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    JSE earnings and values

    Local assets continued to move up very strongly in March, with the JSE All Share index up around 7,5%. This brings the market up 4,4% for the year to date.

    Resources are up close to 10%. The Industrial 25 index up around 5,8% and Financials up 7,3%

    Looking at the earnings of the JSE as a whole, while these are a lot smoother than share prices over time, when measuring 12 month growth, we notice a few things:

    • 12 month growth is typically – but not always – above 0%.
    • At times the 12 month increase in company earnings has moved above 40%, but more recently on a 12 month basis this declined 32%.

    Source: Investec Private Clients, I Net Bridge

    The month of March saw JSE earnings increase by almost 6%, which supported the 7,5% increase in prices, but left the valuation the same on a PE multiple of around 17,5 times. This is expensive when compared to history, but the market continues to look forward.

    The consensus is for earnings to grow by upwards of 25% for the rest of 2010. Should this occur, earnings will still be some 10% below the peaks registered in November 2008.

    Earnings growth at this level, will be supportive of prices, but history does tell us that prices lead the earnings, both on the up and down. We have already seen prices move up 56% from their trough in March 2009, while earnings appear to have bottomed out and starting to turn upwards.

    Should earnings move up 25% and prices stay the same, then the current high PE drops to around 14 times, which is average JSE PE from 1990.

    Should we see a further 10% gain in prices and a 25 increase in earnings, the PE drops to 15,5 times, while a 15% gain in prices will leave the market on a 16,2 times multiple – i.e. still expensive.

    The lower interest rates environment is supportive of firmer valuations.

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-31, 17:01:31, by ian Email , Leave a comment

    Using negative investment criteria

    Because investors have myriad options before them as to where to invest their funds for the best risk adjusted returns, the relatively easy method is to make a decision on the first investment that meets all their positive investment criteria.

    But investment returns are also about avoiding the mistakes, and so in many respects, turning the process on its head and rejecting investments after considering and screening for downside or things that can go wrong is often more appropriate.

    In many respects it remains a truism that investments are still sold based on positive attributes as opposed to being actively bought based on a full assessment of all factors – positive and negative. Very often an investment is made, based on the promises made or positive attributes of an investment. The investor then hopes that the promises pan out in order for the investment to meet its full potential.

    Smarter investors of the likes of George Soros and Warren Buffett etc will often concentrate, not on reasons to invest, but reasons why not to make a specific investment. They will tend to reject more opportunities.

    Where an investor is confronted with a parade of investment choice, then it may be appropriate to adopt this negative investment criteria approach.

    Private equity firms often find themselves in this position. By their very nature, with funds to invest, they are approached by companies seeking finance. These investee companies will naturally put a very positive spin on their attractiveness to investors.

    In such a scenario, the investment process is typically one of eliminating prospective investments, rather than looking for reasons to make an investment.

    A quote from a penny stock investor put it this way “The way I approach the market is I say of those 170 companies maybe 140 or 150 are not worth trading in. What you need to find is the 30 or 40 that are worth trading in. So whereas most people would spend their time screening the market to find the shares they want to buy I tend to screen the market looking for shares that I don’t want to buy.”

    We often find this in the sales literature of structured products, where a positive outcome example is provided. An investor may consider the example provided, which then sticks in their mind as the most likely outcome. Rather an investor should spend more time assessing alternative possible outcomes to determine whether he is being rewarded for the risk.

    Using this methodology also forces an investor to concentrate on the downside risk before making an investment. Ultimately it’s about making an assessment of whether an investor is being adequately rewarded for taking on the risk.

    Don’t hesitate to contact us if you would like to discuss your investments and planning.

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-30, 16:11:05, by ian Email , Leave a comment

    Canary in a coal mine

    Former US Federal Reserve Chairman Alan Greenspan's warned that rising yields are the “canary in the mine.” The yields on the 10-year notes - the benchmark for everything from mortgages to corporate bonds - climbed as high as 3.92 per cent last week from a low of 3.53 per cent in February.

    Greenspan said that the increases reflect concern over "this huge overhang of federal debt which we have never seen before,". The budget deficit hit $US1.4 trillion in fiscal 2009. This deficit combined with refinancing of existing debt, will mean that Treasury needs to raise a record $US2.43 trillion this year, a February survey of 10 dealers showed.

    The general consensus is that the yield on 10 year bonds will continue to rise. The consensus of the 18 primary dealers of US debt forecast the rate will reach 4.2 per cent this year.

    Canary in a coal mine

    Canaries were once regularly used in coal mining as early warning systems of toxic gases. The gas would kill the bird before affecting the miners. The visual and audible canary was therefore an excellent early warning system and the phase “canary in a coal mine” is frequently used to refer to a person or thing that serves as a warning of a looming crisis.

    What is a bond yield?:

    Bonds are nothing more than the raising of debt by governments and companies. Governments that run a deficit on the finances, raise the shortfall they need by going to the public market and raising money by issuing bonds. So a bond is nothing more than a loan or a type of IOU.

    When bonds are first issued and when they are traded in the secondary market, their price is typically expressed as a yield.

    So a borrower or issuer looking to raise a substantial amount, in an environment where lenders of capital are getting more and more nervous, will find that they need to set the interest rate or coupon as its known, at a higher rate in order to attract the lenders.

    At the same time when the bond trades in the secondary market, where there is concern about the riskiness of the lender, buyers of bonds will want to be compensated for an increase in actual or perceived risk and through the normal workings of supply and demand, the yield will move up.

    This a however not a one sided story – mixed view
    According to Pimco, the world’s largest bond traders and therefore with an expectant bias towards an ongoing scenario of lower interest rates, “Bonds have seen their best days”.

    According to Goldman Sachs Group Inc., the world's most profitable securities firm, the yield on the 10 year bond will drop to 3,25% by year-end. Their view is that inflation remains in check, and that short term US interest rates will remain at rock bottom levels for much longer than the markets currently expect.

    Morgan Stanley however says US yields will rise to 5.5 per cent by year-end, from a nine-month high of 3.92 per cent on March 25.

    Last weeks jump in the yield is seen in this graph

    In the Bloomberg interview, the former Fed chairman said he sees solid signs the economy is gaining momentum, but that growth is threatened by the "huge overhang of federal debt, which we have never seen before...I am very much concerned about the fiscal situation."

    At seed we believe that it is important to monitor local and offshore yields in order to gauge the attractiveness or otherwise of bonds.

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-29, 15:30:26, by ian Email , Leave a comment

    Daily Equity Report Friday 26 March 2010

    Yale Endowment Spending Policy: Part 2

    Apologies for yesterday. There was a glitch sending out the DER.

    On Wednesday we looked at how the Yale endowment applies a smoothing rule to their target drawdown rate. Today we'll apply this principle to individual investors, with a few tweaks, to improve their financial health in retirement.

    Retiring and living off your investments is a common characteristic among investors in the 55 - 70 age group bracket, and while most of the principles in retirement planning are common across the spectrum of retirees, there are always differences between retirees. These differences include your health at retirement, the amount that you have been able to save during the years that you were employed versus how much you wish to live off, and whether you want to leave an inheritance or if you want to use all of your retirement savings while you're alive.

    The first step is to calculate your target drawdown rate based on the above factors and any other relevant information. Traditionally this would be the sole determinant of your annual income, but it can result in your income being quite variable. Using the logic of the Yale endowment fund spending policy, we would look at a couple more factors including:
    - Drawdown ceiling: As this method only has a target drawdown rate it is imperative that there is a ceiling to the drawdown rate to avoid depleting capital prematurely if returns have been consistently poor.
    - Cap in real income growth: Capping the annual growth of your real income in good times ensures that you don't unnecessarily draw income from your portfolio. This cap still allows for an increased standard of living, but regulates the pace at which it changes.
    - Ability to stomach varied income: As an investor is able to stomach greater variability in their income they decrease the weight applied to the prior year's drawdown, and vice versa (subject to the above constraints). Yale uses 80% of last year's income as a base.

