Investment Manager’s Commentary

Stock markets posted strong gains in the fourth quarter, but the progress made was not enough to wipe out earlier losses. As a result, over the full year to December 31st, in local currency terms, the FTSE 100 was down 5.5 per cent, the S&P 500 was unchanged and the MSCI Europe was down 10.94 per cent.

Undoubtedly, 2011 was a difficult and largely disappointing year for investors; perhaps the best one can say about the year is that contrary to many expectations, rather than crashing, major indices traded in a wide range. In contrast, emerging markets had a more difficult year with the MSCI emerging market index down by 18.42 per cent in US dollars.

In recent weeks, more encouraging economic data has boosted confidence. In the US, manufacturing activity was up and unemployment was down; China and India both announced stronger than expected manufacturing data; Germany reported a low unemployment figure; and even the UK had some slightly better numbers. As a result, stock markets began 2012 in a somewhat better mood.

The biggest immediate challenge remains the fate of the eurozone and indeed the euro. We believe that it will be possible to overcome the crisis of confidence in the region and that the necessary reforms will leave European economies stronger and more competitive. Between here and there, however, there is still much to be done and no doubt markets will continue to experience considerable volatility.

The world is facing an unusually large number of economic and political challenges: the Arab Spring, the development of new growth economies, the travails of Europe, high commodity prices and the transfer of power from West to East. In addition, there is a constant growling from Iran – which looks hell bent on confrontation; a potentially unstable Russia – which is still unsure where it belongs in the world; and a hugely confident China, which is attempting to replicate the type of global power that the US has enjoyed for the last 50 years. This is happening at a time when the first flush of Chinese growth is probably slowing and some of the excesses built up over the last 20 years are beginning to show. However, the strength of the western model should not be underestimated. More importantly, the strong position of large western businesses has not yet really been challenged and indeed, often benefits from economic activity in the new growth economies. As we have said for some time, shares in these large multinational companies are available at very attractive prices and we continue to run our portfolios with low cash levels.

In December, we reduced the holding in Rio Tinto in response to concerns about commodity demand, particularly from China. No other sales were made. Additions were made to the holdings in Human Genome Sciences and St Joe and a new investment was made in Walt Disney.

Human Genome, an American bio-tech company which we know well, has created a new product in partnership with GlaxoSmithKline to treat Lupus, a serious auto immune disease. This product (Benlysta) has been marketed for about nine months and has achieved significant sales. Expectations for Benlysta, however, were quite high and prescription growth has lagged behind analysts’ optimistic expectations. This has led to a very considerable fall in the share price. We are convinced that this drug will ultimately be widely prescribed and that the share price will rise accordingly.

St Joe owns a large area of development land in Florida. The company has suffered as a result of the depressed US property market. The current share price implies an average value for undeveloped land close to timber land prices, ignoring the development potential.

The Walt Disney Company is an entertainment conglomerate with media networks, theme parks and resorts as well as film, television, music, books and magazines. It derives approximately half its profits from its sports business, which has until recently been almost exclusively centred on the United States. This is now changing, with its ESPN sports television channel increasingly focusing on other sports, such as soccer, and expanding its global franchise. The growth in cable television and communications devices, such as tablets and smartphones which can be used to distribute digital media content, should ensure an increasing audience for Disney’s content businesses, both in its traditional markets of North America and Europe as well as the growth economies. The company is valued at an unusually low multiple of 13x earnings and should benefit both from a growing appetite for entertainment content outside North America as well as a gradual recovery of the US economy.