Investment club: European worries mean difficult and unprofitable few months ahead

By JAMES BURNS
Published on 02/06/2012 00:00

Francois Hollande’s win in the French presidential election run-off on 6 May gave France its first socialist president since Francois Mitterrand in 1981.

President Hollande, needless to say, favours less austerity and more spend, spend, spend of taxpayers’ money in the name of growth.

As we have seen in Japan and are probably seeing in America, this does not work. Simultaneously, the Greek elections produced a hung parliament. This means more elections are needed in June when it looks like the Syriza bloc, who reject all further cutback, will gain control.

The uncertainties leading up to these outcomes have helped the pound remain strong against the euro and gilts retain their safe haven status. Consequently, gilts have held up well at pretty rarefied levels, considering they have had a good run since the beginning of the year.

The Investment Club’s recent equity purchase of Meggit managed to rise above its break-even level with a tiny profit. In aggregate this helped our unit price to start rising again at the end of April. The unit price gained five pence to £3.25 in April. Unfortunately, this is all the good news. It all gets much darker for the club in May.

The club’s analysis was looking for a bull run in the FTSE up to about 6,500 index points by September 2012. At this point, expectations were for everything to come tumbling down and gilts to be back in the limelight. With these projections in mind, the club should think about rebalancing its portfolio more towards equities for the duration of the run- up in equity prices. To this end, we bought shares in Meggitt. However, the rebalancing in favour of equities has gone very badly wrong just as the markets have started to tumble prematurely.

The imbalance has come about because one of our larger investors withdrew their funds in April. To accommodate their withdrawal request the club had to sell down its larger holdings of gilts. This sale has immediately tipped the balance away from gilts just as the bull-run in equities has performed a volte-face. On current trends, the club’s portfolio is nursing a substantial loss. How do we recover?

To extricate the club from its predicament the dream scenario at this juncture would be for the equity bull-run to re-establish itself and run its course. The club then sells Meggitt at the top and buys into gilts at the bottom with the new injection of funds.

The nightmare outcome is that France’s Hollande does not ameliorate his policies and the anti-austerity Greeks destabilise the eurozone with a win for the Syriza party in June’s re-run elections. Meggitt’s shares would fall like a stone and gilts would rocket, leaving the club out of pocket. Accordingly, the month ahead is going to be particularly difficult for progress in the unit price.

For now, the only decision left to the club is whether or not to sell Meggitt. The current prognosis is for a very difficult and unprofitable few months for the club.