Multi Currency Portfolio 2008 – Update #6


Here is the six week performance of the six portfolios that Jyske Bank created with our direction. We are tracking them for educational purposes beginning November 1, 2007.

Portfolios 2008 Nov 16 Nov. 27 Dec. 01 Dec 14
Infrastructure -16.46% – 35.98% -18.58% -20.97%
Emerging Market -13.33% – 29.01% -19.62% – 9.80%
Danish Health -13.32% – 49.54% -38.06% -32.51%
Green -10.86% – 38.82% -11.43% -14.31%
$ Short Non – 5.26% – 9.66% – 6.24% – 9.08%
Blue Chip – 2.78% – 10.58% – 2.00% – 5.14%

Thomas Fischer at Jyske Bank wrote:

Hi Gary, Attached the latest up-date. The Danish health portfolio is still in bad health mainly due to Alk-Albello down more than 40%. The reason is that the grass allergy medicine Grazax apparently had little effect according to FDA. The stock dropped 35% in one day (November) but our analysts believe it’s an overreaction and that the stock (and medicine) will recover. The other portfolios are also in negative territory but we still have more than 10 months to recoup the losses. Thomas”

This brings to light an important lesson about timing.

Thomas is thinking in terms of a year because we create multi currency portfolios in November each year…and track them for one year. Readers reflect the success of the portfolios by how they perform in that one year. This creates what I call an artificial time framework. Such frameworks are bad thinking. Most periods of time that a portfolio is held have little to do with the portfolio’s function which is to preserve and increase your purchasing power when you need it.

When you need it. This is the key!

Each portfolio represents an idea. We should invest in ideas we believe, but then our own portfolio needs to be constructed to fit within the framework of our purchasing requirements. This is a real time purchasing power framework.

Take the Green Portfolio and its performance as a most dramatic example.

In 2007 its performance from November 1, 2006 was:

Mar 27 June 28 July 20 Aug 17 Sept 9 Sept 28 Oct 31
86.86% 178.28% 214.15% 110.93% 170.22% 220.22% 266.30%

Look at the disaster an investor faced if he or she ignored the time value of his or her portfolio and invested jumped into the Green Portfolio in July…yet needed funds in August. The portfolio dropped 48.19%. $100,000 invested in July was barley worth $50,000.

If one was working with the artificial annual time framework of a year, the performance looked great…up 110.93% from November 2006 to August 2007. Yet the investor who needs the money now does not have it. His real time purchasing power framework was one month and in the period the investment lost half its purchasing power.

The investor in this scenario suffers a liquidity crunch because volatility was ignored.

There is another lesson here…on the subject of volatility. Many investors confuse safety with volatility. Recent history for example suggests that emerging market investments are safer than those in major markets.

This is an era where globalization is increasing and emerging economies are catching up with major economies.

Just as two hundred years ago it made more sense to invest in the United States emergence than in the waning English economy…today it makes more overall sense to invest in emerging Asia than the US .

For the past six years emerging markets have dramatically outperformed major markets. Until a couple of months ago, the MSCI overall Emerging Markets benchmark was up 23.8 % in US dollars compared to the MSCI World Total Return Index being down 0.08 % in US dollars.

In other words emerging markets slaughtered the majors in performance over the six years. Dramatic over performance in the long term (over five years) is an indication of safety.

This is a hard concept for most investors to grasp because it flies in the face of conventional wisdom. Yet we should never forget an important lesson about investing: The consensus may be wrong…truth is not created through repletion of an error.

Most educational (including investment advisory) systems teach about long term past performance. For example common investment theory says that US dollar government bonds are the safest AAA investment. Yet for over thirty years they have proven be a guaranteed way to lose really badly in terms of protecting global purchasing power…which in a growing global economy if the most important goal.

Due to this incorrect consensus emerging markets have been more volatile in recent months,

In November, major market equities suffered their worst monthly setback since May 2006. The Morgan Stanley Capital International World Index dropped 4.3 % in local currencies, 4.1 % in US dollars and 5.5 % in euros.