    The below analysis has been done on a hypothetical investor with the following features:
    - Starting portfolio: R 5 000 000
    - Target drawdown: 4.5%
    - Drawdown ceiling: 7.0%
    - Real income growth cap: 10% per annum (i.e. growth in income is capped at inflation + 10% per annum)
    - Weighting to prior year income: 80%

    Returns are based on a typical balanced fund until the end of 2009, and then simulated returns are used for the next 18 years. As the first 22 years were characterised by strong real returns we've intentionally simulated poor returns for the next 18 years. As an aside we expect that returns will be more muted going forward than they have over the last 20 years or so.

    The resulting inflation adjusted income that is drawn using Yale's smoothing technique is a lot less variable. It is, in fact, 70% less variable than the fixed drawdown method.

    The portfolio values also vary as the smoothed portfolio builds up a reserve in the good years (at one stage it is nearly R 7 500 000 larger than the other portfolio) but then eats away at the reserve after a period of poor returns (R 3 800 000 less than the other portfolio after a long period of poor performance).

    In this example the drawdown ceiling isn't reached, but the real income growth cap is applied three times.

    In only 10% of the years would your nominal income decline using the smoothing technique, with a maximum decline of 1.5%, versus nearly 30% of the years using a fixed rate (maximum decline of 15.8%).

    I trust that this has given you some food for thought.

    Vincent and I will be in Durban on 7 and 8 April. If you would like to set up a meeting please contact Vincent on vincent@seedinvestments.co.za or the number below.

    Take care,

    Mike Browne
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-26, 20:08:47, by admin Email , Leave a comment

    Yale Endowment Spending Policy: Part 2

    Apologies for yesterday. There was a technical glitch that prevented the Daily Equity Report from being sent out.

    On Wednesday we looked at how the Yale endowment applies a smoothing rule to their target drawdown rate. Today we apply this principle to individual investors, with a few tweaks, to improve their financial health in retirement.

    Retiring and living off your investments is a common characteristic among investors in the 55 – 70 age group bracket, and while most of the principles in retirement planning are common across the spectrum of retirees, there are always differences between retirees. These differences include your health at retirement, the amount that you have been able to save during the years that you were employed versus how much you wish to live off, and whether you want to leave an inheritance or if you want to use all of your retirement savings while you’re alive.

    The first step is to calculate your target drawdown rate based on the above factors and any other relevant information. Traditionally this would be the sole determinant of your annual income, but it can result in your income being quite variable. Using the logic of the Yale endowment fund spending policy, we would look at a couple more factors including:
    • Drawdown ceiling: As this method only has a target drawdown rate it is imperative that there is a ceiling to the drawdown rate to avoid depleting capital prematurely if returns have been consistently poor.
    • Cap in real income growth: Capping the annual growth of your real income in good times ensures that you don’t unnecessarily draw income from your portfolio. This cap still allows for an increased standard of living, but regulates the pace at which it changes.
    • Ability to stomach varied income: As an investor is able to stomach greater variability in their income they decrease the weight applied to the prior year’s drawdown, and vice versa (subject to the above constraints). Yale uses 80% of last year’s income as a base.

    The below analysis has been done on a hypothetical investor with the following features:
    • Starting portfolio: R 5 000 000
    • Target drawdown: 4.5%
    • Drawdown ceiling: 7.0%
    • Real income growth cap: 10% per annum (i.e. growth in income is capped at inflation + 10% per annum)
    • Weighting to prior year income: 80%

    Returns are based on a typical balanced fund until the end of 2009, and then simulated returns are used for the next 18 years. As the first 22 years were characterised by strong real returns we’ve intentionally simulated poor returns for the next 18 years. As an aside we expect that returns will be more muted going forward than they have over the last 20 years or so.

    You can see from the chart below that the inflation adjusted income that is drawn using Yale’s smoothing technique is a lot less variable. It is, in fact, 70% less variable than the fixed drawdown method.

    The portfolio values also vary as the smoothed portfolio builds up a reserve in the good years (at one stage it is nearly R 7 500 000 larger than the other portfolio) but then eats away at the reserve after a period of poor returns (R 3 800 000 less than the other portfolio after a long period of poor performance).

    In this example the drawdown ceiling isn’t reached, but the real income growth cap is applied three times.

    The chart below shows the difference in the variability of the income received using the two techniques. In only 10% of the years would your nominal income decline using the smoothing technique, with a maximum decline of 1.5%, versus nearly 30% of the years using a fixed rate (maximum decline of 15.8%).

    I trust that this has given you some food for thought.

    Vincent and I will be in Durban on the 7th and 8th of April. If you would like to set up a meeting please contact Vincent at vincent@seedinvestments.co.za or the number below.

    Take care,

    Mike Browne
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-26, 16:26:54, by Mike Email , Leave a comment

    Yale Endowment Spending Policy: Part 2

    Yesterday we looked at how the Yale endowment applies a smoothing rule to their target drawdown rate. Today we’ll apply this principle to individual investors, with a few tweaks, to improve their financial health in retirement.

    Retiring and living off your investments is a common characteristic among investors in the 55 – 70 age group bracket, and while most of the principles in retirement planning are common across the spectrum of retirees, there are always differences between retirees. These differences include your health at retirement, the amount that you have been able to save during the years that you were employed versus how much you wish to live off, and whether you want to leave an inheritance or if you want to use all of your retirement savings while you’re alive.

    The first step is to calculate your target drawdown rate based on the above factors and any other relevant information. Traditionally this would be the sole determinant of your annual income, but it can result in your income being quite variable. Using the logic of the Yale endowment fund spending policy, we would look at a couple more factors including:
    • Drawdown ceiling: As this method only has a target drawdown rate it is imperative that there is a ceiling to the drawdown rate to avoid depleting capital prematurely if returns have been consistently poor.
    • Cap in real income growth: Capping the annual growth of your real income in good times ensures that you don’t unnecessarily draw income from your portfolio. This cap still allows for an increased standard of living, but regulates the pace at which it changes.
    • Ability to stomach varied income: As an investor is able to stomach greater variability in their income they decrease the weight applied to the prior year’s drawdown, and vice versa (subject to the above constraints). Yale uses 80% of last year’s income as a base.

    The below analysis has been done on a hypothetical investor with the following features:
    • Starting portfolio: R 5 000 000
    • Target drawdown: 4.5%
    • Drawdown ceiling: 7.0%
    • Real income growth cap: 10% per annum (i.e. growth in income is capped at inflation + 10% per annum)
    • Weighting to prior year income: 80%

    Returns are based on a typical balanced fund until the end of 2009, and then simulated returns are used for the next 18 years. As the first 22 years were characterised by strong real returns we’ve intentionally simulated poor returns for the next 18 years. As an aside we expect that returns will be more muted going forward than they have over the last 20 years or so.

    You can see from the chart below that the inflation adjusted income that is drawn using Yale’s smoothing technique is a lot less variable. It is, in fact, 70% less variable than the fixed drawdown method.

    The portfolio values also vary as the smoothed portfolio builds up a reserve in the good years (at one stage it is nearly R 7 500 000 larger than the other portfolio) but then eats away at the reserve after a period of poor returns (R 3 800 000 less than the other portfolio after a long period of poor performance).

