Annual Roundup 31/12/10

Early in the year I joked to a friend that the FTSE100 would reach 6000 by the year end. It closed on Christmas Eve at 6008, although it has taken a tumble today. Well, I can tell you now that it feels great to be such a market guru. This just confirms my belief that when it comes to economic forecasting no one knows anything. For the last few weeks, markets seem mainly to have noticed only positive news flow and given us a traditional, thinly-traded Santa rally (and, I assume, therefore, wholly coincidental fund manager bonuses). This is a situation which could quite easily go into reverse when the next Euro/China/US shock arrives and perhaps that is already happening.

On the month, Sterling ended at €1.1612 and $1.5522. UK 10 year gilts fell to give a gross redemption yield of 3.55%. Gold has risen a little to $1410 per ounce. Brent Crude future rose slightly to $92.53 per barrel and copper rose strongly to $9662.50 per tonne.

The FTSE100 rose from 5528.30 to 5899.94 and the FTSE250 rose from 10607.74 to 11558.80, increases of 6.7% and 8.9%, respectively. The annual figures are 9.0% for the FTSE100 and 24.1% for the FTSE250, showing a better performance this year for the more domestically orientated mid-cap businesses.

For commodities, both oil and non-ferrous metals have had substantial rises this year. The former rising about 25% and the latter varying from 8% (aluminium) to 50% (tin) with only zinc showing a fall. Gold has risen sedately by 25% while silver has jumped 70%. Most food staples, too, have risen appreciably and mostly in the second half of the year. All of which has given rise to inflationary pressures, but especially in the UK where the decline in Sterling and the rise in VAT have added to this trend.

Equity Portfolio (+3.7% on month, +23.6% on year)
Over the year there have a couple of investment disasters in my portfolio. ROK went bust and BP poured away its dividend all over the Gulf of Mexico. Also, there have been some poorly performing, zero-yield stocks like Colliers International (recently perked up owing to director buying), Premier Foods and Taylor Wimpey, all of which have struggled with debt. In addition, I made a bad call with BT, selling out at £1.30 but it has now risen to around £1.80 on largely positive pensions newsflow.

However, it is clear that, overall, my gains far exceed my losses and, at 23.6%, I have comfortably beaten the FTSE100, as I did last year (51% as against 22%), though not the FTSE250. Sadly, I don't have reliable figures for the year before, but I don't think I did nearly as badly as the 31% loss recorded by the main London market and, in any case, I was far less exposed to equities then. However, before I get too smug, I must remember that my figures include dividends of circa 2.8% since, without some tedious calculator tapping, I don't have a way of stripping these out. Moreover, my calculations are just based on annual cash in/cash out and do not allow for periodic capital flows via a true time-weighted rate of return and tend, therefore, to overstate the upside in this instance.

This year's good performance has been due in part to reliable dividend payers like Aviva, Balfour Beatty, Electrocomponents, National Grid, RSA and Vodafone. However, the heavy capital lifting was done by the energy, resources and specialist engineering sectors (the relatively low level of Sterling, except as against the Euro, was a help here). Oxford Instruments is an example of the latter, which I bought at £1.60 last autumn. I sold a third of my holding at £6.70 a couple of weeks ago, a fourfold gain, and they have since risen further to around £7.00. Their contract last year to supply silver wire to the interesting but probably doomed ITER Project kickstarted their recent success.

I've realised some of my profits over the year so that I can have some cash available for further buying, but at the same time I've necessarily reduced my exposure to some of my best performers. My cash holdings are still just above 50%, if Index Linked Certificates and Premium Bonds are included, so perhaps I have been too timid in my investing. There have certainly been some foregone opportunites as well.

For example, Telecity is a major Internet hoster and service provider that I briefly considered and then dismissed for no other reason than it reminded me too viscerally of the machine rooms and server racks that I see every day in my job. Truth to tell, I've been irrationally prejudiced against IT for a decade (we all have our demons). Weir, the pump and valve maker, which has risen from around £4 to £18 in two years and in my favoured energy services sector, was frequently on my buy list, but suffered from the "let's wait until it drops a bit" syndrome. GKN, which makes some of the bits that make cars and trucks move, was a no brainer (what is it, again, that petroleum is used for?) but, having not enough of the grey matter myself, I failed to move on that one. Likewise, Rio Tinto, I didn't buy, probably because of my instinctive dislike of high prices: buying 50 shares, for example, just seems so pathetic. 2000 shares in ROK, anyone?