Yet emerging markets dropped more. Last month, the Morgan Stanley Capital International (MSCI) Emerging Markets Index declined 7.1 % in US dollars and 8.4 % in euros. This was also the worst monthly performance since May 2006, when the MSCI Emerging Markets Index tumbled 10.5 percent.

Year to date, however, emerging markets are still way ahead. Year-to date, the MSCI World Markets Index is up 10.5 % in US dollars and -0.8% in euros. Year-to date, the MSCI Emerging Markets Index is up 38.9 % in US dollars and 22.8% in euros.

Wise investors provide give greatest credence to shorter term data (ie the past year or the past six years). Old data

(ten years) loses credibility.

If this is correct, the consensus is wrong. Emerging markets are safer than major markets, just more volatile.

This can also give us some clues on how to spot value. When the market panics and runs in the wrong direction the investments most likely to rise in value become cheap.

However, value and contrarian ideals are not the only elements of a good portfolio.

Portfolios require is a customized match of the holy trinity of investments. The holy trinity is #1: the current base interest rate – #2: the amount in the portfolio and #3: the rate of withdrawal.

One day I was having lunch with one of Canada ’s top portfolio managers and he expressed the problem of Holy Trinity Customization in this way:

“ Gary ”, he said, “I have a client who has three million dollars. The base interest rate was recently six percent and I had been earning $180,000 a year for her portfolio. The client let her standard of living rise so she spent that every year. Now the base rate has dropped to four percent and without adding risk, I can only earn $120,000 a year. Yet she still wants to withdraw $180,000. Either I can add risk in which case she may lose capital in the short term or I can send her part of her capital. If I do this each year she has less capital and I’ll have to draw more and more to send her each year.”

Most investors expect their capital to rise to meet their needs to spend. This is an error.

Again we should keep several important rules about preserving purchasing power in mind.

We should expect 7% to 10% annual return in the stock market as a function of global nominal GDP growth and long term earnings growth plus risk premium. We should expect less return from current accounts and bonds.

To attain higher growth we must either increase risk or trust luck.

Do not trust luck long term. Casino owners earn fortunes based on this fact.

We should not count on extra ordinary returns. We should expect the realism above.

We should structure the equity portion of our portfolios based upon ideas we believe in, with inexpensive equities that are paying reasonable returns, while always keeping our liquidity needs in mind. Then we should not care too much about day to day volatility.

On the subject of ideas, here are some recent news articles that relate to the ideas we currently track.

A Nov. 21 Bloomberg article says: “More American households, faced with an 83 percent increase in home heating-oil prices over the past year, are turning to an alternative as old as the Stone Age: wood. While the typical wood stove emits as much as 350 times more pollution than an oil furnace, according to the U.S. Environmental Protection Agency, some homeowners find the economics compelling. Firewood costs less than half as much as heating oil in terms of energy produced, based on prices from the U.S. Energy Department and firewoodcenter.com.

This idea supports the concepts of the Green Portfolio which are invested in solar and wind power.

This is because another article shows that people live in non environmentally sound ways but feel guilty about this.

The USA Today article Janet Kornblum “The ‘Guilty Green’ (gasp!) don’t always recycle” says:

“They drive SUVs, throw perfectly recyclable bottles and cans in the trash, clean their bathrooms with — gasp — bleach and think nothing of sometimes blasting the air conditioner or taking wickedly wasteful long, hot showers.

You think you know the type: the ones who think global warming is a hoax and scarf up natural resources like candy.

“Think again.

“All of the above are true confessions from the Guilty Green — the same people who say they worry about the planet becoming a giant hot tub.

“GREEN GUILT: Can purchasing carbon ‘offsets’ help?

“Most of the time, they do the best they can. They dutifully recycle. They try to reduce their driving. They flush less frequently.

“But sometimes they slip. They throw out that mayonnaise jar instead of rinsing and recycling. They buy bottled water instead of bringing their own filtered water in reusable containers. They even answer ‘plastic’ to the age-old ‘Paper or plastic?’ question at the grocery store, when they really should be pulling out an unbleached, environmentally safe, reusable cloth bag. Then they feel pangs of guilt, sometimes inflicted by others. How bad is it?

