito Mboweni earlier in the month announced that MPC meetings will be happening more frequently this year.

    Assuming that Mr Mboweni was informed by Stats SA that inflation was going to increase (and be higher than consensus) it might confuse the general population that rates were cut in light of them having been told ad nausea over the last 30 months or so that rates were rising due to the increasing rate of inflation. Remember rising interest rates typically reduces the public’s ability to borrow, which in turn generally cools spending.

    Below is a chart of how inflation and the repo rate move in tandem:

    We are, as you are well aware, living in extraordinary times, and with the economy contracting in the 4th quarter of 2008, and looking likely to do the same in the first quarter of 2009, the governor needs to attempt to stimulate the economy, and this is down through dropping rates to encourage borrowing, and hence spending.

    During the course of the increasing interest rate cycle there were economists who were saying that growth was being killed purely to get inflation back into the 3 – 6 % target range. During this period there was still buoyant growth in the economy, and the SARB steadfastly stuck to its inflation targeting mandate. The economists argued that economic policy takes a while to be felt in the economy, and that despite to economy continuing to grow the potential for a slow down was evident.

    Now that we’ve had a quarter of a contracting economy, it makes it more palatable for the MPC to pursuer policies that will encourage growth, while not focussing exclusively on inflation.

    Investors will naturally continue to monitor these and other economic indicators as they are released to gauge how the economy is doing, but they must be wary of totally relying on these indicators to time their entry into the market, and the market typically turns before the economy.

    Take care,

    Mike Browne
    021 9144 966

    Permalink2009-03-25, 18:21:01, by Mike Email , Leave a comment

    Lower interest rates in SA - higher inflation in the UK

    As widely expected the Reserve Bank dropped interest rates by a further 1%, which should allow banks to lower their prime rate to 13%. They have been criticised for being a tad behind the curve when compared to their global counterparts who are virtually at rock bottom with interest rates.

    While noting that the global economy has continued to weaken significantly, which has now also impacted the South African economy, the focus is still very much on the outlook for inflation.

    The last number that was released was January inflation at 8,1%, where it is expected to average for the first quarter of 2009.

    The Reserve Bank then expects inflation to drop to below 6% in the third quarter of 2009.

    Reserve Bank governor, Mboweni notes that global “growth” as estimated by the IMF was dropped from 0,5% in January to the current expected contraction of up to 1% in 2009. World inflation is constrained by declining demand and lower commodity prices.

    However the IMF is notoriously behind the curve in their forecasts.

    But while inflation is likely to ease back in South Africa, giving the Reserve Bank the opportunity to lower interest rates by a possible 2% for the rest of 2009, G7 countries are trying to stimulate price increases and avoid deflation. They have been relatively quick to drop their key interest rates to almost 0%.

    At the same time Switzerland, the UK and US have started programs of printing of money to introduce into the financial system. The number one aim is to avoid price deflation and to try and stimulate inflation.

    There are some signs of green leaves in this regard. Today the FT reported that UK inflation for February defied expectations to rise for the first time in 5 months. Their CPI index rose by 3,2% for the year to February. This was higher than economists had expected.

    The local Financial index gained some ground, but the market as a whole was down 1,47% - still up strongly for the month to date.

    The US markets opened weaker after Monday’s incredible up day.

    UK and Europe markets are down.

    The Rand is trading at R9,46/dollar, R13,83/pound and R12,77/euro.

    Kind regards

    Ian de Lange
    021 9144 966

    Permalink2009-03-24, 17:12:19, by ian Email , Leave a comment

    Trying to avoid Deflation

    The ongoing scare of deflation around the world has kept governments at full pace working on plans to get increased spending and borrowing plans passed. Armed with the knowledge that the 1930 depression was possibly exacerbated by contraction in money supply which the government authorities were unable to reflate, they are now trying all in their power to avoid just that.

    As far back as 2002 when there was concern of deflation, when Ben Bernanke made a speech to the National Economics Club, titled “Deflation – Making Sure “It” Doesn’t Happen Here.”, he said

    “But the U.S. government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost. By increasing the number of U.S. dollars in circulation, or even by credibly threatening to do so, the U.S. government can also reduce the value of a dollar in terms of goods and services, which is equivalent to raising the prices in dollars of those goods and services. We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation.”

    We have mentioned this speech a few times over the past years. Now for the first time since the global financial crisis, central banks are firing up their printing presses in order to increase the volume of money in circulation and so drive up prices of real assets, relative to the currency – i.e. devalue their currencies.

    For sure it’s a very dangerous game. Over the years the debt driven US economy required more and more debt to drive up growth. Again in order to first stop the decline in the economy and then to sustain an element of growth, the printing presses will have to work harder and harder.

    Today the US Secretary General, Tim Geithner unveiled a more detailed plan that will see the US government buying so called toxic debt assets from banks, looking to spend up to $1 trillion. It will do this via appointed private asset managers, essentially gearing up their efforts to buy riskier debt from banks.

    What do they hope to achieve?

    o They are looking to keep interest rates low.

    o Banks need to get rid of their unmarketable assets – high risk loans – to strengthen their balance sheets and allow them to concentrate on normal lending operations.

    o The US is looking to weaken the relative strength of the US dollar.

    o They want to stop the nominal prices of real assets, especially houses but also shares, from a continual downward slide.

    So while not buying the bad assets directly, government will back private/public partnerships and provide an underpin to them. Some of these managers include bond kings Pimco, who sit in a wonderful position with the full backing of government in the assets that they are asked to go and buy on the open market.

    Because the US is issuing substantial debt, it needs to generate the demand for this debt, in order to keep the interest rate low.

