Letter from the chairman

Dear All,
Do you remember my text dated December 2009 about the end of the Gold Rush and the raise of the U$ dollar.... Well even if I am still maintaining my positions: Bearish on Gold and Bullish on the "American Dream" ($) I do believe it is just about timeto take profits.
As today the Dollar- Swiss Franc hit 107.41 and the Gold went down to 1'053/ounce. This effectively brings a very good performance in a very volatilemomentum.

Performance over 50 days on the Dollar: 7.5% Performance over 50 days on Gold Short: 15,6% Consolidated overall performance: 23,1 % !!!
Regards to all our readers.
Pablo V. Dana

POINT DE SITUATION

In our last comments, notably that in which the year ahead was reviewed, we suggested caution as a general guideline or as BPES’s strategy committee puts it “stay at the party but dance close to the exit”. Indeed, caution is warranted by many uncertainties notably in developed countries where government budget issues will have to be addressed: Actually, while most investors are aware of the cost of the massive interventions that took place in order to support faltering economies aver the
past eighteen months, few seem to have taken the full measure of a situation which could prove highly uncomfortable, would the economies deteriorate again, as ammunitions are now extremely scarce. In any event, in the meantime those costs will have to be borne by the governments, which in other words can be translated as the taxpayer.

Taxpayers being consumers, if the formers see their disposable income eaten up by new levies, the secondary effect is not very difficult to forecast. As this has been said but should not be forgotten in the months to come.

It is not the first time that we, and many others in the investment world have drawn attention to the unusual situation of having extremely low interest rates. In a situation where many assets yield close to nothing, that’s to say too little to prove making real economic sense, the temptation is high for looking for other, riskier assets.

Cash offers no return ? what about bonds ? In reality, Government bonds offer little more and as rates are so low, the capital risk has turned far less attractive. If we continue our (non) random walk: corporate bonds, do they make more sense? Actually, yes they do, but one of the features that made them attractive has all but disappeared: spreads, which measure the remuneration of credit risk have returned to a very normal level. One can hope for a little extra tightening, but then… don’t hold your breath and remember that if, at the same time, rates start edging back up: we risk seeing one pocket getting filled while the other gets emptied… It is true that a little extra carry for some time makes sense.

Finally, there is what is called “high yield”, a nice wording to say “high risk”. We definitely see some opportunities there but, beware, many are looking at the same - limited - segment, it will take sharp knowledge of this asset class to swim up that stream. We have actually decreased the exposure to this highly successful (in 2009) sector. Whatever exposure may be taken should remain contained to funds where managers can display longstanding experience.


What is said of high yield bonds is pretty similar to what can be said of equities; actually, the risks are not that different. Equities may seem the right place to be and they have been over the past 9 months of 2009. Nevertheless, here again, caution should prevail because there is less than meets the eye: spare capacities are the norm, top line growth might recover a little but what is said above about consumption will put a cap on that hope. Where potential remains is either on the cost control side, allowing for some nice surprises here and there at EBITDA level, or on the corporate activity where the stronger corporates will be tempted to acquire a top line that cannot be obtained organically.

Those who have in mind our year-ahead analysis know we draw very different perspectives for the developing world, with nuances of course. Nevertheless, when developed stock markets suffer, so do those of developing countries.

As explained since end November, we see little potential for returns this coming year. Asset allocation will be key and selectivity even more. Returns will be found in markets where local expertise is required, where peculiar knowledge is paramount and we see little other ways to do so than delegating this task to the right specialists. This is why, more than ever, we advocate for investing via specialized funds.

So we are left with this recurring, nagging wonder of where to invest. We have mentioned our interest for real assets, amongst which real estate, probably outside the US, can offer value. Commodities also have their pros.

Opportunities and how to seize them:
Overall - The level of rates, credit spreads and even Equity markets leave little room for real untapped potential. Overall, we maintain existing exposure but have started moving towards better credit ratings in spite of the low yields, in a protective move. Regarding Equities, a move following a similar philosophy is taken: we remain slightly overweight but decrease at the same time the volatility of positions by choosing defensives and value stocks or Equity funds. Currencies offer more risk than potential, we suggest limiting exposure to non-home currencies. Exposure is maintained on Industrial Metals and Agricultural commodities. In this year, asset preservation will be key and we shift even further towards managed funds.

● Rates and Credit: As it has been for several months, our view is that capital appreciation
(based on either rates movements or spreads tightening) has limited potential else than a
small extra carry and that the risk-reward offered by lower credits is substantially less
than it was last year. We delegate specific picking to funds, keeping some small bias
towrds corporate, emerging and higher yielding vehicles.
● On the currencies front our view is clearly unchanged: the EUR and the USD are weak
currencies versus others, particularly those of developing countries with a strong budget
and natural resources. We avoid currency exposure in portfolios with the exception of
marginal exposure to developing world currencies.
● In the Equity markets, we are not changing our view which is to maintain exposure but
constrained in the less volatile stocks , concentrating on visibility of earnings. Preference
for value oriented strategies and funds with outstanding histories. Exposure to Emerging
countries is to be regained in corrrections and actively trimmed in stronger periods
● We maintain exposure to liquid non-directional funds such as quantitative/statistical funds
as a buffer for directional exposure taken in other asset classes.
● In the Real Estate segment some value can be found, however, markets will be very
differeciated and very local
● Our Key Words remain Tradability, Simplicity, Diversification and Reactivity. In nontrending
markets, investment funds will perform better.

http://www.espiritosanto.com


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