“A survey by the Rechargeable Battery Recycling Corp. in Atlanta recently found that 20% of Americans experienced so-called green guilt. Most felt they should do more, especially recycling.”

This shows that there is still plenty of room for growth in Green products and services.

Now tie the Green idea to the Emerging market idea. This has real long term upwards power.

Here is a December 14, 2007 article “Poor nations demand green technology” by Joseph Coleman, at Associated Press that fortifies this thought. The article says:

“ Uganda gets plenty of sun, making it a great spot for solar energy. There’s only one problem: In one of the world’s most impoverished nations, few people can afford an imported solar panel. Poorer countries accuse the rich of pressuring them to control emissions of greenhouse gases blamed for global warming, while refusing to provide them with technology needed to do so without hurting their economies. They have made their demands that rich nations provide cheap access to green know-how a centerpiece of the U.N. climate change conference in Bali , Indonesia .

“The need of developing countries for energy will only increase with economic growth, and they argue that reliance on outdated technology today will lock them into high-emissions patterns for decades to come.

“The United States has long been the world’s top greenhouse gas emitter, but some say it has already been eclipsed by rapidly growing China , a country that relies heavily on outdated and dirty coal-burning technology. India ‘s burgeoning economy is also a growing environmental worry. What is needed in the short- to medium-term is for developed countries to speed up the process of transferring climate-sound technologies to developing countries.

“The United States and the European Union, for instance, have proposed tearing down trade barriers to 43 green goods and services such as wind turbines. Washington is also concerned about protecting intellectual property rights as technology is spread around.”

This leads to special opportunity in new innovations such as the stove created by the Onil Stove.

A recent article told how HELPS International, awarded $17,000 of prize money from the “Green Oscars” – Ashden Awards – for this stove design.

The article says: “ London – 24 June 2004 –The international winners of the prestigious Ashden Awards for Sustainable Energy 2004 were tonight announced at the Ashden annual awards ceremony in London .

“The HELPS International ONIL stove, developed by Don O’Neal, was selected as a finalist among over 100 top sustainable energy projects in the world and received $17,000 for designing a pioneering smoke-free, fuel-efficient stove that cuts the wood required by 70%, eliminates indoor pollution and reduces the risk of burns associated with cooking on open fires. The judges commented: “By bringing this sophisticated fuel-efficient stove into the homes of Guatemala ’s rural poor, HELPS is leading the way in the fight against crippling respiratory disease and horrifying burns, while also helping conserve the country’s dwindling forests.”

Water purification is also a major focus in the Green Portfolio and a Bloomberg article of November 6 explains why this makes sense. The article says:

“Boone Pickens, the high-rolling oilman, may have engineered one of his shrewdest takeovers yet in the form of eight acres of Texas scrubland. The land in Roberts County , a stretch of ranchland outside Amarillo , holds no oil. Instead, it is central to Pickens’s plan to create an agency to condemn property and sell tax-exempt bonds in the search for one of his other favorite commodities: water.”

“Once the district is created, the board will be able to issue tax-exempt bonds to finance construction of Pickens’s planned 328-mile, $2.2 billion pipeline to transport water from the panhandle across the prairie to the suburbs of Dallas and San Antonio. Buying the Bonds Pickens, 79, chairman of Dallas-based BP Capital LLC, says selling water is a business whose time, amid fears of global warming, may be at hand. His Mesa Water Inc. has bought 200,000 acres of Texas water rights and talks of doubling his holdings. Water has been a cheap and relatively plentiful resource in the U.S. , and massive infrastructure projects like the ones Pickens envisions looked like pipe dreams a few years ago. Now, states such as Georgia are experiencing shortages, joining the ranks of Nevada , Arizona and other perennially water-poor states in the Southwest. Desalination plants are being built near California beaches, and water pipelines are snaking across the arid West.”

That is the Green Portfolio…clean up…alternate power and water. This is a powerful idea. Yet we must find shares of value that reflect the idea and that fit into your framework of liquidity.