    It may fool the market for a while by having the central bank print the money to buy the bonds that it is issuing, but ultimately lenders of capital will demand a realistic interest rate for the ongoing risk of devaluation that they are experiencing.

    The yield on the 10 year US government bond, which went below 2,5% last week is now at 2,63%.

    It’s no surprise that assets such as oil and shares denominated in a weakening currency are up strongly in price.

    Kind regards

    Ian de Lange
    021 9144 966

    Permalink2009-03-23, 17:30:49, by ian Email , Leave a comment

    A growing differential in values

    Many investment analysts have looked back over the years to try and identify similar periods in history when asset prices fell substantially. When trying to identify probable outcomes, it’s wise to go back into history, if the assumption that there is an element of mean reversion in markets.

    This table below was produced by Equius Partners and is not only the S&P 500 index but also other indices since 1926.

    It gives an indication of the declines in US markets at various times. The current bear market is also highlighted.

    What is common across these prior declines is the subsequent recoveries over the next 5,10 and 15 years, so that investors received a very attractive compounded return, from a low base.

    Looking back at the subsequent compounded 5 year return from the low levels in history:

    o From June 1932. 34,8% compounded return for next 5 years
    o From March 1938. 13% compounded return for next 5 years.
    o From September 1974. 16,8% compounded return for next 5 years.

    One global asset manager with a proven ability has been steadily increasing the forecasted real return as prices of assets have come down. Their latest outlook for real returns for various assets over the next 7 years is as follows:

    o US high quality equities – 14,5%
    o International equities – 15%
    o Emerging Equities – 14,5%

    On the other side of the scale, US government bonds are currently priced to give a compounded 1,4% annual real rate of return over the next 7 years.

    The problem with either an historic or a forward compounded return, is that it is not produced in a linear fashion. Returns from equities may well provide 15% compounded real return over the next 7 years, but for the next 12 months or 24 months they could still go negative.

    One year, let alone 2 years is a VERY long time for most investors, especially when they are following the gyrations of their portfolio on a day by day basis and month by month basis.

    With yields on bonds driven low and yields on equities driven up (i.e. prices down) – the differential in pricing between these 2 main classes of investment is getting greater and greater.

    It’s an exciting long term story developing.

    That’s all for today

    Have a super weekend and perhaps the South Africa can pull off a win with the cricket.


    Ian de Lange
    021 9144 966

    Permalink2009-03-20, 17:19:27, by ian Email , Leave a comment

    The US Fed to print more money

    Yesterday the Federal Reserve announced that it would step up its program of increasing US monetary base by buying $300 billion of treasuries over the next 6 months and increase its program of buying mortgage backed securities by $850billion. This will expand the US Federal Reserve’s balance sheet by over $1 trillion, taking it up to over $3 trillion.

    The headline say “Dollar rally crumbles as Fed ramps up Printing Press”

    The aim of the US Fed is to lower borrowing costs, increase liquidity, allow mortgages to be issued to homeowners and ultimately slow the price decline of houses and other assets.

    But there are many questions, as to how this process works : Some questions you may be asking:

    How exactly does this work in the US. If the government can print money, why does it also need to issue bonds, i.e. issue debt instruments on which it has to perpetually pay interest. The debt exposure has climbed and climbed and is now around $11 trillion – heading back to the equivalent of the US GDP.

    If the government is “printing” so much new money, then why did the interest rate at which investors are lending the US money – i.e. the yield – drop so sharply from just over 3% to around 2,47% yesterday.

    With such a massive contraction in global wealth, just who is going to fund the US government’s obsession to plug all the holes in the banking system.

    Let’s look at a few answers from Ellen Brown who wrote a book titled, Web of Debt and who has a very good understanding of the mechanics.

    One needs to understand that the US Federal Reserve is a quasi government organisation, created in 1913. It acts as lender of last resort and this is what we are seeing now. It comprises 12 regional privately owned Federal Reserve Banks. These include the New York Fed, which are not federal agencies.

    The Federal Reserve has the ability to create money.

    According to Brown, “The Fed originates the money it lends, either on a printing press or with accounting entries. It can purchase Treasury debt simply by writing credits into the “reserve account” of the seller’s bank, which then credits the seller’s account. The Fed’s ability to write numbers into an account is obviously unlimited; but it has normally restricted its purchase of government securities to only so much as is necessary to provide the liquidity needed for banks to cash and clear checks. Funding the government’s budget shortfall has usually been left to private lenders; but those loans are drying up, and servicing them is proving expensive.”

    Now this is exactly what they are starting to do – print and buy newly issued debt issued by the US Treasury, which IS the US government. The government sits with the ballooning debt – which needs to be serviced with interest, while the “private” Federal Reserve inflates its assets – see graph.

    The gnawing question is why does the government – which supposedly has the ability to create money – have to actually issue debt. Why don’t they merely print money and spend it buying banks, spending on construction etc – whatever they think is necessary to bolster the economy.

    This is largely Brown’s main argument. She says, “When you understand this sleight of hand, the way out of the government’s debt trap appears equally simple: Congress could just nationalize the Federal Reserve and print Federal Reserve Notes itself. This government-issued money could then be either spent or lent into the economy to get the wheels of production rolling again.”

    Bernanke originally announced the idea of buying Treasuries in December, but in papers even a few years back he mentioned this possibility.

    The Bank of England announced similar moves as did the Swiss National Bank.

    Longer term, with the supply of bonds on the rise as government’s expand and encroach on economies, its very difficult to see how yields on long term debt can stay at low levels. For the time being however this is the bull market.