    In this example the drawdown ceiling isn’t reached, but the real income growth cap is applied three times.

    The chart below shows the difference in the variability of the income received using the two techniques. In only 10% of the years would your nominal income decline using the smoothing technique, with a maximum decline of 1.5%, versus nearly 30% of the years using a fixed rate (maximum decline of 15.8%).

    I trust that this has given you some food for thought.

    Vincent and I will be in Durban on the 7th and 8th of April. If you would like to set up a meeting please contact Vincent at vincent@seedinvestments.co.za or the number below.

    Take care,

    Mike Browne
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-25, 17:41:10, by Mike Email , Leave a comment

    Yale Endowment Spending Policy: Part 1

    Last week we took a look at endowment funds and the Yale Endowment in particular. More specifically we covered the goals of the endowment and how the successful management of the endowment can greatly assist in the running of the institution that the endowment is set up to assist. Click here if you missed that report.

    Key to any endowment is the need to balance income requirements of today with future income requirements. In much the same way one’s retirement assets can be managed like those in an endowment.

    Receiving an income today is vital, but if you draw too much today the future viability of your portfolio will be eroded. An important element of retirement planning is therefore getting your initial drawdown correct, and ensuring that your portfolio is structured to achieve your income needs throughout retirement.

    In addition to your initial drawdown level, another important aspect to consider when setting up your income requirements is the variability of your annual income. Setting a specified drawdown level and sticking to it works in theory, but in practice it is a lot more difficult to change spending habits (especially reducing spending) over the short term. This is where we can take a leaf out of Yale’s spending policy.

    Yale has a target long term spending (drawdown) rate, which is smoothed over time. Managing income requirements using these two methods greatly contributes towards the financial health of the institution (retired person) over time. Yale targets a drawdown rate of 5.25% per annum which is smoothed by taking “80 percent of the previous year’s spending and 20 percent of the targeted long-term spending rate (5.25%) applied to the market value two years prior. The spending amount determined by the formula is adjusted for inflation and constrained so that the calculated rate is at least 4.5%, and not more than 6% of the Endowment’s inflation-adjusted market value one year prior.”

    This method ensures that in good years a buffer is built into the endowment (i.e. not all gains are paid out) so that in the bad years spending doesn’t have to be cut as drastically. The result of the smoothing is that the annual payout has been a quarter as volatile as the endowment value over the past 20 years.

    Below are two charts. The first chart reflects the difference between actual endowment spending and an approximation of what spending would have been had there not been the smoothing rule. The second chart shows the change in spending from the prior year under the two methods.

    Two points to notice from the charts is that one year’s good or bad performance doesn’t overly influence how much income the university receives from the endowment because of the smoothing rule applied. In the same way a retiree won’t want their income level to fluctuate widely based on one year’s performance. Secondly consistent good/poor performance will influence how much the endowment is able to pay out to the university. Likewise, the value of a retiree’s portfolio should still have an impact on how much can be drawn from the portfolio over the longer term.

    Tomorrow we will take a closer look at how we can apply and modify these methods to your income drawdown from your retirement investments.

    Take care,

    Mike Browne
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 1944 966

    Permalink2010-03-24, 17:41:48, by Mike Email , Leave a comment

    Yale Endowment: Spending Policy – Part 1

    Last week we took a look at endowment funds and the Yale Endowment in particular. More specifically we covered the goals of the endowment and how the successful management of the endowment can greatly assist in the running of the institution that the endowment is set up to assist. Click here if you missed that report.

    Key to any endowment is the need to balance income requirements of today with future income requirements. In much the same way one’s retirement assets can be managed like those in an endowment.

    Receiving an income today is vital, but if you draw too much today the future viability of your portfolio will be eroded. An important element of retirement planning is therefore getting your initial drawdown correct, and ensuring that your portfolio is structured to achieve your income needs throughout retirement.

    In addition to your initial drawdown level, another important aspect to consider when setting up your income requirements is the variability of your annual income. Setting a specified drawdown level and sticking to it works in theory, but in practice it is a lot more difficult to change spending habits (especially reducing spending) over the short term. This is where we can take a leaf out of Yale’s spending policy.

    Yale has a target long term spending (drawdown) rate, which is smoothed over time. Managing income requirements using these two methods greatly contributes towards the financial health of the institution (retired person) over time. Yale targets a drawdown rate of 5.25% per annum which is smoothed by taking “80 percent of the previous year’s spending and 20 percent of the targeted long-term spending rate (5.25%) applied to the market value two years prior. The spending amount determined by the formula is adjusted for inflation and constrained so that the calculated rate is at least 4.5%, and not more than 6% of the Endowment’s inflation-adjusted market value one year prior.”

    This method ensures that in good years a buffer is built into the endowment (i.e. not all gains are paid out) so that in the bad years spending doesn’t have to be cut as drastically. The result of the smoothing is that the annual payout has been a quarter as volatile as the endowment value over the past 20 years.

    Below are two charts. The first chart reflects the difference between actual endowment spending and an approximation of what spending would have been had there not been the smoothing rule. The second chart shows the change in spending from the prior year under the two methods.

    Two points to notice from the charts is that one year’s good or bad performance doesn’t overly influence how much income the university receives from the endowment because of the smoothing rule applied. In the same way a retiree won’t want their income level to fluctuate widely based on one year’s performance. Secondly consistent good/poor performance will influence how much the endowment is able to pay out to the university. Likewise, the value of a retiree’s portfolio should still have an impact on how much can be drawn from the portfolio over the longer term.

    Tomorrow we will take a closer look at how we can apply and modify these methods to your income drawdown from your retirement investments.

    Take care,

    Mike Browne
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 1944 966

    Permalink2010-03-24, 17:35:15, by Mike Email , 1 comment

    Daily Equity Report Tuesday 23 March 2010

    2010/03/23 20:14:02
    The JSE closed down 0.33% at 28451 with value traded at R 13.04 billion. Advances equaled declines at164 with 94 shares unchanged out of 422 active. Mining closed up 0.18% at 33351, while Industrials were down 0.76% at 27392 and financials ended the day down 0.24% at 21054.

    The best performing sectors of the day were Automobiles & Parts Index up 7.7% at 1493, Chemicals Index up 1.9% at 11252 and Venture Capital up 1.7% at 84, while the worst were Platinum Mining down 2.6% at 78, Support Services Index down 2.5% at 2334 and General Industrials Index down 2.1% at 65150.

    There were 9 new 12 month highs today, including Ciplamed which closed up 10.1% at 598, Palamin up 6.1% at 12200 and Absolute up 6% at 530.

    Of the major stocks Sasol lost 0.88% at 28200, Mtn ended down 1.65% at 12210, Anglo moved up 0.47% at 29990, Stanbank moved down 0.58% at 11612, Naspersn ended up 1.35% at 32180.

    Some of the top gainers included Afro-c up 15.17% at 167 , Ciplamed up 10.13% at 598 , while the major losers were Dcentrix down 20% at 400 and Village off 18.73% at 243

    The Dow was up 0.4% at 10828.90 and the S&P 500 up 0.2% at 1167.75 a few moments ago.

    Gold was unchanged 0% at $ 1103.12/oz

    The rand was last trading at R 7.32 to the dollar, R 10.98 to the pound and R 9.88 to the Euro.

    Permalink2010-03-23, 20:15:17, by admin Email , Leave a comment

    Investment forecasts

    Benjamin Graham in his book, Security Analysis proposed a clear definition of investment, which read something like this, “An investment operation is one which, upon thorough analysis, promises safety of principal and an adequate return. Operations not meeting these requirements are speculative."

    Investing almost by definition then is forward looking and requires an element of analysis.

