Yesterday we posted out a quick note to clients.  One of the matters covered in the note was the performance of 5 investor favourite companies - the big 4 banks and Telstra.  We thought that readers of our blog may also be interested in the analysis so here it is.

Amongst the most broadly held companies are the 'big 4' banks and Telstra; Telstra because of their 3 floats and the big 4 banks because of their reputation as reliable, dividend paying companies.

However, recent returns from all 5 of these companies have been poor.  Over the past 5 years all 5 of these typical 'investors friends' have underperformed the market.  The following link to a graph of all of these widely held companies compared against the index return - 5 Year Price Movement Chart - 4 Banks & Telstra.  The red line that finishes on top of the others is the return from the index.  The other returns are colour coded.  This only looks at the price movements of the companies and the overall index.  It is true that all five of the companies would have paid dividends slightly higher than the market average, although over 5 years this would have been a difference of only 5% or so - still leaving the companies underperforming the overall market.  (the closest company to the average market return is Commonwealth Bank - lagging by about 30% over the 5 year).

The reason for this underperformance is pretty simply - BHP.  It is the largest company in the index and has returned more than twice the return of the average market.  Being the largest company in the index it has pushed overall market returns along (together with other resource stocks such as Rio Tinto).

The latest edition of our fortnightly email newsletter has been sent to subscribers.  If you would like to be added to the mailing list please click the following link to be taken to the sign up page - The Financial Fortnight That Was Sign Up Page.

The financial topic discussed this fortnight was the use of fixed interest in portfolios.  The latest edition also contained the following Market Update:

Market News

Market Indices

Since our previous edition, Australian and global sharemarkets have continued to experience downward movement.  The S&P ASX200 Index has fallen 5.32% from the 22^nd of February to the 7^th March.  It is down 9.64% from the same time last year and down 16.97% for the calendar year (2008) so far.  The S&P Global 1200, a measure of the global market, has fallen 2.64% over the same period.  The index is down 2.90% from the same time last year and down 10.95% for the calendar year so far.

Emerging markets have also experienced negative movement with the MSCI Emerging Markets Index falling 3.22% since the 22^nd of February.  It is up 21.15% from the same time last year but down 10.96% for the calendar year so far.

Property trusts have not been immune from negative movements since the 22^nd of February with the S&P ASX 200 Property Trust Index falling by 9.00%.  The index is down 35.10% from the same time last year and also down 25.59% for the calendar year so far.  The S&P/Citigroup Global Real Estate Investment Trust (REIT) Index, a measure of the global property market, on the other hand has fallen 4.00% over the same period.  It is down 24.86% from the same time last year and down 9.60% for the calendar year so far.

Exchange Rates

As of 4pm the 7^th March, the value of the Australian dollar had risen since the 22^nd February with the Aussie dollar up 0.93% against the US Dollar at .9289.   It is up 19.50% from the same time last year and up 5.37% for the calendar year so far.  Since February 22^nd the Aussie has fallen 0.57% against the Trade Weighted Index now at 70.3.  This puts it up by 10.19% since the same time last year and up 2.33% for the calendar year so far.  (The Trade Weighted Index measures The Australian dollar against a basket of foreign currencies.)

General News

Since our last edition the board of the Reserve bank of Australia lifted the official target for its cash rate to 7.25%.  The change was made in order to 'contain and reduce inflation over the medium term'.

The Australian Bureau of Statistics has also released the latest national accounts data with Australia's economy growing 0.6% in the December quarter 2007 leaving the annualised rate at 3.9%.

Last week City Pacific froze redemptions from a billion dollar fund and the company is blaming the media for much of its plight.  On ABC's Inside Business program, broadcast on Sunday morning, Scott Francis was interviewed by reporter Kathy Swan for his take on the plight of City Pacific.