    10 Year Treasury Note

    Clearly a correct assessment of the long term bigger picture was very beneficial. Lower and lower interest rates from a peak in early 1980’s drove up returns on bonds and also real assets.

    Now with interest rates at record low levels and governments having to step up borrowings, lenders are not being rewarded for the risk of a devaluing currency.

    Strategic and tactical asset allocation becomes hugely important for all investors. If you have not had a thorough assessment of your asset allocation and the longer term implications, then don’t hesitate to contact us. Mail Vincent on Vincent@seedinvestments.co.za

    Kind regards

    Ian de Lange
    021 9144 966

    Permalink2009-03-19, 16:44:23, by ian Email , Leave a comment

    Anglo American Completes AngloGold Ashanti Disposal

    Anglo American Plc, previously the largest listed company on the JSE but now fourth after BAT, BHPBilliton, and SAB Miller, today completed the sale of its holding in AngloGold Ashanti Ltd (AGA).

    AGA is a significant global player in the gold industry, producing 7% of global production in 2007, and trades in its current structure after a merger between AngloGold (formerly Vaal Reefs Exploration and Mining Company Ltd – incorporated in 1944) and Ashanti that was completed on 26 April 2004.

    Former Anglo American CEO, Tony Trahar, announced plans a few years ago to streamline operations. One of the decisions was to gradually dispose of its stake in AGA (where it was the majority shareholder). This decision resonated with AGA CEO Mark Cutifani, appointed in November 2007, who believed that more value would be created for shareholders if the Anglo American stake was sold down than if they retained their holding. Cynthia Carrol, current CEO of Anglo American appointed in March 2007, continued with her predecessor’s plan and subsidiary’s wishes and executed the transaction over the last couple of years.

    Anglo American sold the last of its portion (11.3%) this morning. The trade of 39 911 282 shares at R 319.50 ($ 32) went through this morning as a Corporate Finance Trade. Total proceeds of the sale of R 12.75bn ($1.28bn) will be used for general corporate purposes as disclosed by Anglo American in their SENS announcement this morning.

    Anglo’s holding at the end of 2008 had been 16.2%, they therefore sold an additional 17.3 million shares over this period and they were sold at an average price of $28.32.

    The 11.3% stake in AngloGold Ashanti was taken up by John Paulson’s hedge fund company, Paulson & Co. Paulson has been extremely successful recently, taking advantage of subprime issues by shorting many of the securities into the bursting of the housing bubble. His investments personally netted him $3.5bn in 2007 as the company’s Credit Opportunities fund returned 590% net of fees. He is now 76th on Forbes’ Billionaires list for 2009 with a net worth of $6bn.

    The $1.28bn investment makes Paulson & Co one of AngloGold Ashanti’s largest shareholders.

    The market clearly liked this fact as the share immediately traded 2.13% higher than yesterday’s close. It is logical that other investors will see this large stake by such a successful manager as a strong buy signal, and as such it isn’t surprising that AGA ended the day up 1.31% while the gold sector was down 2.08%. The gold sector, excluding AGA, returned -4.94% for the day.

    Good luck to the cricketers tomorrow!

    Take care,

    Mike Browne
    021 9144 966

    Permalink2009-03-18, 17:42:41, by Mike Email , Leave a comment

    Asset prices can affect reality

    George Soros is a long standing hedge fund manager that takes a top down macros view of the world. He has made mistakes, but has also taken big bets which have paid off. His thesis is that there is an ongoing 2 way connection between markets and underlying reality such that markets not only passively reflect reality but also affect reality.

    A prime example of this ongoing two way connection between markets and underlying economy would be house prices.

    Especially in the US as these rose in price – through cheap credit – it had a positive effect on the economy through the so called wealth effect.

    Home owners, with increased wealth through the sheer gains in their asset values and the ability to extract the wealth, did what they do best – they spent.

    The high level of spending in turn boosted corporate profitability and so the cycle went.

    Now the reverse is playing out and no one is quite sure as to where the bottom is for the economy.

    Wachovia economic group released an economic report indicating that US household net worth continues to plunge at an alarming rate, with consumers losing around $13 trillion in net worth since a peak in mid 2007.

    They estimate that the value of US households and non profit organisations ended 2008 at $50 trillion, down $11 trillion in 2008 alone. These declines are triple the declines of 2000 – 2002 when the dot-com bubble burst. Also the current cycle have been broad based across both financial assets and property assets.

    $13 trillion is the current size of the US GDP, so a substantial amount of wealth has been eroded in a short space of time.

    Source : Wachovia

    That’s all for now


    Ian de Lange
    021 9144 966

    Permalink2009-03-17, 20:05:51, by ian Email , Leave a comment

    Are global markets looking to rally?

    The past week offered a glimmer of hope for global markets and the ongoing debate that we are seeing from investment houses is when and to what extent they need to increase exposure to equities.

    Naturally many investors are paralysed, having lost capital with the markets falling over 40% locally from highs a year back.

    In a recent article penned by Jeremy Grantham of GMO, he made the following points – summarised here - in a report titled “Reinvesting When Terrified”

    o An investor must have a battle plan for reinvestment and stick to it.
    o A year back their 7 year outlook for various equity categories reflected negative returns. Now the same outlook is indicating a compounded real of between 10% and 13% per annum.
    o They believe that the S&P is worth around 900, assuming normal PE’s applied to normalised earnings; however
    o They do concede that there is a 50/50 chance that the S&P500 could fall back through the 600 level – i.e. markets could still get cheaper in the shorter term.