    The typical analysis done by fundamental researchers is to spend time modelling a company’s earnings profile in order to make an assessment of that company’s future earnings. With a single number or range of possible outcomes, an analyst can then attempt to place a current value on the business and compare this to the price at which it trades.

    Even where investors place little to no emphasis on future predictions of interest rates, earnings, exit values etc, the mere act of investing is taking a forward looking view.

    A comment made by Dave Food at a presentation last week was that while it is difficult and hard work to analyse future earnings, ultimately it is more productive and rewarding.

    While one would think that on a consensus basis, analysts would be able to accurately predict future earnings, this is not the case.

    In the chart below, Sanlam Investment management graphed actual earnings of the Swix - relative to the forecast.

    FTSE/JSE Swix earnings forecast

    One can see how the consensus view of company earnings 12 months out can vary dramatically from the actual reality.

    Typically forecast returns lag the actual, so when earnings were running up in 2006 – 2008, forecasts were lagging. Then actual earnings started to drop, but analysts were generally late in starting to again move their forecasts down.

    Because of the discrepancy of the consensus, accuracy in analysis becomes key.

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-23, 17:18:07, by ian Email , Leave a comment

    Some more comments from and economist

    Earlier in the week, I discussed some comments made by Mark Vitner, senior economist at Wells Fargo Securities. He recently wrote a piece called Reflections of 25 years Following the US economy.

    He compiled a list of his favourite 25 rules for analysing the economy. He notes that there are probably many more than this, but that this list has been useful to him over a quarter of a century.

    Below are a few more of the interesting points that he makes.

    1. “Capital will always flow to the highest available risk-adjusted rate of return.” Every investment and business endeavor involves evaluating the risks involved in investing in that business and the return on that investment. The greater the risks, the higher the return has to be in order to attract any given amount of capital. Anything that heightens risks in the economy tends to restrain investment and business activity in general.

    2. Whenever possible try to “view the economy through the eyes of a business owner, consumer, and policymaker.” Think about how each would view the current environment and what each would view as risks and opportunities.

    3. “You can learn an awful lot by simply observing.” Some of the best economic indicators I have seen in recent years have been things that I have observed with my own eyes and then verified with the data. If the airports seem more crowded take a hard look at the airline revenue passenger miles, whose growth tends to coincide with real GDP growth. A pickup or deceleration in airline revenue passenger miles may tip you off to a shift in the economy’s underlying momentum. While it may seem trivial, the same holds true with retail sales and business at your favourite restaurant.

    4. “Rapid growth nearly always sows the seeds of its own destruction.” Booms generally lead to busts because they lead to overproduction or overinvestment in the sector that is booming

    5. Over the past 25 years “the greatest forecasting mistake economists have made is to underestimate economic growth.” Paying too much attention to all the negatives in the economy tends to make economic forecast too pessimistic. Forecasters tended to overestimate the drag from federal budgets deficits during the late 1980s, the banking crisis in the early 1990s, and most of the subsequent crises that we faced during the past two decades. Many forecasters were also slow in recognizing that the potential growth rate of the economy had increased in the late 1990s with the advent of new information technologies.

    Have a fantastic long weekend.

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-19, 16:20:30, by ian Email , Leave a comment

    Endowment Funds and the Yale Endowment

    Endowment funds are typically set up for institutions for financial assistance of said institution. The fund is generally funded by people with close ties to the institution through gifts and bequests. These funds typically pay out around 5% of the assets annually to assist the institution in designated areas. The 5% payout is designed to balance the needs of today with those of the future as the real value of the endowment is typically able to be maintained (i.e. target a 5% real return).

    Yale University is one of the most prestigious tertiary education facilities not just in the United States, but also the world. Founded in 1701 the university is now over 300 years old, and as such boast’s a wealth of history and culture. Another aspect that Yale is able to boast about is their endowment fund, which is the envy of many investment institutions.

    Having an endowment fund is a powerful way to secure the future of your institution in a couple of ways. Firstly endowments are set up with fairly strict rules on how much of the fund must be spent on an annual basis and where that money should be spent. This ensures that as long as the fund is able to consistently produce real returns the real capital value of the fund should not deplete over time. Secondly potential donors typically prefer a structured portfolio with a mandated spending policy over donating without a purpose. Endowments therefore will encourage donations over time that will see the real value and contribution of the endowment to the institution improving over time.

    The Yale endowment has been able to increase its contribution to Yale’s revenues by 16.6% compounded per annum over the past 10 years. In the US inflation has averaged 2.6% over this period and so the endowment’s contribution to the university has grown by 14% in real terms per annum over this period. In the period ending 30 June 2009 the endowment contributed $1.2 billion, up from $253 million ten years earlier, which is 46% of university income, up from 20% in 1999. All of this has been achieved despite a return of -24.6% for the past 12 months (ending 30 June 2009 – i.e. in the height of the global financial crisis).

    Below is a chart showing how the excellent compounded return has allowed the Yale endowment to continually increase its payout to the university fiscus.

    The performance of the Yale endowment is in the top 1% of institutions, and is therefore the exception to the norm. Nevertheless there are some good pointers that investors can (and do) take from their policies and practices to improve their own performance. At Seed we wholly ascribe to their notion that you must, as far as possible, fill you portfolio with diversified growth assets. Two aspects are key: diversification and growth assets.

    Every portfolio needs to be sufficiently diversified to avoid the unknown, but you still need conviction, i.e. don’t diversify across all assets purely to reduce risk. This point was put across to us this morning by Dave Foord who discussed what he’s learnt over the last 30 years of investing.

    Secondly, every portfolio needs to have exposure to growth assets, with the percentage depending on the investor’s ability to withstand draw downs. Growth assets are vital in a portfolio as they battle the effects of inflation, which Dave Foord mentioned was a portfolio’s greatest enemy.

    The combination of the two should produce consistent inflation beating returns over the longer term. Bear in mind that there will be periods like the one that Yale is reporting on where correlations go to 1 and returns fall. You won’t be completely protected in these periods (which is why conservative investors still need a portion of assets whose nominal value is secure) but you do require the exposure to protect the real value of your portfolio over the long term.

    In future reports we will more closely explore some other aspects of the Yale endowment fund and model that can be incorporated into your retirement planning with the help of an experienced consultant.

    Take care,

    Mike Browne
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Original Source: www.yale.edu/investments
    Additional Sources: www.wikipedia.org

    Permalink2010-03-18, 17:31:49, by Mike Email , Leave a comment

    Reflections from an economist

    Mark Vitner, senior economist at Wells Fargo Securities, wrote a piece called Reflections of 25 years Following the US economy.

    He noted that over a 25 year period of analysing the US economy on a professional basis, he has seen the economic boom following the 1987 stock market crash, collapse of the savings and loans industry, the stunning stock market boom of the 1990’s the crash, oil shocks, all the way to the more recent credit crisis.

    He compiled a list of his favourite 25 rules for analysing the economy. He notes that there are probably many more than this, but that this list has been useful to him over a quarter of a century.

    I picked out a couple of the more interesting points that he makes:

    1. “economics is just common sense made difficult.” He says that too often economists make things more difficult than they need to be. The most important concept to grasp when analyzing the economy is what motivates individuals and businesses to buy goods and services and what motivates them to produce and provide them. Forecasting the economy then simply devolves into determining if new policies or events would cause individuals to buy more goods and services, invest in more plant and equipment, hire more workers, or work more.

    2. “Imbalances can build up far longer than seems logical.” During a boom, all sorts of justifications for the elevated level of economic activity will seem logical. We saw this at the height of the tech bubble and height of the housing bubble, which is one reason we ended up with such a tremendous oversupply of fiber optic cable and single-family homes.

