Long Term Investment Management 2010 Q2 results: -1.44%

Dear Reader and Fellow Investors,

The loss in net worth of the Long Term Investment Management (LTIM) portfolio during the second quarter of 2010 was -1.44% on a bid to bid basis (denominated in EUR).

During the same period of time the Euro stoxx 50, as performed by investing in the ishares Dow Jones Eurostoxx 50 exchange traded fund (ETF), declined by -16.47%. We therefore outperformed our index by 15.03%. We would like to emphasis that we are never pleased with negative results, irrespective of how large an outperformance we achieve. However, we have stated in past quarterly reports that our investment philosophy makes it considerably more probable that we will out perform the market when there is a downfall than when there is an extravagant rise. We feel this attribute is vital to achieve long term investment returns that outperform the market over the entire market cycle.

Our more astute readers would have noticed that for the first time we are denominating our results in Euros rather than American dollars (USD). The reason why we initially presented results in USD was because your author had converted a large amount of his net wealth into USD during 2009. It therefore seemed sensible to measure performance in the most prominent currency used in the portfolio. However, the majority of clients we deal with are EUR based investors. As a result, moving forward we will present results in EUR. Consequently, our benchmark will move from being the Standard & Poor 500 (S&P 500) to being the Euro stoxx 50.


1 Summary

Our outperformance resulted primarily from our asset allocation rather than our security selection. This is not because our security selection was poor on aggregate; it was simply that asset allocation was more important than security selection in the last six months if you wanted to outperform the market. Our currency allocation also worked to our benefit due to the strengthening USD. The portfolio currently has over 40% of assets denominated in USD.

We have consistently mentioned in this blog, and in other writings, that in certain periods of time asset allocation is more dominant that security selection. In a period of weak credit growth and over valued risk assets, you can assure yourself the odds are in your favour that market prices will fall, irrespective of what financial journalists tell you. They have fallen recently, and are more likely to continue to fall rather than rise, in your author’s opinion. As a result, we remain overweight cash.

Though we cannot predict when prices will fall, nor by how much, we continue to use as a reference our estimate of fair value for the market in general, but more importantly, for individual securities. When securities are available at prices that are below our estimate of “fair value” plus a large discount, we start buying the security of that company. As we see more opportunities, we will start accumulating more risk assets, and therefore reducing our current high cash load. On average during quarter two we held 40% of assets under management in the LTIM portfolio in cash.

Our estimate of fair value for the S&P 500 remains at 930, as described over the last number of months in our Long Term Investment Management blog. This index remains stubbornly “over valued” relative to our estimates.


2 Portfolio facts

Our best performer in the portfolio during the second quarter was K-Swiss incorporated. Our worst performer was Monsanto. During the second quarter we executed eight transactions: seven purchases and one sell. We are looking to increase equity positions as prices become more attractive.

We continue to have substantial firepower to invest due to our high cash load, but we find ourselves for the first time in over three years having just over 50% of the principal fund invested in equities. However, the portfolio yield continues to remain low at 1.9%, due to the high cash position that generates virtually zero income.


3 Future progression

We feel it is unnecessary to labour on points mentioned in past reports (please see 2010 quarter one report or 2009 annual report for long term investment management). We continue to believe that economic growth will be weak and that risk assets remain slightly over valued. As a result we are totally against index investing in the current environment. Security selection coupled with a disciplined asset allocation is the approach we continue to take. Our asset allocation will vary with how we see the valuation of the market change and how the debt burden and credit creation process is managed. With regards to the latter point, we continue to remain concerned.


4 Potential mistakes

We include this section to keep us on our toes. Our biggest mistake by far this quarter was the purchase of Monsanto common stock at a price close to 70 USD per share. I would like to blame this mistake on a partner, but unfortunately I can’t. Though we feel the possibility of permanently losing capital on this investment is improbable, we appreciate that we have paid a little too much for growth, a mistake we strive to limit at LTIM. The gem of this company continues to be the seeds business, but our mistake was the price we paid for the agricultural productivity unit. This is a commodity business that is currently being heavily punished by Asian suppliers that have lower costs, and are flooding a number of markets Monsanto has traditionally been dominant. As a consequence the market has recently re valued this business unit, and quite rightly. As a result, we believe we are likely to hold a marked to market loss for a number of quarters on this security. Not until they issue there new seed products in 2012 do we see a valuation that will start to factor the growth potential of this company. Such experiences lead your author to remember that preaching without the practice didn’t get anyone far. We have tightened our investment procedure even further to ensure we fully scrutinise the price we pay for any security – irrespective of how good the story sounds or how much the stock has fallen.


As always, we invite you to ask any questions or queries you may have with regards to the LTIM portfolio, the advisory client portfolios we manage or anything else you wish to query with regards to investments.


Yours sincerely,

Alessandro Sajwani