To take a look at the transcript of the segment or view the video clip please click on the following links:

Transcript of City Pacific blames media for financial plight

Video clip of City Pacific blames media for financial plight

Back in April last year, Scott wrote a Eureka Report article outlining some of the risks involved with investing with City Pacific and other similar entities - High yields: A review of companies in the Fincorp space.  In the article Scott wrote:

In 2005, ASIC challenged the claims that City Pacific had made about investors' ability to withdraw money. City Pacific had described accounts as being "at call", whereas they actually required a 90-day redemption period and were never "at call" as represented.

City Pacific has moved on since that intervention by the regulatory authorities. The company's current prospectus reveals a string of factors that have been central to the problems eventually faced by high-yield companies in the recent past.

Related Party Loans. The prospectus shows that 19% of the fund assets are loaned to related parties. This, in my mind, is a significant conflict of interest. How can you say to investors that you are getting them a fair rate of interest when you are lending to related parties?

Fees. City Pacific is able to charge fees of up to 3.65% of the gross assets of the mortgage trust. This is potentially twice the fee of the average managed fund, and I would argue that their fees are too high.

Capitalisation of Interest. This has been a significant problem in the high-yield sector. Interest is not paid back on the loan but capitalised (added back to the loan). City Pacific has 90% of the loans where interest is capitalised (page 9 of the PDS). Most City Pacific loans are medium-term - up to 18 months - which mitigates some of this risk.

Higher Ranking Lenders. City Pacific has an arrangement with a bank to borrow funds on behalf of the mortgage trust. This bank has a higher claim on the assets and income of the trust than the mortgage investors (page 8 of PDS).

Lending for Property Construction. It is one thing to lend money against an existing property with a reasonably well known value and rental income. It is entirely a different thing to lend money against a property that has yet to be constructed, with the cost risk of both building the property and then the marketing risks of selling it or renting it. More than 70% of City Pacific's lending is for property construction or development (page 9 of PDS).

City Pacific has not had trouble from ASIC since the intervention two years ago.

Click on the following link if you would like to read the full article - High yields: A review of companies in the Fincorp space.

On the 28th of February I wrote a small blog referring to Ross Gitten's article - No crystal ball for investors.  Unfortunately there was a problem with the link.  We really think Ross' article is well worth reading so have updated the link to the appropriate web page.  Click the following link to be taken to this page - No crystal ball for investors.

Apologies for any problems this may have caused.

Regards,
Scott Keefer

A few weeks back, Scott Francis looked at the pros and cons of utilising a dividend reinvestment plan.  In his latest Article written for Alan Kohler's Eureka Report, Scott looks at the distributions from managed funds and asks whether investors should be reinvesting these distributions.

He comments that the issue of managed fund re-investments plans is much more vexed because there are some serious tax inefficiencies built into managed funds.

In automatically reinvesting your managed fund distributions - especially at the wrong time of the year - you can pay heavily for the apparent ease of the reinvestment facility.

Click on the following link to read Scott's article - When it pays to reinvest

Earlier this week, Warrent Buffett produced is much anticipated annual letter to shareholders of Berkshire Hathaway.  Scott Francis has analysed Buffett's comments and identified some interesting points for investors.  Click on the following link to be taken to Scott's analysis - Buffett's Sobering Lesson.

My parents are visiting with my wife and I and received a letter in the mail from Centrelink outlining an increase to the Seniors Concession Allowance.  In the same week a prospective client met with Scott and I and asked for more information about this allowance.  I imagine it is a topic that is being discussed around Australia at dining room tables, lounge rooms and BBQs (for those who are fortunate / unfortunate enough to be experiencing some dry weather!)

So what is the Seniors Concession Allowance?

The Seniors Concession Allowance acknowledges the contribution by self-funded retirees in providing for their own retirement.  It is an ongoing payment paid automatically every quarter to Australian residents who hold a Commonwealth Seniors Health Card.

The letter that has just been received by recipients of the allowance sets out that the payment will be increased to $125 per quarter for each eligible self-funded retiree.  The letter also outlines that recipients will also receive an increase of Telephone Allowance if they have an account with a home Internet Service Provider.  This allowance will rise to $33 per quarter for singles or $16.50 for each eligible member of a couple.