    3. “Conditions do not have to be perfect in order for the economy to grow,” and that is a good thing because conditions seldom are perfect. The economy almost always faces a seemingly endless string of challenges: the budget deficit is too big, taxes are too high, regulation is too burdensome, and consumers have too much debt. Yet, while this was true for most of the prior 25 years, the economy grew solidly throughout most of this period.

    4. “There is a tendency for forecasters to focus more attention on what is wrong with the economy than what is right.” Bad news almost always gets more attention than good news, and this is no different with economics. A danger, however, is that focusing too much attention on the negatives might cause you to miss out on valuable opportunities.

    5. “The natural tendency for the U.S. economy is to grow.” Each year the United States adds close to three million new residents, which means we add the equivalent of France to our population every 20 years. In addition, trend productivity growth is somewhere around 2 percent. When you add in Americans’ strong desire to live better than each preceding generation, there is an enormous natural tendency for the U.S. economy to grow.

    Hmm, some food for thought.

    I will cover a few more of his points later in the week.

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-17, 17:16:20, by ian Email , Leave a comment

    Daily Equity Report Tuesday 16 March 2010

    2010/03/16 20:32:00
    The JSE closed up 0.78% at 28253 with value traded at R 9.22 billion. Advances led declines 176 to 136 with 91 shares unchanged out of 403 active. Mining closed up 1.06% at 33248, while Industrials were up 0.64% at 27162 and financials ended the day up 0.73% at 20756.

    The best performing sectors of the day were FTSE/JSE AFRICA ALTX 15 up 3.6% at 365, Forestry & Paper Index up 2.4% at 12383 and Media Index up 2% at 69040, while the worst were FTSE/JSE RAFI ALLSHARE INDEX down 1.3% at 5764, Industrial Transportation Index down 1.3% at 96 and Pharmaceuticals & Biotechnology Index down 0.6% at 9533.

    There were 18 new 12 month highs today, including Eoh which closed up 6.7% at 1120, Cat up 5.9% at 1800 and Mondiplcp up 4.1% at 5348.

    Of the major stocks Naspersn moved up 1.96% at 31000, Anglo gained 0.77% at 30066, Oldmutual was unchanged at 1395, Mtn gained 0.5% at 12020, Stanbank was up 1.29% at 11400.

    Best performers of the day were S-ocean up 16.13% at 180 , 1time up 13.33% at 119 , while the major losers were Coal down 5.16% at 1470 and Anooraq off 4.85% at 980

    The Dow was up 0.2% at 10661.80 and the S&P 500 up 0.5% at 1156.14 a few moments ago.

    Gold was up 1.5% at $ 1124.90/oz

    The rand was last trading at R 7.35 to the dollar, R 11.16 to the pound and R 10.11 to the Euro.

    Permalink2010-03-16, 20:32:53, by admin Email , Leave a comment

    Some thoughts on valuations

    A year back the FTSE/JSE All Share index had dipped down to 18 000. A year later the index is up around 28 000.

    A commentary by Allan Gray notes that, “It is a great irony (but also self-evident) that most investors would have found it incredibly difficult to buy shares then, but find it much 'easier' to buy shares today when the prevailing consensus is that the worst of the credit crisis and recession is behind us and that massive global monetary and fiscal stimulus have saved the day.”

    They point out that foreign investors have been net investors into JSE shares to the extent of R22,5 billion over 6 months to February. Over the same 6 month period a year back, foreigners were net sellers of R40,2 billion, when the JSE All Share in average dollar terms was some 55% cheaper.

    Time and time again, taking a contrarian investment position, proves to be a winning strategy – merely because the mass market is wrong at the extremes.

    They then make an almost ominous statement saying that “It seems the global “risk trade” is currently driving up the South African stock market and the value of the rand, but as we learned in late 2008, the door is narrow should all foreigners choose to leave at the same time.”

    The question then is …. with the rand relative to the dollar up 28% and the local shares up 55% in local currency, should investors reduce local exposure in favour of foreign exposure or vice versa.

    Please get me out of overseas shares

    Unfortunately because most investors drive their outlook based on the review, they will make a current assessment of where to invest, based largely on what has performed well in the past.

    Looking back over a 10 year period, it is very evident that local has been lekker. The global market has given you close to zero over the last ten years compared to a return in excess of 300% on the local market.

    But please don’t be mistaken. Because the return from equities are mean reverting, the superior local ten year return is NOT a permanent feature of local shares relative to global shares, but largely a function of the relative starting valuations.

    I looked back at a manager commentary of the valuations of the South African market and the US market in 1999. It gives a very strong clue as to the reason for the subsequent 10 year outperformance.

    On the S&P500. “By the end of 1999, the shares of the five companies which made the biggest contributions to the S&P 500 were priced at a weighted average of 70.8 times latest earnings and 22.8 times book value. The concern is that, at current prices, these shares are discounting extremely high rates of growth in revenues and earnings and, if these challenging growth rates are not met, investors face the risk of substantial loss.”

    On the South African equities. “… South African equity valuations remain low relative to those in comparable markets.”

    There is a low probability that the next 10 years will be a repeat of the last 10 years.

    Regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-16, 17:38:54, by ian Email , Leave a comment

    Portfolio insurance

    The final point that I want to expand upon with James Montier’s white paper, titled “Was it all Just a Bad Dream? Or, Ten Lessons Not Learnt.” Is that of portfolio insurance.

    He advises that investors should look for sources of cheap insurance in their portfolio construction.

    While this is not a new concept for investors, it is still nevertheless not widely used. He notes that while insurance is often a neglected asset when it comes to investing.

    As with all insurance, there is a cost – this is exactly the same with portfolio insurance. In order to protect the portfolio from downside risk, a cost must be incurred. He notes that “The cash flows associated with insurance often seem unappealing in a world where many seem to prefer “blow up” (small gain, small gain …. Big loss).”

    Over the shorter term, insurance guarantees a loss by its very nature – i.e. the contractual nature of the insurance premium. In the case of portfolio insurance, there is a premium incurred for options or futures used to protect the portfolio. These premiums naturally have a drag effect on the total return, when the insurance proves to be an unnecessary expense where market prices are trending upwards.

    He notes that it is the fact that insurance is generally unattractive that it tends to be cheap. Naturally after a particular risk event, the price of insurance escalates. This is the case with traditional insurance and also with portfolio insurance.

    He cites an example of earthquake insurance in Japan, which always increases after a tremor.

    In the same way when markets are volatile, the price of options increases, escalating the cost of insuring against a declining portfolio. The insurance needs to have been in place before volatility sets in.

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-15, 17:19:20, by ian Email , Leave a comment

    Why Dividends Matter to Long Term Investors

    The range of equity market participants, as you can imagine, is extremely broad. While there is a large group of participants that can be termed ‘long term investors’, there are many other people and institutions who aren’t long term investors.

    Participants who aren’t explicitly in the market for the long run partake for a variety of reasons including hedging out exposure to certain risks, profiting on short term trading opportunities, providing liquidity as a market maker, gaining exposure to South Africa or emerging markets (generally offshore investors), etc. For these investors the return generated from dividends typically won’t be their primary reason for making the investment.

    Asset managers and certain hedge fund managers are typically your long term investors. A large portion of the assets that they manage are generally getting invested for retirement, justifying a long term approach.

    One of the more credible ways of valuing a company is the discounted cash flow method that looks to discount all cash flows (read dividends) expected from a company into perpetuity. Managers then compare the value calculated to the current market value to see whether the company is under valued or over valued.