Here is also an idea that relates to the Infrastructure Portfolio;

A BBC article entitled Warming ‘opens Northwest Passage ‘ says:

“The most direct shipping route from Europe to Asia is fully clear of ice for the first time since records began, the European Space Agency (Esa) says. Historically, the Northwest Passage linking the Atlantic and Pacific Oceans has been ice-bound through the year. But the agency says ice cover has been steadily shrinking, and this summer’s reduction has made the route navigable. The findings, based on satellite images, raised concerns about the speed of global warming.”

This shows a powerful link to Green and Infrastructure investing. My son, Jake, who works for the British Environmental Agency recently shared this thought:

“Hi Dad, Note that your Green Portfolio and Infrastructure Portfolios go hand in hand. This is a big issue for government at the moment in the UK – trying to ‘future proof’ new development and public infrastructure to withstand the coming challenges of climate change.

“Consider -when government finally finds the money to re-invest in retrofitting/upgrading or totally rebuilding infrastructure it comes with a life expectancy that must often be measured in terms of decades. What is virtually certain (whatever the underlying cause of climate change) is that the pressures on infrastructure will continue to grow rapidly. Extreme weather events such as flooding, drought, intense summer heat, melting permafrost, rising sea-levels etc. have a huge adverse impact on public infrastructure (local case in point: Stroud is still cut off on the south valleys as the Councils can’t afford to repair the roads – July’s flood repairs ate up their entire annual transport repairs budget in a few weeks). Then there is population increase – more people – more pressure on the public infrastructure (and more complexity to the politics of upgrading it).

“At the Environment Agency (EA) something very dramatic is happening to illustrate this point. As flood defenses get built to last often 50-100 years – they are having to be built ‘extra high and extra strong’ – this makes them extra expensive. Government is thus having to double its flood risk management budget (to $1.8 billion per year) in just a couple of years and this budget will need to exponentially increase to keep pace with the increasing risk from climate change. The formal guidelines for ‘future proofing’ defenses (i.e. building in extra capacity for their anticipated extra workload 50 years from now) are constantly changing to demand more capacity. And this still is not enough according to the ‘experts’- including our long range planners and the Association of British Insurers.

“The result is that government will need to pump increasingly vast sums into infrastructure to keep the various arteries of the economy growing and to minimize climate driven disruptions. But as is the case with EA at the moment -there is insufficient government capacity to do all this. So they are turning to contractors. This is happening at the EA as we speak.

“Agencies like EA will still do a lot of ‘delivery’ work themselves but it is becoming increasingly common for big infrastructure jobs to be subbed out to infrastructure contractors like Halcrow – while government stands back and provides oversight and regulation. In EA we have traditionally done all the work ourselves (using EA staff and equipment) but this is simply not cost effective and organizationally sustainable as the work load keeps growing. We are currently therefore scoping opportunities to sub contract more and more big jobs (worth billions) to long term preferred contractors (5-7 year contracts) who would have complete responsibility for implementing the project (or programme of projects). This really makes a lot of sense (the contractors are more competitive, often more skilled in specialist areas and its a way for government to pump-prime local economies at the same time it invests in need infrastructure upgrade).

“And this is happening from root to branch in the world of infrastructure maintenance and is virtually guaranteed to grow (thus boosting these industries) as government invests in adaptation measures to ‘future proof’ the country in anticipation of further climate change.

“In addition, it is evident that despite all this investment there will be insufficient central government investment to match the challenges ahead and increasingly therefore -private sources of funding are being redirected to support/leverage infrastructure upgrades. Thus again, for example- EA is undergoing a C-change in its thinking regards private partners. Government here was previously cold to entering such major projects with private ‘leadership’ partners. Now it is often essential, as no one can afford the job by themselves -including new developments, new flood defense, new sewer upgrades etc. Thus developers are increasingly footing the bill for the infrastructure required to service their new housing and communities are stumping up for a new bridge or upgrade to their storm water overflow systems etc.

Again, this means more investment across the board in companies and contractors who specialize in major public works.

So, all that said, If I had the money- I’d be putting a good bit of it here too!! Love ya, Jake”

This is big idea thinking. Big ideas about big problems create enormous opportunities. Yet gaining traction from these ideas requires seeking investments that are good value and match the timing of your liquidity needs.

Until next message, good multi currency investing to you.

Gary

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