    After saying that they have increased their equity weighting and will continue to do so if the market falls further, he makes the following conclusion:

    “Perversely, seeking for optimality is a snare and delusion; it will merely serve to increase your paralysis. Investors must respond to rapidly falling prices for events can change fast. In June 1933, long before all the banks had failed or unemployment had peaked, the S&P rallied 105% in 6 months. Similarly, in 1974 it rallied 148% in 5 months in the UK! How would you have felt then with your large and beloved cash reserves? Finally, be aware that the market does not turn when it sees light at the end of the tunnel. It turns when all looks black, but just a subtle shade less black than the day before.”

    Today a technical market report that we receive also mentioned the possibility of the S&P500 falling to around the 615 level before “being followed by a good, strong up market back to between 900 and 1000 and lasting in 2010.”

    While we understand that there is no one without perfect prescience, there are indications that after a massive decline, market participants are looking for the possibility of a strong rebound in prices.

    There are very few investors that have the ability to successfully trade volatile markets. The better option is to look at your overall asset allocation across all your various investment products and determine how much should be allocated across local equities, offshore equities, cash and bonds, property, hedge funds, private equity etc. Certain elements such as hedge fund managers will have a greater ability to trade the volatile markets.

    Don’t hesitate to contact us, if you would like to review your total asset allocation across all your investments.

    Kind regards

    Ian de Lange
    021 9144 966

    Permalink2009-03-16, 17:05:52, by ian Email , Leave a comment

    The Swiss National Bank wants a Weaker Swiss Franc

    The Swiss National Bank sent jitters through the currency markets yesterday when it announced that it would be loosening monetary policy in order to try and prevent the Swiss franc from appreciating too much in value. The currency has been strong relative to its trade weighted partners and this is cause for concern.

    With each sovereign state fighting for an increased share of a reducing global trade, no one country wants a strong currency. In fact they want just the opposite – each exporting country is looking to weaken their home currency in order to try and boost their export led economies.

    A strong currency makes production and exports uncompetitive relative to the rest of the world.

    The problem is that not everyone can have a weaker exchange rate

    Switzerland’s Swiss National Bank said that it aimed to weaken the Swiss franc to fight the risk of deflation as the country faces the worst recession in 30 years. The Swiss franc slumped against the euro.

    The interest rates were dropped by 0,25% to a record low at 0,25%. This is the fifth rate cut since October last year and comes as the Swiss economy is set to decline by 2,5% to 3% this year.

    The SNB last intervened in the foreign exchange markets in 1995 according to Reuters. The graph on the Swiss franc relative to its trade weighted partners currencies reflects its long run strength.

    Around the globe central banks are making capital available to the banking system at close to 0%.

    They are starting to print money and are also buying corporate paper as they bypass the traditional banking systems role.

    It is now getting extremely difficult to assess the relative performance of one currency against another. Savers are not being compensated for holding one currency versus another and with previously austere countries such as Switzerland also looking to print their way out of recession, even the franc remains vulnerable.

    Have a wonderful weekend.

    Kind regards,

    Ian de Lange
    021 9144 966

    Permalink2009-03-13, 16:48:14, by Mike Email , Leave a comment

    Forbes Billionaires List 2009

    The 2009 edition of the billionaires* list, which is compiled annually by Forbes is considerably shorter than the 2008 list. This isn’t surprising given the global financial crisis that we are currently experiencing. Most billionaires have a substantial portion of their wealth invested in equity, or equity like investments.

    This is the first year since 2003 that the number of billionaires has dropped, which is understandable as global markets (particularly emerging markets) were in a bull phase for much of the 2003 – 2008 period. The drop in numbers is striking though, there are 793 US dollar billionaires as at 13 February when compared to 1 125 at the same time last year. This is a massive drop of nearly 30%, but compares favourably with the MSCI World Equity Index which dropped -43% in USD over the same period.

    This year saw 373 billionaires from last year falling off the list, and only 41 joining the billionaire club, so clearly there were some people who were able to grow their capital despite the economic hardships. One of the 44 billionaires to increase their net worth was Oprah Winfrey who is now worth $ 2.7bn.

    Of particular interest was the re-instatement of Bill Gates to the top of the list (after briefly being ousted by friend Warren Buffett last year) despite losing $ 18bn over the period. Buffett lost $ 25bn and Mexican telecom mogul Carlos Slim also lost $25bn and dropped from second to third on the list. The largest loser (in terms of net worth) was Reliance’s Anil Ambani who lost $ 32bn of his wealth, but is still worth $ 10.1bn.

    The same 3 South African residents that were on the list last year made it onto the list again. Nicky Oppenheimer and family were again listed with the highest net worth, and moved up the list from 173 last year to number 98 this year, despite their net worth declining from $ 5.7bn to $ 5bn. Patrice Motsepe, the self made mining magnet moved past Johan Rupert and family to move into second on South Africa’s list (net worth of $ 1.3bn, down from $ 2.4bn). The Rupert’s net worth is down from $ 3.8bn to $ 1.2bn as a result of the falling stock price.

    A fourth South African (although not resident) failed to make the list this year. Donald Gordon’s net worth was up at $ 2bn last year, but the decimation in property prices over the past year has seen him fall off the list. Another, more famous Donald involved in property, Donald Trump managed to stay on the list, but he is now ‘only’ worth $ 1.6bn.

    While these billionaires may have lost a lot of money, they won’t be struggling to pay their rent. However, CEO of Forbes Magazine Steve Forbes pointed out that this list gives an indication of global struggles. He was reported as saying "Billionaires don't have to worry about their next meal, but if their wealth is declining and you're not creating numerous new billionaires, it means the rest of the world is not doing very well." These types of people are also the ones who create large amounts of employment, so if they are struggling you can be sure the rest of the world is too.

