Ian unfortunately passed away last year
in October, a sad loss to the investment world. Shortly thereafter I
stopped following the activities of the Personal Asset Trust also
cancelling my subscription to their quarterly newsletter.
Earlier this month I came across a
insightful
blog
post by Jonathan Davis, the author of the above book, where
he wrote a questions and answer article with the new manager of the
Personal Asset Trust. Even thought the interview took place at the
end of July, the advice is still timely.
Jonathan graciously agreed for me to
use the interview in the guest post below.
(Emphasis mine)
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24
July 2009
Sebastian
Lyon,
the CEO of Troy Asset Management, is one of the coming talents in
investment management. The firm he runs was recently given the
mandate to run the Personal Assets Trust in Edinburgh, following the
untimely death of Ian
Rushbrook
in October last year.
Troy
Asset Management
started life with the task of running the family money of the late
Lord
Weinstock
and other senior managers at GEC, from whom he inherited his
conservative investment style and a focus on capital preservation.
Troy,
which is named after Lord Weinstock’s famous racehorse, now runs
three low cost unit trusts on an absolute return basis. The funds are
aimed at investors whose primary objective is to preserve capital.
This
is something that the Trojan fund successfully achieved throughout
the sharp bear markets of 2000-03 and 2007-09. Sebastian is one of a
number of top-flight professional investors who offer me periodic
snapshots on their view of the markets, and whose low cost funds I am
happy to own and recommend.
Where
are we now in the market cycle, in your view?
We have been
in a secular bear market for equities since 2000. This is a
long process of valuations being derated. That has been my view since
the Trojan Fund was launched in 2001. The bear market is likely to
last 10 to 14 years. Having had two down phases (2000-2003, the tech
bust and 2007-2009, the credit bust), we are now well into the second
half of that bear market, in my view.
Having
been very cautious, we can begin to be a little more optimistic on
equity markets. There is a clear correlation between starting
valuations and 10-year equity market performance.
The UK
stock market, for example, has derated from a PE of 24x in 2000 to a
PE of around 10 today. Bear markets usually bottom on single
figure PEs, so arguably there is one further derating to go before we
can celebrate an enduring new bull market. Now that the S&P and
the FTSE have bounced off the 2002/3 lows in 2009, markets may have
bottomed in nominal terms, but not when inflation is taken into
account.
In a bear market equity income is the key to
equity returns as it is clear that PE multiple expansion is not
likely. We have therefore concentrated on stocks that pay a high and
sustainable income. This served us in good stead during the
credit crisis when financials, cyclicals and highly leveraged
businesses have all been forced to cut their dividends. Investors in
these sectors suffered permanent capital loss and the added insult,
in many cases, of huge dilution as balance sheets have had to be
repaired.
What
have you been buying recently and why?
Nestlé:
Over the past five years dividend growth has been 14%. The valuation
(11 x earnings) is the lowest I have seen it in my career, so what
you get is a top quality consumer staple at a very attractive entry
point. The firm is globally diversified, operates in 130 countries,
and has a highly conservative balance sheet (interest cover of 16x).
The
company is a proven innovator and has better top line growth than its
peers over the past 10 years. Yet it is valued at no premium to them.
Should inflation return, fast moving consumer goods companies will be
in a good position to pass on rising input prices.
BATs.
Over the past five years dividend growth has been 16%. The tobacco
company offers material international diversification for a UK
investor since its sterling earnings are minimal.
We
believe the UK economy with struggle to grow for a number of years
and quality defensive international exposure is underrated by
investors. Such predictable cash generators are often ignored or seen
as dull by the consensus.
Berkshire
Hathaway. We have avoided financials stocks such as banks and
life companies because of the opacity of their structure and exposure
to bad debts/illiquid unmarketable securities. Berkshire Hathaway has
not performed well this year.
Strong
balance sheets are not in favour for now. Pricing power in insurance
and reinsurance remains very strong however. Berkshire’s other
direct corporate investments are valued conservatively at book value.
It seems we are paying little if any premium for Mr Buffett’s
investment abilities.
We
know investors go through periods of according different degrees of
goodwill to Berkshire. At present we have a good margin of safety,
with some healthy upside on a two to three year view.
Gold:
In a world of currency compromise gold will retain its real value and
protect real wealth for private investors. Still viewed with
skepticism by mainstream investors, gold has risen in value every
year this decade.
Although
we have a small exposure to gold miners, we prefer holding bullion as
miners are notorious in failing to create long term value for
investors. The volatility of mining stocks is also much higher. Gold
is independent from the world financial system and supply is limited,
not something that can be said about sterling and the dollar! I
view our gold holdings as being in lieu of holding cash.
What
are you avoiding and why?
We do not own cyclical
recovery stocks and financials for the reasons given above. Banks
will require more capital and the overhang created by the UK
‘nationalised’ banks (Royal Bank of Scotland, Lloyds Banking
Group etc) has still to be unwound. A number of UK domestic sectors,
such as pub stocks and airlines, have been recapitalized, but I
believe they have not yet raised enough money. Debt levels are far
too high.
I am wary of corporate bonds. There is a
consensus rush into corporate paper which makes me nervous. We need
to be in real assets - equities, index linked and gold. Bond spreads
may look mouth- watering, but liquidity is very poor in the UK
corporate bond market. My concern is that lessons have not been
learned from the dash for yield that occurred in 2004-07. The truth
is that were it not for quantitative easing (QE), government bond
yields would be higher and corporate bond spreads consequently
lower.
Any
further thoughts on the markets?
Investors are more
short term minded than they ever were. They are not, in my view
thinking forward to the unintended consequences of fiscal and
monetary policy. I think and hope that following the severe losses
incurred in 2008, the obsession with relative performance in
investment may now be seen for what it is – an absurd and imprudent
way to manage private wealth.
What
is suitable for pension funds is not suitable for irreplaceable
capital, whether that capital has been earned or inherited. There may
still be one final lesson to be learned before we can say goodbye to
this problem.
____________________________
About
Independent Investor
Jonathan
Davis
I
have been analysing investment markets for more than 30 years,
initially as a journalist on The Times, The Economist and The
Independent, more recently as a columnist, author and investment
professional. I am Investment Director of Agrifirma Services Ltd and
a Non-Executive Director of Hargreaves Lansdown plc. Any personal
views expressed in the newsletter are entirely my own.
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