Update No. 9 – 29/05/11

Full website: www.eternalgrowthpartners.com

	April 1st 2011	Current Price	Since Inception
EGP Fund No. 1	1.00000	1.02228	2.23%
S&PASX200TR	35632.05	34649.20	(2.76%)
EGP 20	1000.00	887.12	(11.29%)

EGP Fund No. 1 Pty Ltd. Up by 2.23%, leading the benchmark by 5%.

S&PASX200TR    The benchmark index is down by 2.76% since April 1 launch.

EGP 20.  The EGP20 index is down by 11.29%, lagging the benchmark by 8.53%.

I thought I’d talk about market-timing.  The market this week dipped (again) below its January 1 2010 opening price of 33985.86 (it was 33909.12 at time of writing).  So if you’d purchased the market on that date, in 17 months your return has been just short of zero.  If you own a managed fund that closely mimics the indices, you are probably 3 or 4 % short of a zero return, when factoring fees.  However, had you bought just 12 months earlier (January 1 2009 = 24801.27) you would be sitting on about a 37% gain.

So timing can greatly add to your performance, ignoring this fact is, well, ignorant.  Benjamin Grahams “Mr Market” allegory is as meaningful today as it was when written (over 60 years ago); the underlying business valuation is the most important factor.  But sensible consideration of the fairness of the overall market values could be some part of your plan, my caveat, though is it is not everything, owning the right businesses (stocks) acquired at the right prices (regardless of the market-price at the time) is far more important.  People, though, will always discuss timing, so I will give my take.  Stock-markets are enormously volatile over the short and medium term, but in the long run, will basically follow the performance (predominantly) of the underlying economy (with globalisation, obviously other factors also come into play).  If you are generally optimistic about the economic future in Australia, holding investments in Australian businesses is a sound idea.

I created this (very simple) spreadsheet from the available P/E data.  The data measures the P/E ratio of the All Ordinaries at the end of each month for the last 25 years.  It indicates the month-end high in the period was 23.29x on 30/11/99, interestingly, no ‘crash’ followed this point, but it was 43 months before the index broke above that month-end price and stayed there.  The lowest point was 8.19x on 31/01/2009, just over 1 month after this point of course, the market started a massive rise.  I would describe a general upward trend in optimism (as defined by increasing average P/E ratios) until about 2000, with a general slide in optimism since then.  We can see from this how highs and lows should be relatively recognisable.

Highs and lows are interesting, but data are most useful for ranges and averages, which tell us a historically ‘sensible’ price.  Of the 301 data points, the median is 15.72x, the mean is 15.98x, for 50-points either side of the mean is on average 15.76x & 100 points either side of the mean is on average 15.88x.  In short, I would suggest it a sensible policy would be the following:

1. If the market is between 15x and 16.9x, holding would be the best course of action.  Only add a new stock if you are very confident in its prospects.
2. Between a market P/E of 13.6x and 15x, steady/cautious accumulation should be profitable in the longer term on average, particularly when focusing on superior businesses.  Between 12.5x & 13.6x I would tend to accumulate with a fairly heavy hand, even lesser businesses should perform well from this position.  Under 12.5x, you should be very heavily invested in stocks, judicious buying at these (market) prices should result in very handsome gains over time.
3. Between a market P/E of 16.9x & 18.8x, you should be particularly careful about any type of buying, these are times to sell more often than buy.  Between market P/E’s of 18.8x & 19.7x, I would likely not even buy an outstanding business (excepting unusual valuation circumstances), I would consider selling any business close to my assessment of full value.  Over 19.7x, I would look seriously to sell anything fully valued as the market is too optimistic, a decline or an extended period of minimal index growth is more likely than not.

For those who have neither the time nor the inclination to closely follow market valuations, in order to ‘smooth’ out the entry prices, a ‘Dollar Cost Averaging’ system may be useful.  By purchasing in approximately similar amounts at regular intervals, over time you will on accumulate at prices that approximate fair value.

My second and final caveat for the week is take care in using a consistent measuring stick (for example, always take your P/E from the one place, if you use the AFR, always use the AFR, if you use Comsec, always use Comsec).  The most recent month end in the spreadsheet is 31/03/11, and points to a 15.05x ratio, now at the moment I believe the true ratio of the ASX200 is closer to 13.25x, which is about a 13.6% difference (this is why we must use the same measure consistently).  In any case, from either measure, the prices at the moment for the Australian market are, in my view, if not cheap, certainly not in ‘selling’ territory. Tony Hansen 29/05/11.
Full website: www.eternalgrowthpartners.com

Update No. 8 – 22/05/11

Full website: www.eternalgrowthpartners.com

Current Period	Apr 1 2011	Current Price	Since inception
EGP Fund No. 1	1.00000	1.04023	4.02%
EGP20	1000.00	896.84	(10.32%)
S&PASX200 (TR)	35632.05	34999.19	(1.78%)

EGP Fund No. 1 Pty Ltd. Up by 4.02%, leading the benchmark by 5.8%.

EGP 20.  The EGP20 index is Down by 10.32%, lagging the benchmark by 8.54%.

S&PASX200TR    The benchmark index is Down by 1.78% since April 1 launch.

I would like to talk about market forecasts this week.  I often keep clippings of financial forecasts from newspapers and magazines, when I come across them.  I like to look at them when the expiry date draws near; they usually serve as a vivid reminder why one should never go out into the public domain with a forecast. Now, as I pointed out in a recent update, the $1.139 trillion ASX200 indices, over the most recent 12 months (which basically captures the second half of FY2010 & the first half of FY2011) have reported total earnings of just under $86 billion according to my sums.  According to consensus analysts’ forecasts for FY2012, they are expected to earn over $116 billion in that period.  That is a 34.88% increase between now and then.  Assuming the analysts are correct, and assuming the indices trade at the same P/E ratios after reporting the results in question, then the market should have risen by about 35% by about September or October of 2012 (this is about when the proposed $116b worth of results would be reported).