    By looking closer at the list and the trends over the last year one can get a good sense of what’s been working out in the world, and what has failed spectacularly. The key, however, will be to attempt to identify what the trend going forward will be.

    Take care,

    Mike Browne
    021 9144 966

    * 1 billion is defined as 1 thousand million, i.e. 1 000 000 000.

    Source: http://www.forbes.com/2009/03/11/worlds-richest-people-billionaires-2009-billionaires_land.html

    Permalink2009-03-12, 18:19:31, by Mike Email , Leave a comment

    Reinet buys into Lehman Brothers private equity funds

    Parts of Lehman Brothers business continue, despite the bankruptcy of the main business on 15th September 2008 – a date etched into memory of those involved in financial markets. Reinet Investments is the investment vehicle created by the Ruperts after the unbundling of British American Tobacco from Remgro and Richemont.

    Reinet was actually established just one month after the collapse of 150 year Lehman Brothers in October 2008, but has now concluded a deal to acquire a managing stake in 2 of the private equity funds managed by the old Lehman Brothers.

    Reinet is domiciled in Switzerland with listing of depository receipts on the JSE. It has a broad investment strategy to:

    o Take a long term view of investment opportunities
    o Chose to invest in a wide range of asset classes, including listed and unlisted equities, bonds, real estate and derivative instruments.

    Lehman Brothers Merchant Banking (LBMB) is a typical manager of private equity funds. The business unit operated since 1986 raising 4 institutional funds and other investment vehicles with a total capital commitment from investors of $8 billion, with which to invest into various private equity deals.

    Reinet created a fund called Reinet Fund SCA FIS, which together with the management of LBMB have purchased certain parts of LBMB from the liquidators. This is the management of 2 private equity funds.

    These specific funds that Reinet is buying into have made investments of around $800 with further commitments from limited partners to invest a further $1,7 billion. This is typically how private equity funds work. A limited range of private partners commit funds. The managing partner manages the fund, but only drawing down on the commitments of the other partners as and when investment opportunities arise. These funds typically have an investment horizon of 10 years plus as investments are made and then exited.

    Reinet clearly saw an opportunity to acquire a range of underlying assets at a cheap price. It will pay an initial $10m for a probable 15% to 20% of the 2 funds and takes over the commitment obligations of the managing partner to invest a further $230m over the remaining lives of the funds.

    LBMB IV fund are 2007 funds.

    Reinet has a market cap on the JSE of R18,1 billion. The price has trended sideways after unbundling at just under R10. At this level it trades at a high discount to underlying net asset value, but investors are looking for some direction in this private equity vehicle controlled by the Ruperts.

    There are reports of heightened activity in the formation of new funds, looking to raise capital and take advantage of cheap investments. It’s a positive sign.

    Globally markets are up after yesterdays rally on Wall Street. The rand is stronger at R10,12/USD.

    The US markets opened up again today with the S&P500 currently at 730, up 1,5%

    Gold is back at $900/oz. Still gold shares are up 2,6% just before the market close.

    Kind regards

    Ian de Lange
    021 9144 966

    Permalink2009-03-11, 16:49:31, by ian Email , Leave a comment

    Investment grade bond yields

    With the contraction in global credit one investment area that appears realistically priced is investment grade corporate bonds. Bonds are ranked in order of their riskiness with investment grade corporates less risky than so called junk or high yield, but riskier than debt issued by governments or sovereign debt.

    Sovereign bonds are presumed the least risky, as these bonds are issued by governments, which supposedly have the ability to always pay their obligations. But this has not always been the case with some large blowups in the past, including defaults by Argentina and Russia. Currently sovereign risk is increasing, as governments across the globe are expanding their reach into the gap left by the banking sector and indeed even into the corporate sector.

    In relative risk terms then comes investment grade corporate bonds, which are debt instruments issued by highly rated corporates. Thirdly are the bonds issued by smaller riskier companies – so called high yield or junk bonds.

    As the riskiness of the issuer increases, so the yield demanded by the lender increases. Higher spreads above the so called risk free rate (US Treasury bond yield) indicate higher risk of default.

    Sovereign risk is increasing as governments around the globe, led by the US have to finance larger and larger fiscal deficits. The fiscal deficit of the US alone is now budgeted at $1,75 trillion – it will probably end higher. Governments are naturally reluctant to tax this shortfall and so essentially defer by issuing debt instead.

    As with all investments the prospective return is a function of price paid relative to value received. Buying the “blue chip”, i.e. sovereign bonds when they are very expensive is unlikely to provide an attractive return. At the same time investors can generate a very good return if they buy riskier assets, i.e. investment grade and high yield, only when the price is cheap.

    Source: Barclays Capital

    As investors have sold both ordinary shares and the debt issued by corporates and into US Treasury debt, so the yield differentials have widened. These appear to be at attractive levels.

    Yield and price have an inverse correlation. This is evidenced in this high yield bond ETF. The price of high yield collapsed.

    iShares Iboxx high yield corporate bond

    source : Yahoo Finance

    Bond yield give a clear interpretation of risk appetite. The US 10 year is trading at 2,95% compared to a yield of just over 2% in mid December.


    Ian de Lange
    021 9144 966

    Permalink2009-03-10, 17:17:20, by ian Email , Leave a comment

    Sasol interims

    Sasol came out with its interim results today. In January it had provided a trading update saying that headline earnings per share would be up between 55% and 65% over the comparable period. The number came in below the low end, with headline EPS up 51% to R21,92/share.