    Empirical research shows the dividend is an important driver in long term returns. The chart below shows that your return from dividends is around 70% higher than your real capital appreciation over time. Investors are often more interested in the capital return, but most of the capital growth can typically be ascribed to inflation in asset prices, and not real growth.

    Source: Cannon Asset Managers

    The initial dividend yield will therefore play a large part in determining whether the value ascribed to a company by a market is above or below your cash flow based valuation. The market’s current historic dividend yield is extremely low suggesting that the market is extremely expensive. This can be seen in the chart below.

    Source: Investec Asset Management

    While our view is that the market is overpriced, we don’t feel that it is as extreme as the dividend yield suggests for a couple of reasons. Anglo not paying a dividend in 2009 and skipping one now affects the ‘market dividend yield’ materially (around 0.5%), but share portfolios can still be constructed with decent dividend yields. The yield relative to cash is also now more attractive than when cash was yielding over 10%, making shares look slightly more attractive than when looking purely at the dividend yield in isolation.

    The key to remember is that while certain indicators can give you a good idea of what to expect the actual experience will generally be slightly different as other factors may be at play that aren’t fully reflected in the indicator. Another caveat is that broad indicators are not fail safe, particularly over the short to medium term.

    Enjoy your weekend.

    Take care,

    Mike Browne
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-12, 16:33:35, by Mike Email , 1 comment

    Sentiment matters

    The next lesson that I would like to highlight from James Montier’s 10 lessons is the fact that sentiment matters in returns.

    We have discussed valuation and that time and time again it’s very evident that starting valuations are critical for longer run superior returns.

    But Montier goes one further and notes that while it is a cliché that markets are driven by fear and greed, this is “disturbingly close to the truth”.

    Investor sentiment swings like a pendulum, from irrational exuberance to the depths of despair.

    This move in investor sentiment drives prices. This price action measured over a period of time – one month, 3 months, 12 months etc is what investors receive as an “investment return”.

    Some studies have been performed to try and measure investor sentiment and then having measured it, to ascertain what groups of companies perform better than others when sentiment is high or low.

    Baker and Wurgler looked at various factors to measure sentiment, including:

    • Discount on closed end funds. When discounts widen, sentiment is low and vice versa.
    • Turnover on the New York stock exchange
    • The number of and average first day returns of IPO’s (initial listings)
    • The equity share in new issues
    • The dividend premium (relative price of dividend paying and non dividend paying shares)

    In general they found that when sentiment was low, buying young, more volatile, unprofitable companies (i.e. Junk) generated the better returns.

    When sentiment is high, it is better to buy more mature, low volatility, profitable firms (i.e. quality).

    This investment methodology is in itself is contrarian -

    GMO’s and James Montier’s view is that at present, high quality stocks appear to be one of the few fat pitches available. I.e. with sentiment having now improved and markets closer to fair value, they say that “quality stocks continue to register as distinctly cheap on our metrics.”

    Some interesting points. If you would like to discuss how this may pertain to your investment portfolio, or if you are looking for an investment manager to advise on and manage your discretionary and retirement funds, contact Vincent on telephone number below or Vincent@seedinvestments.co.za

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-11, 17:34:11, by ian Email , Leave a comment

    Valuation matters

    We looked at 10 lessons that investment strategist James Montier put out in a paper issued by US fund managers, GMO. I mentioned that I would spend a bit more time on some of the lessons that he highlighted.

    His lesson number 4 was – Valuation matters.

    He noted that while most everyone agrees with the assertion that “value investing tells us to buy when assets are cheap and avoid purchasing expensive assets.” He has repeatedly come across investors willing to “undergo mental contortions” to avoid the valuation reality.

    He highlights the Graham and Dodd methodology of calculating the price to earnings ratio by dividing the current price over the 10 year average earnings. He cites past examples when investors rejected this methodology because it is too backward looking and does not take growth into account. This was especially the case in the IT boom period when different valuation metrics were being invented.

    He also cites that during the latest crisis, investors were making arguments that this methodology was overstating earnings.

    However over an extended period of time, buying when the PE is low (using a 10 year smoothed earnings) generates significantly better returns than buying when markets are expensive.

    The graph above reflects the compounded real return over a subsequent 10 year period, based on different starting valuations. What is clear is that when the PE ranges between 5-13, the 10 year real return is far higher than when the PE ranges from 20-48.

    We have done a similar study of the real returns on the JSE at different starting valuations – modelling this, drives our basic equity asset allocation decision.

    If you have any questions on your investment returns, strategy and would like to find out how Seed can assist, please don’t hesitate to give us a call.

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-10, 16:15:51, by ian Email , Leave a comment

    Lessons learnt - James Montier

    James Montier, a global financial strategist and expert in behavioural finance, put some points out in a White Paper published by US fund managers, GMO, titled “Was it all just a bad dream? Or Ten lessons not Learnt.”

    He starts off by saying that the market declines of 2008 and early 2009 are being treated as nothing more than a bad dream…. The extreme brevity of financial memory is breathtaking.

    He put together 10 of the top lessons he thinks investors seem to have failed to learn. I will list them and then over the next few days discuss a couple in more detail.

    1. markets aren’t efficient

    While many practitioners seem willing to reject the EMH (efficient market hypothesis), the academics refuse to jettison their treasured theory.

    2. relative performance is a dangerous game

    He quotes the late sir John Templeton, who said, “It is impossible to produce a superior performance unless you do something different from the majority.”

    3. the time is never different

    His conclusion on this point – “…investors get caught up in all the details and the noise, and forget to keep an eye on the big picture.”

    4. valuation matters

    While it is self evident that buying when cheap, he says that he has repeatedly come across investors willing to undergo mental contortions to avoid the valuation reality.

    5. wait for the fat pitch

    using a baseball analogy of waiting for the perfect moment when patience is rewarded as the ball meets the sweet spot.


    6. sentiment matters

    Investor returns are not only affected by valuation – sentiment plays a part.

    7. leverage can’t make a bad investment good, but it can make a good investment bad.

    Piling leverage onto an investment with a small return doesn’t transform it into a good idea.

    8. over-quantification hides real risk

    The obsession with overly complex mathematics hides real risks – which should ultimately be defines as the permanent loss of capital.

    9. macros matters

    Neither a top down view, nor a bottom up view has a monopoly on insight. He concludes that we should learn to integrate their dual perspectives.

    10. look for sources of cheap insurance

    His final lesson is that insurance is often a neglected asset when it comes to investing. It is the steady short term losses (premiums) that makes insurance seem unattractive to many investors. However this disliked feature often results in insurance being cheap.

    Some good points, which I will expand upon.

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-09, 18:07:45, by ian Email , Leave a comment

    More company earnings

    Company earning for full years and interims continue to come for the period to December. The price movement post the release of the results is a good indication of what analysts have expected and what they have been factoring in. Looking at 2 of the results today, while earnings went down, the share price gained ground – clearly a case of slightly better than expected.

    Today we had reports from an industrial company, a commodity related and a financial services company.

    AVI
    Fast moving consumer goods company, AVI, reported interims to December. Revenue was flat at R4 billion, profit down slightly, at R335m, but headline EPS from continuing operations up 9% to 112,3c.

    The interim dividend was increased by 8,3% to 39c

    The company has the following operations. Fashion brands portfolio, which improved operating profits by 35% to R167m.

    The strong rand negatively impacted the sales of its I&J division as did some pressure on selling prices. Operating profit dropped from R125m to R59,8m.

    Hot beverage brands division lifted operating profit from R129m to R167million.

    On a total basis margins were up slightly from 40,3% to 40,6%.

    Finance costs and debt came down.