To qualify for a Commonwealth Seniors Health card you:

·         must be an Australian resident in Australia,

·         not be receiving a social security pension or benefit, or a Department of Veterans' Affairs service pension,

·         be of age pension age, and

·         meet an annual adjusted taxable income test:

o        less than $50 000 (singles)

o        $80 000 (couples combined), or

o        $100 000 (couples combined who are separated due to ill health).

o        The limit is increased by $639.60 for each dependent child you care for.

'Adjusted taxable income' is your taxable income plus net rental property loss, target foreign income (foreign income not normally taxed in Australia including fringe benefits) and employer provided fringe benefits in Australia.  (The Telephone Allowance is not subject to an income or assets test.)

If you would like any further information about this topic for yourself or other family members or friends please do not hesitate to give our office a call or send an email to scottk@acleardirection.com.au.

Regards,

Scott Keefer

During my scan of the financial press on Thursday I came across a piece written by Ross Gittins, a well respected financial journalist for the Sydney Morning Herald and The Age.  The article that sets out some simple but absolute essential pearls of wisdom.

The passage of the article that spoke most clearly was this .

"nobody, but nobody, knows what the future holds for the economy and markets.  That's true no matter how expert they are or how confident they sound.  It's true of everyone from Warren Buffett to the governor of the Reserve Bank to the lowliest bar room pundit.  To put it politely, the forecasting records of those people - yours truly included - leave them with much to be modest about."

In fact the whole article is well worth a read - No crystal ball for investors.

The remainder of the article points out some truths of investing:

• the future is unknowable,
• the nature of markets to move through boom and bust cycles,
• the trap of buying high and selling low,
• the impossibility  of picking turning points so don't bother,
• downturns will be followed by upturns and the longer-term trend is steadily upward,
• avoid transaction costs - commissions, entry and exit fees
• focus on the long-term
• be a holder not a trader

I highly recommend that you read the article.  It's exactly what we are telling our clients both in upward and downward moving markets.

Regards,

Scott Keefer

In what has been a relatively strong week on Australian markets, the sudden demise of ABC Learning Centres (ASX Code: ABS) has provided another wake-up call for two groups of investors -

1. those taking an active approach to investments and
2. those not being rewarded for taking on extra risk.

The philosophy of the active approach, in a nutshell, is that analysts can consistently find above market returns through extensive research into, and knowledge of, the markets in which they are investing.  For some, it is about investing in riskier companies with the expectation that the returns will be higher compared to those received for a less risky company.

ABC has provided a clear example of where this approach just has not worked.  We found the latest broker analysis of ABC using the Aspect Huntley data feed through ETrade.  The recommendations summary had 4 strong buy, 1 moderate buy and 1 hold recommendations.  To be fair, the last analyst update was provided on the 30^th November 2007 with a hold recommendation.  Out of interest, the share price at the close of trading on this day was $5.26.  ABC shares were priced at $2.14 before a trading halt was placed on the company, a 59% fall from the 30^th November.  Over the same period the S&P ASX 200 has fallen 14%

For us, ABC provides more anecdotal evidence that, firstly, the active approach to investing does not work and secondly that investors that take on extra risk need to be fully aware of the potential consequences and where possible protect against these consequences.

At A Clear Direction we do acknowledge the nature of risk in investment markets and the long term greater expected returns for riskier companies.  We expose a small proportion of our clients to riskier areas of the Australian and global sharemarkets through the use of Dimensional funds that have small exposures to value companies and small companies.  The difference with our approach compared to someone who has sunk large amounts of money / proportions of their portfolio into ABC, is that the funds we use are very well diversified.  For example as at 31^st December 2007:

Australian Core Equity Trust - 471 holdings

Global Small Company Trust - 3,355 holdings

Emerging Markets Trust - 753 holdings

If you want to get a better sense of our investment approach please take a look at our - Investment Philosophy webpage.

Regards,

Scott Keefer