Commentary

The announcement in early November that the Pfizer vaccine had been approved had an electrifying effect on share prices. Suddenly, in the case of companies badly affected by Covid and lockdown, markets were prepared to look ahead to more normal times. During December the share prices of five (of our 22) holdings rose by more than 20% in local currency terms: Alpha Bank (+32%), Korea Electric Power (+28%), Marstons (+24%), ArcelorMittal (+23%), and Stagecoach (+22%). In the fourth quarter the share prices of six holdings rose by more than 65%  - Reach, Stagecoach, Alpha Bank, Marstons, ArcelorMittal and easyJet - and only two holdings saw a fall in share price: the two gold miners, Barrick and Newcrest.

During the last quarter international markets have been strong: the MSCI EAFE index gave a return of 16% and the portfolio roughly double this – a very welcome and necessary recovery after the miserable share price reaction to Covid and lockdown of many of our holdings during the early part of the year. We believe that, if markets continue to look to the light at the end of the tunnel rather than surrender to the current encircling gloom, the portfolio is well-positioned.

Barrick and Newcrest account for around 13% of the portfolio and have a dual role. First, they seem to us to be companies which are attractively valued for current circumstances, with free cash flow yields close to 10%. These circumstances include a rise in inflation which we think probable. The veteran and legendary hedge fund manager Stan Druckenmiller suggests that “inflation could hit 5 to 10% in the next 4 to 5 years”.  Janet Yellen, the last chairman of the Fed, commenting on permanent job losses that have come about because of Covid, referred to the need for fiscal policy rather than “just relying on central banks”. There was a time when if central bankers talked about relying on fiscal policy they meant that it should be tighter. Not now. The gloves are off. The polarisation of economies so that those worst off have got worse off, the high unemployment rate, ultra-low interest rates, and ultra-high government debt all conspire to ensure that central banks and governments will be careless about inflation.

Second, the gold mining holdings are an insurance against everything going wrong.  Jeremy Grantham, one of the leading investment gurus whose views about market cycles and asset allocation we have long respected, has recently put it very bluntly: he believes that we have a “fully fledged epic bubble, featuring extreme overvaluation, explosive price increases, frenzied issuance, and hysterically speculative investor behaviour – one of the great bubbles of financial history, right along with the South Sea bubble, 1929, and 2000.” We do not see things so vividly, and even if we did we would still be fully invested in equities because that is what we do, having faith in equities in the long term and believing that market timing is so difficult that attempting it reduces long-term returns. But we can see his point. There is an awful lot that could go wrong. Having a reasonably significant portion of the portfolio in gold shares, which at times of

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disaster tend to correlate negatively with equity markets – that is to say, they go up when the rest go down – provides some protection. It allows us to invest positively in companies elsewhere with low valuations and essentially sound businesses, but which may not be immune to a general malaise.

One reason that we are not as alarmed as Jeremy Grantham is that his remarks apply particularly to the US, which this portfolio excludes. Markets outside the US are not nearly as highly valued as the US. There may have been good reason for this. Jeff Bezos testified to Congress during the summer: “the rest of the world would love to have even the tiniest sip of the elixir we have here in the US.” But the elixir has intoxicated the US market, with the symptoms Jeremy Grantham refers to. Markets outside the US have been less giddy, and in certain places, notably the UK and Japan, valuations of many companies are remarkably low, reflecting the short term Covid-induced problems, extremely severe though they have been, rather than prospects in a less Covid-dominated world. Grantham restates the maxim which is an eternal truth, but not true in every year or even every decade of eternity: “the one reality that can never change is that a higher-priced asset will produce a lower return than a lower-priced asset.”

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