    The market did not appreciate the lower number and the share price fell 6% to R246.47

    The increase in profits was mainly due to the weaker rand versus the US dollar, with a large dose of assistance from the forward sales at higher oil prices.

    The targeted gearing – i.e. net debt to net equity - has been lowered from a range of 30% - 50% to a more prudent range from 20% - 40%. The actual number is very low at 2%, which is positive for the current environment.

    The company produced operating profit of R21,5 billion, which was up 53%, which was due to a slightly higher average crude price of $84,75/barrel versus $81,83/barrel, and also a rand that was 28% weaker against the US dollar.

    Part of the reason for the higher oil price achieved was due to the partial hedge that Sasol put in place. They had sold forward a portion of production at a price which was soon exceeded on the spot market, but now with hindsight, looks fantastic as the price of crude fell substantially.

    This hedge resulted in a net gain of R5 billion. There is also R3,3 billion in unrealised profit on the remainder of the hedge, due to the low current oil price. This will reduce should the price of spot increase.

    They have taken a more cautious view on the outlook for oil, saying “Given that we do not expect oil and product prices to recover in the short-term, we believe that it is wise to plan for an extended period of suppressed and volatile market conditions."

    The company had a high cash generating ability of R30,8 billion, but with the more conservative outlook, they are reducing their capital expenditure program over the next 3 years by approximately 40%. They are also continuing to look at pre feasibility and feasibility of their large growth projects.

    The various divisions produced operating profits as follows:

    o Sasol mining – R1,4 billion.
    o Sasol Gas – R1,5 billion.
    o Sasol Synfuels – R20,5 billion
    o Sasol Oil – loss of R1,6 billion
    o Sasol Synfuels International – R1 billion
    o Sasol Petroleum International – R1 billion
    o Sasol Polymers – R1,1 billion
    o Sasol Solvents – R1,4 billion
    o Sasol O&S – R135 million
    o Other chemical – loss of R2,7 billion
    o Other – loss of R2,2 billion

    These were some negatives such as the euro318m fine paid to the European Commission for Sasol Wax.

    Also the purchase of 3,2m ordinary shares at a price of R346,45 per share. The price is now at R246.

    With the downturn, management expect a reduction in EPS for the full year to June. An interim dividend of R2,5 per share was declared. This was down from the R3,65 in prior period.

    At this stage they hope to maintain their dividend cover in the targeted range of 2,5 times to 3,5 times.

    Oil is at $45/barrel.


    Ian de Lange
    021 9144 966

    Permalink2009-03-09, 17:20:07, by ian Email , Leave a comment

    The Dow and nervous short managers

    The widely followed Dow Jones Industrial index continued to make fresh lows, now back at 1997 levels. Over the years the underlying constituents of this index have been rotated. Some of the companies that have seen prices decimated and so drag down the Dow in recent times include Bank of America, Citigroup, General Motors, and General Electric.

    In September 2002, bond manager Bill Gross wrote a piece, titled "Dow 5000". At that stage the Dow was trading around 8500. Setting out his reasoning based on fundamentals, he maintained that "stocks stink and will continue to do so, until they are priced appropriately, probably around Dow 5000, S&P 650..."

    His reasoning was sound, US shares remained expensive and had been declining from a peak of the Dow at 11500, but what he did not factor in was the impact of monetary stimulus. Interest rates had been taken down to 1% in the US, which boosted lending in various forms and in turn asset prices.

    The excessive leverage is what we are all paying for now, but once again and now in bigger measures, central banks are taking interest rate to zero and starting to print money, euphemistically called quantitative easing. This time however there is little appetite for more debt, but this will not stop the resolve of central banks to create more money.

    So now there is a high possibility that the Dow get to the 5000 level. The S&P500 has already traded remarkably close to the 650 level.

    We are however reaching a point of maximum pessimism in equity prices, and while the underlying fundamentals remain weak, there is a risk for those out of the market that prices have a large up rally from the very oversold levels.

    Short biased managers are nervous

    There are few dedicated short biased managers – but there are reports that these are either getting nervous and not recommending additional investments in their fund, and in the case of at least one manager, closing their funds as opportunities become more scarce and the risks increase.

    Here are some points from Bill Fleckenstein’s December letter to clients as he shut down his short fund at the end of 2008 in preparation of opening up a new long only fund toward the end of this year. He managed funds in the traditional long only way from 1982 – 1995.

    “After considerable thought and deliberation I have decided to make a major change in my life: I am going to close my hedge fund. I have several reasons for no longer wishing to run a short-only fund as I have for the past 12 years. First, my original reason for starting the fund was because of developments I saw occurring in the late 1990s that I wanted no part of. I felt that Greenspan was fomenting an environment that would lead to disaster, as consultants, financial advisors, and the public at large were losing all respect for risk. Of course, the reckless behavior carried far higher and lasted much, much longer than I ever imagined it could. However, the recent carnage in the stock market, real estate market and the financial system (as well as the job losses) has washed away those excesses to a large degree and it has violently demonstrated the risks associated with investing.

    A future goal of mine, when I set up the fund in 1996 -- as I attempted to step aside from the madness -- was to return to the long side of the business at some point in time when I felt that investors had become more rational regarding risk and stocks offered a more favorable risk/reward proposition. I considered this option very briefly in 2002 after the stock bubble imploded, but the cleansing process was postponed due to the burgeoning real-estate bubble.