    The market liked the results and the price gained 3,76% to 2345c. Last week it traded up to R24 - a new high.

    Sasol
    Sasol, which converts coal and gas to fuel reported their interims to December. Turnover was down from R83 billion to R58 billion, with operating profit off from R21,5 billion to R10,5 billion.

    Diluted headline EPS fell from R21,79 / share to R11,14 / share, but the interim dividend was raised by 12% to R2,80c

    The lower profitability was a result of lower average crude prices of $71,42 in 2009 compared to $84,75 in 2008, as well as a 14% stronger rand to the US dollar.

    The price gained 2,29% to R290,50. It fell from a high of over R500 in May 2008 to R221 in November 2008, before moving mostly sideways.

    JSE

    JSE reported its annual numbers to December. Revenue was up slightly to R1,1billion. Personnel expenses jumped from R238m to R318m, and other expenses from R484m to R491m. This was due to increased headcount and the acquisition of the Bond Exchange. Attributable profit fell from R374m to R367m

    Diluted EPS was down slightly from 434c to 425c

    The share price gained 1,1% to 6420c. It had fallen to R36 in February 2009 and has therefore rebounded in line with the strong market, especially for companies in the financial sector.

    In many respects the market has been expecting firmer earnings. In some cases these have not yet come through and so there is some concerns that perhaps the JSE has rallied a bit too much – but its in line with the general risk appetite across the globe.

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-08, 17:40:14, by ian Email , Leave a comment

    Value in Construction

    The construction sector has, over the course of about 5 years, experienced a full cycle. Construction companies by their very nature are quite cyclical. The reason simply is that paying someone to build roads and bridges every day isn’t as important as paying someone for drugs (medicine) on a daily basis.

    The graph below that maps the share price growth of Group 5 versus the Construction sector and the ALSI since the end of 2004. They all end up fairly close to each other, but you will see how the construction sector has been much more volatile.

    While demand for pharmaceutical products doesn’t change too much over the short term, demand for construction companies’ produce can and does vary quite a bit. Governments are generally a large customer of construction companies and they tend to go through phases of under development and overdevelopment. Construction can and does also get used to help growth when economies are weak (this is a case in point particularly in China at the moment). It therefore stands to reason that construction companies will be more attractive when a country is in a phase of overdevelopment and less attractive when there’s a lack of development occurring.

    Remember though that the attraction, or otherwise, of a company should not overly influence your decision on whether or not to invest in the company. Price is critical in the analysis. When construction companies were experiencing booming order books at record margin they appear to be very attractive, but the price more than reflected the good news. We are now at a point where many construction shares are painting a bleak picture, and it might just be the time when they are becoming more attractive as investment propositions.

    Group 5, the 5th largest construction company listed on the JSE, released interim results this morning that make for some interesting reading.

    The company is mainly exposed to the construction sector (74% of profits) and has therefore been operating in a tough environment where many projects have been shelved or cancelled in the private sector, and where government hasn’t been as efficient in awarding contracts.

    The tough market conditions are reflected in revenue contraction of 4% and profit growth of 12%. Profit growth in the face of declining turnover has been achieved as a result of improved margins. The dividend declared is up 9% when compared to the previous first half of the financial year.

    What interests me the most about the results is that cash on the balance sheet equates to R3.24bn and the company has no debt, while its market cap on the JSE is R4.26bn. Clearly the company has a lazy balance sheet, but the market’s implying that the company (other than its cash) is worth only R1.02bn. With earnings of R 533mn for the 12 months ending 31 December 2009 the PE multiple placed on Group 5 less its cash is a lowly 1.9! The quoted PE is higher at 6.1, but these multiples are extremely low compared to the market. The company doesn’t need great earnings performance for its share price to do well as there is already a lot of bad news priced into the share.

    As always the key to investment success is not the popularity of your portfolio, but rather the price you pay for each share in your portfolio.

    Enjoy your weekend!

    Take care,

    Mike Browne
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-05, 16:23:05, by Mike Email , Leave a comment

    Daily Equity Report Thursday 4 March 2010

    The JSE closed up 0.33% at 27774 with value traded at R 11.89 billion. Advances led declines 188 to 161 with 100 shares unchanged out of 449 active. Mining closed up 0.11% at 32816, while Industrials were up 0.39% at 26471 and financials ended the day up 0.79% at 20521.

    The best performing sectors of the day were Software & Computer Services Index up 3.1% at 366, Technology Index up 3.1% at 17281 and General Industrials Index up 2.6% at 62194, while the worst were FTSE/JSE RAFI ALLSHARE INDEX down 3.3% at 5647, COAL MINING down 2.2% at 24224 and FTSE/JSE All Africa ex SA 30 with S A Rand values down 1.8% at 57.

    There were 23 new 12 month highs today, including Redefine which closed up 5.3% at 795, Capevin up 4.9% at 8500 and Didata up 4.8% at 1070 while there were 1 new lows of which Anglopl-n topped the list, down 0% at 19000.

    Of the major stocks Anglo moved up 0.7% at 29600, Mtn was up 2.25% at 11769, Arcmittal moved up 3.07% at 9302, Billiton ended down 0.2% at 24101, Stanbank moved up 0.94% at 11194.

    Some of the top gainers included Sephaku up 48.51% at 300 , Lonfin up 22.45% at 300 , some of the losing shares included Afro-c down 7.41% at 150 and Ama off 6.25% at 150

    The Dow was up 0.2% at 10417.54 and the S&P 500 up 0.1% at 1120.15 a few moments ago.

    Gold was down 0.5% at $ 1131.90/oz

    The rand was last trading at R 7.46 to the dollar, R 11.20 to the pound and R 10.15 to the Euro.

    Permalink2010-03-04, 20:15:44, by admin Email , Leave a comment

    Cheap money

    A major driver of global risk assets has been cheap money. Central banks around the world have maintained ultra low interest rates and for the most part this is continuing with 2 major central banks making announcements on their key interest rates today.

    The big question for most central banks around the world is when to start to raise rates again. Typically they cannot easily lift rates in a world that is still trying to recover from a recession, but at the same time there is a concern about the implications of overstaying a position of ultra low rates.

    Today, the Bank of England kept its key rate at the ultra low 0,5%, and maintained its bond purchase program on hold for the second month – i.e. elected not to extend any further cash injections into the economy.

    The UK’s growth rate came in at 0,3% for the last quarter of 2009. This supports low interest rates.

    However Inflation is running at 3,5% in the UK, which is way above the 2% target.

    The effects of inflation, ultra low interest rates, massive fiscal deficits and money injections into the economy have weakened the currency relative to others.

    The chart reflects the dollar/pound exchange rate

    The European Central Bank also met today – as was expected it left its key rate unchanged at 1%. This was the 10th consecutive month at this level.

    Inflation is low at 0,9%, while GDP for the Eurozone gained just 0,1% in the last quarter of 2009.
    The big risk for these economies is that inflation starts to pick up, growth goes into reverse, putting more on more pressure on the fiscal positions and long term debt structures.

    But cheap money is good for real asset prices.

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-04, 17:13:47, by ian Email , Leave a comment

    A bullish case for global equities

    Some managers, like the ever bullish Ken Fisher, have outlined their bullish case for US and global market equities in this the second year after the 2008 bear.

    The initial stage of the 2009 bull market was driven by an improvement in sentiment and a global wall of liquidity from various stimulus packages and central banks.

    While the stimulus is still largely in place, Fishers’ view is that fundamentals should start to gain some traction as the year progresses. Some of the investment drivers that they have identified include:

    • An overwhelming historical precedent for another positive year;
    • Fast growing emerging market and a resurging global trade;
    • Very lean corporate expense structures;
    • Stock valuations that are not expensive, especially on a relative basis to interest rates;
    • Monetary and fiscal policies that continue to provide tailwinds;
    • Sentiment that remains sceptical.