However, this year's gain, when added to last year's, has come at a good time for me, but I am under no illusion that this will continue. I've been investing, on and off, for twenty years, but I don't feel like an experienced investor and for much of that time I haven't been nearly reflective enough on my failures and successes. I've lacked discipline and have not remained focussed. What's saved me is saving itself. Obviously, my thoughts now are turning towards what will be the good sectors for next year. I'm not necessarily expecting the same ones to do well, but equally, I won't be surprised if they actually do, and so I am not going to sell any more in the near future. In fact, I may well try to accumulate more in the energy services field, perhaps even the likes of Amec or Rotork, two seemingly well run companies, whose prices, sadly, are now well up with events.

The economic backdrop for next year is not that good. In addition to the risks identified here, there are others less immediately likely but more difficult to evaluate, like a collapse of the Chinese property bubble or an escalation of tensions in the Middle East. As a general rule of thumb, sectors that have gone through a rough patch will have their day again, but next year is, I fear, still too early to cheer on the likes of, say, construction or retail. At the present time, a sector I like is property because I flatter myself that I understand it. There is something comforting about bricks and mortar (just ask any Irish or Spanish bank manager). More seriously, though, --and concentrating on commercial property-- you can get a feel for the business by simply walking the streets, while technical information on rents, void rates and so forth is easy to come by. In the UK, commercial property companies are often configured as REITs (Real Estate Investment Trusts) which gives them certain tax advantages, providing they distribute, under certain conditions, 90% of profits to shareholders.

The REITs break down roughly into the office, industrial and retail categories, cross-classified by whether they are in prime (mainly London at the moment) or non-prime (mostly everywhere else) locations. The two biggies are British Land and Land Securities. They are very similar and operate in prime UK office (mainly City of London) and retail locations. Investing in these two is largely a play on financial services and shopping, so don't fool yourself into thinking that they are low risk. They've been in the game a long time, however, and have a good track record.

I have held British Land and Great Portland Estates (mainly London West End office and retail exposure) for a long time and participated in the 2009 rights issues. To these, I have added Hansteen (industrial, mainly Germany and Netherlands), Local Shopping REIT (UK provincial retail), SEGRO  (UK and European industrial) and Workspace  (Greater London industrial and small office) over the past 18 months. Although I am in profit on all of these, the gains are still far from secure and I may have jumped the gun on at least one of them (LSR). Ones I like the look of for the future are Hammerson (European retail and office), perhaps Derwent London (Greater London office) or Land Securities itself. With its recent development (the tedious New Change, which looks like Milton Keynes has landed in Cheapside --hurrah for the roof terrace, though), Land Securities has astutely developed the market for retail in the City. A company that amuses me, but which I am not going to touch any time soon, is the troubled Minerva (Greater London office). Its fortune is mostly tied up with the large but elegant, yet seemingly unlettable, Walbrook Building. Nice pile, shame about the company.

REITs tend to be cyclical and the better run companies are now well off their lows. Don't expect them to be great growth stories as they are mainly yield plays, although, property being property, there is always a likelihood of a bubble over the next decade. For example, I am still down 25% in capital terms on my British Land purchase in 2005, but I am fairly confident this will turn to profit over the next five years. Indeed, had I bought five years earlier, I would have doubled my investment, as I have done with Great Portland Estates, which never fell below my original buying price during the 2009 nadir.

There are always risks, of course. In the prime London areas, what seems to be a frightening amount of floor space is coming on stream in the next two to five years as the major players have all mostly resumed building or refurbishing, although in percentage terms it's probably only around 5% of the total, so far. As far as the industrial and retail specialists are concerned, their fortunes are largely geared to the wider economy in Europe or the UK as appropriate. The companies I have mentioned give a diverse spread of sizes, subsectors and risk profiles. For convenience, I summarise them here:

The figures are taken in each case from the last full year accounts and those for NAV and debt in particular may be well out of date. Prices are current as at 24/12/10. More recent interims and trading statements should be scrutinised carefully before buying, of course.

Are there any other sectors I'm interested in for next year? You bet, but that is enough for now. As for 2011 itself, I'm expecting more volatility with probably little overall gain except dividend income. A prosperous New Year to you all.