    Second, though I think that the stock market still has unfinished business on the downside, I believe that 2009 is the year to prepare for a return to managing money in a more balanced fashion, with longs (and some shorts), as there are currently plenty of interesting ideas that appear to offer a margin of safety. On the flipside, compelling opportunities on the short side are not as abundant as they were just a few months ago (though there still are plenty.) The "value restoration project," to quote Jim Grant, has been brought about by the consequences of disastrous Fed policies and the madness of the crowd, both of which have concerned me for the last 15 or so years.”

    On that note, have a fantastic weekend and all the best for the Argus riders.


    Ian de Lange
    021 9144 966

    Permalink2009-03-06, 17:18:09, by ian Email , Leave a comment

    A look at where we stand

    We spent time today listening and speaking to a large asset management house and a smaller hedge fund outfit. These two companies don’t have much in common in terms of their DNA and how they operate, other than the fact that they both manage money. That thread might not seem that important, but through interacting with both of them we can see just how important it is.

    Ultimately they both need to maximise their investors’ returns (or in down markets minimise the loss) while remaining within the mandates and risk parameters that have been set. Some managers will look to achieve the above over short time periods, while others will take a longer term view. The time horizon decision typically depends on the fund’s benchmark and risk profile.

    Through our own analysis and interacting with both managers it is apparent that economic indicators haven’t hit the bottom quite yet. At the same time we know from previous cycles (and as described yesterday) that the market doesn’t always wait until good economic news starts to feed through before it turns. We are therefore in a difficult position where long term return prospects have improved dramatically, but there is a high probability that shorter term returns will continue to be negative. We are also likely to see a lot more volatility as the economic prospects range between “Armageddon” and “offering a glint of hope”.

    Some insights from the presentation by the traditional asset manager include:
    • 70% of the world is currently in recession (with many countries – including South Africa – to follow).
    • There will most probably the first global recession since World War 2 this year.
    • The key factor in the global turnaround will be the US.
    • The key to the US’s turnaround will be an improvement in employment.
    • The US government (and governments around the world for that matter) have done everything in their power to kick start the economy, we just need to wait and see whether it will be enough.
    • South Africa is totally dependant on the global economic recovery.

    They also mentioned that while much of the current turmoil can be ascribed to excessive spending in the US, we need some form of stimulus (spending) in order for the world economy to climb out of the recession that it is now entering. This spending is, to a large degree, being facilitated by governments throughout the world, which is in stark contrast to previous spending that was led by the consumer. In fact, US consumers have become net savers for the first time in a while.

    All the turmoil and volatility has resulted in many hedge fund managers becoming more focused on short term price movements and relative valuations as they reduce the risk of their portfolio (by decreasing leverage and exposure to the market). Many attempt to exploit mis-pricings in related shares, while mainly focussing on the return of capital rather than the return on capital. Remember, hedge funds generally have an absolute return mindset and will look to at least preserve capital in all market conditions.

    In short we are currently in a position where developments in economies and markets are altering the world outlook at a rapid pace. It is therefore crucial to keep abreast of developments, but at the same time ensure that your views don’t become myopic (i.e. all doom and gloom).

    Take care,

    Mike Browne
    021 9144 966

    Permalink2009-03-05, 17:08:02, by Mike Email , Leave a comment

    Current earnings versus long run expectations

    Two things caught my attention today. The one was the absolute decline in the S&P500 earnings in the 4th quarter of 2008 with almost 100% of the companies having now reported. This number went negative for the first time since 1935. At the same time as current earnings have fallen out of bed, a global fund manger, GMO, which until a year back had a muted long term outlook on returns, has turned more and more bullish on long term returns from assets.

    Most investors concentrate on current and 1 and 2 years forward earnings, when making an assessment of a company. Just as high earnings, margins and profits are quickly factored into prices to the point where investors get so enamoured that they bid up prices, so the opposite occurs when a company suffers a temporary setback in earnings.

    There is no doubt that the current news is very bad. Quarter company earnings for the S&P500 peaked in June 2007 at $21,88. They more than halved to the September quarter and now with over 90% of companies having reported in Q4, they EPS is a negative $11,97. The long term chart reflects the current position.

    So earnings have been dropping for 6 quarters already. The 4th quarter negative number is possibly the lowest point, if the forecasts of Merrill Lynch are to be believed. Earnings are likely to remain low but positive for a while.

    In the 2001-2002 market lows, a low in the corporate earnings was reached after 9 quarters in December 2002. At the time of reporting however in early 2003, the market had already made its lows and was moving higher.

    Because a current price is the discounted aggregate of all the future earnings of a company, long term investors know that there is opportunity for superior investment gains in times of extreme price capitulation.

    One such manager is GMO whose 7 year compounded expectations of real returns have increased to:

    o US high quality shares – 12,7%
    o International large cap shares – 11,5%
    o Emerging market equities – 14,4%

    At the same time expectations for returns from US government bonds haven fallen to 1,4%.

    The difficulty is that getting the short run outlook right is near impossible.


    Ian de Lange
    021 9144 966

    Permalink2009-03-04, 16:59:55, by ian Email , Leave a comment

    Pricing of risk

    Global markets continue to battle to put a price on risk assets. The capitalist system rewards risk taking, but if the long run expected return from bonds is higher than expected return on equities, the capitalist system would grind to a halt because the reward would be completely out of kilter with the risks involved.

    Assets have a long run risk “price”, which in turn determines the expected long run return. There is no doubt that this long run is being questioned at the moment, where even over extended periods of time, lower risk investments such as bonds for instance have provided superior returns to that of equities.

    A ranking of investment assets from low risk to high risk would be as follows.

    o Cash or money market
    o Government bonds
    o Corporate bonds
    o Property
    o Equities

    Investment managers looking to allocate across the various assets should continually be asking themselves if an investor is being paid (i.e. adequately compensated) to take on the risk.

