Investment Report
Many of the world's stock markets have started 2006 with strong upward momentum, continuing the trend of pleasing stock market returns in 2005. The UK stock market delivered double-digit returns but even more impressive was the performance of some of the emerging market stock markets such as Brazil, Mexico, South Korea, India, Poland and The Czech Republic, all of which finished the year at or near all time highs. The only slight disappointment was the US. Such performance encourages us to believe that 2006 will also be a good year although we anticipate a small market correction, particularly in the UK, before the upward momentum is continued in earnest.
We hope the strong performance of the UK stock market will give investors the confidence to invest in a broader range of smaller capitalised stocks in 2006. Last year, the strength in small caps was in large part driven by oil, mining and commodities companies. This led to disappointing relative performance in the second half from two of our favourite small cap software companies, Kewill Systems and Invu, which were ignored and traded sideways. The rationale for retaining these holdings remains unchanged. We are encouraged by the recent out performance of some of the large cap software companies and believe that this will filter down to the small caps. We hope to see a sustainable share price rise in both companies in the near future.
The media stocks have at last started to rise and are performing well relative to the market. Many companies in the sector underwent extensive restructuring and are now enjoying turnover and earnings stability. This, together with talk of corporate activity, has started to attract investors' attention and we hope that the sector may, after five years, be back in favour. Media is our biggest sector call but we remain stock pickers, favouring Reuters and Pearson.
We also expect increased corporate activity among the financials - on a global basis. To benefit from this anticipated trend we have invested in the Jupiter Financial Opportunities Fund which invests in equities of financial sector companies on an international basis. As stated previously, we also like Barclays and Lloyds TSB. Barclays and Lloyds have strong franchises which we believe will be appealing to US predators. Their lending policies have been more restrained than other UK banks so they are less exposed to the UK consumer and Lloyds has an attractive dividend.
We also like other specialist financials such as the AIM listed stockbroker Panmure Gordon. This business has an attractive franchise but most impressive is the rigid cost control imposed by management. They can see the potential for super normal profits in a good market given the high operational leverage of the business.
Some of the strongest performance in our portfolios in the last year came from investments in emerging market economies. The Aberdeen New Dawn Investment Trust, which provides exposure to South East Asia, has proven to be an excellent investment and remains one of our favourites. We have also invested in Latin American markets via the Invesco and Threadneedle Latin American Funds. The region has recorded three years of double-digit gains, led by companies in Brazil and Mexico: Brazil benefited from increasing demand for exports of commodities to India and China and Mexico benefited from growth among some of its large blue chip companies that are market leaders in their fields.
Other geographies in which we are invested include emerging Europe. Here we see the potential for increased consumer consumption and financial credit demand. One way of exploiting this trend is via the Baring Emerging Europe Fund which has shown strong performance.
2005 proved to be more than just a year of consolidation ahead of what we predicted would be a strong run in 2006. Despite this, we remain optimistic and look forward to a year of good returns.
Happy New Year to all.
31 December 2005
