Just when things were going swimmingly...

Recent stock market moves in early October 2018 have provided a forceful reminder of Warren Buffett’s oft-quoted remark that when the tide goes out you see who’s been swimming naked. Whilst not completely nude, I have felt a little exposed in the last few days so now is a good time to reflect and summarise my financial and emotional responses to the recent volatility.

Firstly, although there has been virtually no hiding-place in long-only equity strategies, my tilt away from the UK to emerging and frontier markets has suffered from the combination of dollar strength and US/Asia trade concerns. Black Frontiers and Jupiter Emerging and Frontier income have fallen by more than 10% since early 2018.

I remain convinced of the virtues of an allocation to developing economies and indeed have increased my weighting to this sector in a hopefully income-generative manner by opening a small position in the recently London-floated Grit Real Estate Income Group - a real estate company invested in African commercial, retail and tourist-related properties. It’s the only Africa-focused investment I can find that promises a regular dividend.

Secondly, the recent sharp falls enabled me to re-purchase K3 Capital, a rapidly growing AIM listed company I’ve mentioned previously which I had sold in the middle of 2018 after it had doubled in just over nine months. The company’s most recent results indicated if anything an acceleration in progress and last week I was able to re-enter at a lower price than I’d exited. In retrospect I should never have sold out, but at the time wanted to move some funds into slightly higher-yielding ISA purchases, e.g. Duke Royalty, about which another time.

Thirdly, even before the recent falls I had been adjusting the portfolio at the margin. For example selling out of Numis to avoid over-concentration in investments directly related to the stock market (I retain positions in Polar Capital and Premier asset managers for the moment but with a little less conviction). I also moved out of the SGVB Lyxor ‘value’ ETF – which at the time was heavily Japan-dominated – to exploit the change in dividend policy of JP Morgan Japan Smaller Companies trust.

Fourth, notwithstanding the market sell-off, I have/am about to invest in two of several new investment trust launches: Fundsmith's Smithson investment trust in global small and mid-caps; and Asset Value Investors Japan Opportunities Trust , an activist trust seeking to exploit and correct what it sees as inefficient capital allocation in a number of Japanese small and mid-cap companies.

In short, rather than panic selling I’ve engaged in selective purchases. I have no idea if the markets have further to fall in the remainder of 2018 but taking a much longer-term view some of the valuations (briefly) on offer in the week of 8^th October looked tempting.

Beneath the headlines it may be that the first signs of a move back to ‘value’ were already discernible in September 2018 with the MSCI World Value Index outperforming the MSCI World Index during that month.

Suggested Reading

Two new books I hope to find time to purchase and read in the last few weeks of 2018 are Howard Marks’s Mastering the Market Cycle, and particularly apt in the wake of the Patisserie Valerie case, Tim Steer's case studies of how to spot fraudulent accounting The Signs Were There due in November 2018.

CAKE will eat itself?

A brief note on the Patisserie Valerie case: I have a soft spot for the company as one of its brands, Druckers, is a much-loved institution in my home city. The apparently fraudulent accounting is shocking and worrying (if we can’t trust public financial statements on what basis can we invest?) and more will doubtless be revealed about such matters as the ‘secret’overdrafts of £10m.

As the case came to light I had the audacity to initiate an E-mail exchange with Professor Aswath Damodaran at New York University (eminent author of key texts on investment valuation and the stimulating Musings on Markets blog) asking if he could examine Patisserie’s recent accounts. He was gracious enough to take a quick look and reported no obvious warning signs.

Thereafter, an astute online commentator noted that alongside the reports of £21m cash balance in the September 2017 Patisserie accounts and £28m cash balance in the March 2018 interims were figures for interest received of just £44,000 and £1,000 respectively which were perhaps more telling than was realised by anyone reading those reports at the time.

For the record last Friday whilst the company’s fate hung in the balance I did re-acquaint myself with the lemon cheesecake from a nearby branch of Druckers, but still hanker after the original pre-Patisserie takeover Druckers recipe.