    At times an asset becomes so very expensive that it’s not worth investing. Example, a business that generates a R50m annual profit may be worth R0,5 billion, but where the seller is demanding a price of R5 billion, then an investor is clearly not being adequately rewarded for taking on the risk of buying. Whatever the price, it may be a wonderful business, but the investor is unlikely to generate an adequate return and so it does not make an attractive investment.

    At the same time, bonds are lower risk than equities and so all investors understand that they will receive a lower return over time, but where the return is being priced into the ground, then again an investor is not likely to be adequately rewarded. He needs to be wary of these holdings.

    The pricing of risk tends to move to extremes, hence the massive volatility across all asset classes. US technology assets were overpriced in 1999/2000. Many wonderful businesses, but investors started to overpay.

    As Buffett said in his latest annual report, “The investment world has gone from under pricing risk to overpricing it. This change has not been minor; the pendulum has covered an extraordinary arc.”

    With the rapid reversal from risk assets to riskless assets, the landscape has changed and suddenly sovereign bonds appear expensive.

    He goes on to say: “When the financial history of this decade is written, it will surely speak of the Internet bubble of the late 1990s and the housing bubble of the early 2000s. But the U.S. Treasury bond bubble of late 2008 may be regarded as almost equally extraordinary. Clinging to cash equivalents or long-term government bonds at present yields is almost certainly a terrible policy if continued for long.”

    As the weight of global funds leans on cash and global government bonds, so these assets become expensive and provide very low return prospects going forward.

    This is most certainly the case with government bonds, where economies around the globe need to borrow more and more to bail out the capitalist system and the consumer.

    Peter Bernstein, the 89 year old investment commentator with incredible insight, says in a recent piece in the FT, “How do you frame a view of the long run from early 2009? The world has a ruptured financial system showing only fragile signs of recovery. The economic recession now encompasses the whole world. The speed of economic decline is without precedent. Government intervention is also without precedent, in its magnitude, depth, and complexity. Fiscal deficits are reaching numbers no one dreamed about even 12 months ago, yet they will have to be financed.”

    As risk is being overpriced, investors are going to be rewarded in the long run – but in the meantime the pricing may become more attractive.

    Kind regards

    Ian de Lange
    021 9144 966

    Permalink2009-03-03, 18:00:50, by ian Email , Leave a comment

    Buffett's comments on global markets

    Buffett produced his 2008 annual report for his investment company, Berkshire Hathaway. It is widely reported on and indeed does have a lot of excellent points. Like all listed entities the price has suffered a large decline, but the one important attribute that Warren Buffett has, is that he looks longer term when making his investment calls.

    The company has a track record as an investment company going back to 1965. Over this time the compounded return of the company’s book value per share is just over 20% per annum. The comparative performance from the S&P 500 over the same time period is 8,9% per annum, which includes the massive 37% decline in 2008.

    Both the value of Berkshire as an investment company and its share price declined in 2008. The book value per share declined by 9,6%, equating to a loss in net worth of $11,5 billion.

    Some comments from his annual report are worth highlighting.

    “By the fourth quarter, the credit crisis, coupled with tumbling home and stock prices, had produced a paralyzing fear that engulfed the country. A freefall in business activity ensued, accelerating at a pace that I have never before witnessed. The US – and much of the world - became trapped in a vicious negative-feedback cycle. Fear led to business contraction, and that in turn led to even greater fear.”

    He goes on to describe how government has taken massive action, saying that the once unthinkable dosages will almost certainly bring on unwelcome after-effects, with one likely consequence is the onslaught of inflation.

    With major industries, followed by cities and states becoming dependent on Federal assistance, its going to be some challenge to wean them he says.

    He does say that this is not the worst crisis the US has seen, saying:

    “Amid this bad news, however, never forget that our country has faced far worse travails in the past. In the 20th Century alone, we dealt with two great wars (one of which we initially appeared to be losing); a dozen or so panics and recessions; virulent inflation that led to a 21 1⁄2% prime rate in 1980; and the Great Depression of the 1930s, when unemployment ranged between 15% and 25% for many years. America has had no shortage of challenges. Without fail, however, we’ve overcome them. In the face of those obstacles – and many others – the real standard of living for Americans improved nearly seven-fold during the 1900s, while the Dow Jones Industrials rose from 66 to 11,497.”

    He goes onto say that 75% of the past 44 years the S&P 500 index has registered a gain and he would guess that a roughly similar percentage will be positive in the next 44 years. He can’t however predict the winning and losing years in advance. He does say however that while the economy is certain to be in a shambles in 2009 and possibly beyond, ….”that conclusion does not tell us whether the stock market will rise or fall.”

    The price declines have not perturbed him: “Berkshire is always a buyer of both businesses and securities, and the disarray in markets gave us a tailwind in our purchases. When investing, pessimism is your friend, euphoria the enemy.”

    Berkshire owns large stakes in listed shares such as Coca Cola, American Express, Tesco plc, Kraft Foods etc, and he understands that prices will be volatile over any given period. In fact he says, “Indeed we enjoy such price declines if we have funds available to increase our positions. Long ago, Ben Graham taught me that “Price is what you pay; value is what you get.” Whether we’re talking about socks or stocks, I like buying quality merchandise when it is marked down.”

    Indeed some interesting points from a fantastic investor. We will have a look at other pertinent points that he raises.

    Kind regards

    Ian de Lange
    021 9144 966

    Permalink2009-03-02, 18:24:38, by ian Email , Leave a comment