    Their work indicates that on the second 12 months after a bear market decline and a positive year, that this is also invariably positive. They looked at the S&P500 and noted that the one exception to this rule was after the 1932 bottom, when shares fell 0,4% before resuming an upward trajectory.

    Fisher Investments presented the following table:

    They then note 3 pillars of economic expansion:

    1. Emerging market economies, which are already on a cumulative basis bigger than the US economy, should lead the world out of recession.


    Source: IMF, Thomson Reuters, Consensus Economics

    2. They note that business investment should continue to rebound shaprly as companies in general “play catch up after skimping on, and in fact savagely slashing capital expenditure and inventories during the last 18 months.”

    Their view is that contrary to popular sentiment, firms are exceptionally healthy and in a good position to capitalise on the rebounding economy.

    Balance sheets are generally strong, with high cash holdings, low debt and low borrowing costs.

    These lean costs structures should give firms tremendous operating leverage. i.e. smaller gains on the revenue line translate into even bigger gains at the earnings level.

    The note the consensus for S&P500 earnings growth in 2010 is 29,4%. The average earnings growth per annum since 1994 has been calculated at 6,5% with a decline of 76,6% in 2008 and 50,5% in 2001 and gains of 75,2% in 2003. Their view is that following large declines, the actual earnings gains could exceed current consensus.

    Already this consensus is being upped as companies are reporting numbers ahead of expectations – see conclusion.

    3. Strong emerging market growth and resurgence in business investment should bolster global trade, which fell severely in the recession.

    Conclusion

    With 98% of all companies in the US having now reported their 2009 earnings, the aggregate earnings number for the S&P500 in 2009 is coming in at around $56,5.

    Analyst forecasts, which until now have been slightly behind the actual numbers, are forecasting earnings of up to $78 in 2010, and $94 in operating earnings in 2011, i.e. a possibly gain of some 38%, followed by 20%.

    As we mentioned last week, taking a longer term view of say 5-7 years, global equity, and especially high quality companies are in absolute and relative terms at fair to good value.

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-03, 17:52:24, by ian Email , Leave a comment

    Repeatable historical performance

    Warren Buffett has been described as one of the best investors of all time. He has a fantastic long term track record as an allocator of capital. Probably more than any other single person he has used the magic of compounding to its fullest extent with the listed investment vehicle Berkshire Hathaway. But is the historical performance repeatable?

    His 2009 annual report has recently been released, which annually compares the movement in the per share book value of the Berkshire shares compared to the annual percentage change in the S&P500 including dividends to ensure a like for like comparison from 1965, which is when Buffett took control of the company.

    The book value has been used as the most appropriate metric to measure, because this is largely controllable by the managers of the business. The market price tends to be more volatile and the managers of a business have very little to no control over this price on a year by year basis.

    The book value grew from $19 in 1965 to its current $84 487 per share, which is a compounded 20,3%.

    By comparison, the annual compounded gain in the S&P500 from 1965 is 9,3% and so Berkshire’s book value has grown at a rate of some 11% ahead of the overall market as measured by the S&P500.

    The cumulative effect of this difference over an extended period of 45 years is very big. In the case of the S&P500 index an investor would have received a cumulative 5430% and in the case of an investor in Berkshire a cumulative 434,057%

    As an early and major investor however, Warren Buffett received an even higher return. Berkshire was a listed company where the market price traded below book value – which is exactly one of the reasons which made it favourable to Buffett. From a position where the price traded at a discount, it has now moved to a position where it generally trades at a premium. Buffett, along with other early investors who stayed the course would have received this additional benefit and he calculates that on a price to price basis, the annual compounded return has been 22%, which gives a cumulative 801,516%.

    The question is asked “is the historical outperformance repeatable as the company gets bigger and bigger?”

    This is the same question that one needs to ask of a fund manager where performance naturally attracts more assets.

    We have aggregated and averaged Buffett’s outperformance (alpha) into 9, five year periods. It is clear that the first 25 years produced exceptional outperformance, but that this has been tempered over the last 20 - still a very credible number.

    Buffett himself answers the question in his report : “The big minus is that our performance advantage has shrunk dramatically as our size has grown, an unpleasant trend that is certain to continue. To be sure, Berkshire has many outstanding businesses and a cadre of truly great managers, operating within an unusual corporate culture that lets them maximize their talents. Charlie and I believe these factors will continue to produce better-than-average results over time. But huge sums forge their own anchor and our future advantage, if any, will be a small fraction of our historical edge.” Emphasis added.

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-02, 17:25:54, by ian Email , Leave a comment

    Berkshire and Bidvest

    Over the weekend Berkshire Hathaway, the insurance and investment holding company run and largely owned by 79 year old Warren Buffett and his partner 86 year old Charlie Munger, released their annual report for the year to December. The local Berkshire lookalike, is industrial company Bidvest, capably run by CEO, Brian Joffe. Today Bidvest reported its half year results to December.

    Bidvest’s principal business is in trading, services and distribution.

    In many respects, Bidvest can be compared to Berkshire Hathaway. It has these points in common:

    • They both invest in an array of different business types, although Berkshire has concentrated in insurance and Bidvest in food services businesses.

    • They both look to own 100% of their subsidiaries, which gives them access to 100% of the cash flow generated by the underlying business.

    • They are both essentially allocators of equity.

    • They are opportunistic and acquisitive.

    • They both operate using a small head office.

    • Operations and administration are decentralised at the business units.

    With Bidvest, the various business units are aggregated into the following main divisions: Bidfreight, Bidserv, Bidvest Asia Pacific, Bidvest Europe, Bidfood Caterplus, Bid Industrial and Commercial products, Bidpaper plus and BidAuto.

    Some points made by Brian Joffe at today’s presentation.

    Succession planning is important, not only for head office, but for all businesses and group. This is an ongoing work in progress.

    Critical mass is important and hence the business will continue to grow and make acquisitions where necessary.

    Distribution and control of this distribution is important.

    Head office gives management total autonomy. The role of head office is to monitor the returns that managers are giving on assets.

    Into the future Bidvest will invest into food services around the world. Also going to look more into Africa.

    Revenue was down 6,5% to R56,1 billion, trading profit flat at R2,6 billion, but headline EPS up 9% to 495c.

    Cash generated by operations at R3 billion – up 229%.

    Net asset value per share is R49,60 up from R43,85.

    Net debt to equity at 37,2% down from 56,7%. This allowed for finance charges down 31% to R385m.

    Two questions he answered. What about the world cup and jobs and interest rates.

    His view is that while the numbers will be lower than 0,5 million, it is not likely to be less than 250 000 foreign visitors. But Bidvest will benefit from the sheer scale even with local fans.

    His view is that the government has been too slow to reduce interest rates. The important issue that they should have addressed is higher growth and more jobs and hence should have driven interest rates lower.

    Bidvest relative to the JSE


    Source: Sharenet, market tracker

    Berkshire Hathaway

    Some data from the annual Berkshire numbers. Total revenue, including insurance premiums, sales, interest and gains at $112,5 billion. Net earnings for the year at $8 billion and on a per share basis up from $3225 to $5193.

    Total assets are stated at $297,1 billion and shareholders equity at $131,1 billion.

    Kind regards

    Ian de Lange
    info@seedinvestments.co.za
    www.seedinvestments.co.za
    021 9144 966

    Permalink2010-03-01, 17:15:35, by ian Email , Leave a comment