Now obviously, we cannot rely on this being the case (all factors remaining constant & the analysts getting it right) or we would simply buy the market now, wait 18 months and book our 35% gain (or about 22.15% pa), we wouldn’t even need to go to the trouble of picking individual stocks.  This is due to the market being a ‘discounting machine’ and if at that point, the market takes a view that the 2013, 2014 and 2015 prospects are very dim, these prospects are what will drive the market.  So even if the market achieves the analysts forecast heights, prices may instead reflect the ‘dim’ future rather than the ‘record’ present.

This is (among the reasons) why listening to journalists and market commentator’s blather on is pointless; they are wrong approximately as often as they are right, and are often pushing their own position for selfish reasons.  Instead we must independently assess those businesses which at their current prices, regardless of the strength of the economy or the direction of the markets, we would be happy to own at current prices. Never forget that a business lies underneath your 'share price', selling should only occur when there is an obviously superior business to own at better prices, or an irresistible price is being offered, such that converting to and holding cash is viable alternative.  Tony Hansen 22/05/11

Full website: www.eternalgrowthpartners.com

Update No. 7 – 15/05/11

See the full website at: www.eternalgrowthpartners.com

Current Period	Apr 1 2011	Current Price	Since inception
EGP Fund No. 1	1.00000	1.03634	3.63%
EGP20	1000.00	904.40	(-9.56%)
S&PASX200 (TR)	35632.05	34772.72	(-2.41%)

EGP Fund No. 1 Pty Ltd. Up by 3.63%, leading the benchmark by 6.04%.

EGP 20.  The EGP20 index is Down by 9.56%, lagging the benchmark by 7.15%.

S&PASX200TR    The benchmark index is Down by 2.41% since April 1 launch.

This week, I thought I would talk about the launch of our official website.  Our www.eternalgrowthpartners.com site no longer redirects to this blog, it now has a basic structure all of its own.  Over time it will grow and evolve, but it is initially as you will observe, a very basic affair.  This is because I have defaulted to my low-cost ethos and basically developed the site with the (massive) help of Adam, my far more tech-savvy Brother.

Over time, the site will grow and evolve along two key lines.  Firstly, as I improve my understanding of developing and running a website, it should more closely reflect the appearance and functions that I have developed in my mind.  Secondly, as I have more and more feedback from those who use the site and what they would like it to do for them, I will do my best to enhance the features in keeping with user preferences, so if you have any suggestions, feel free to make contact – Tony Hansen 15/05/11

See the full website at: www.eternalgrowthpartners.com

Update No. 6 – 08/05/11

Current Period	Apr 1 2011	Current Price	Since inception
EGP Fund No. 1	1.00000	0.98285	(1.72%)
EGP20	1000.00	914.71	(8.53%)
S&PASX200 (TR)	35632.05	34942.26	(1.94%)

EGP Fund No. 1 Pty Ltd. Down by 1.72%, leading the benchmark by 0.22%. A couple of our stocks took a tumble this week, we remain confident in our selections.

EGP 20.  The EGP20 index is Down by 8.53%, lagging the benchmark by 6.59%. The resource heavy nature of this index has led to short-term underperformance, time will tell.

S&PASX200TR    The benchmark index is down by 1.94% since April 1 launch.

There is enormous excitement about the price of gold at the moment, speculation it will go to US$2000 per ounce within months and so on.  I thought I would add a little of my perspective on that.

I went back to the height of the global financial crisis, about the time that Lehman Brothers collapsed to look at various precious metals prices to find the data I went to the Perth Mint website, which is a great source of such information. On 13 September 2008, the AU$ prices for the 3 key precious metals were $929.78 (Gold), $13.34 (Silver) and $1,490.05 (Platinum).  From the same source, as at 31 March 2011, the respective AU$ prices were $1,430.24, $37.23 & $1,739.87.  Each of these has shown respectable gains, 53.83% for gold, 179.09% for silver & 16.77% for platinum. Would have been pleasing to acquire some silver about then…

What it got me thinking, however, was what alternatives might you have considered for investment at that point.  Assume instead you purchased BHP at the closing price from 12 September 2008 (same day as above). BHP is the biggest company in Australia (apparently 4^th biggest in the world now) and most would consider them a safe prospect.  Now BHP was trading at $36 on that day and traded at $46.56 on 31 March 2011 (the closing point for the precious metals prices above).  An Australian investor in BHP would also have earned $2.55 in dividends, which would have come with $1.09 in attached Franking Credits. So a March 31 2011 total value to investor per share of $50.20.  This is a handsome return over the period of 39.44%, which doesn’t fall far short of the movement in the gold price.  In my view people get needlessly excited about the gold price, I could quite easily demonstrate a variety of investments which performed better still, but if it’s safe-haven investing you seek, in my view BHP is just as safe as gold and actually ‘earns’ money instead of sitting there looking shiny (and probably ‘costing’ you money to safely store and insure).

A more interesting aspect about investing in precious metals is their prices in relation to each other.  For example, over the last 20 years, on average, the silver price has been 1/65^th (with a range between 1/93^rd & 1/38^th) of the price of gold, at the moment it is about 1/38^th, which would seem to indicate silver is about 69.23% more expensive than its historic price and at its most valuable in the last 20 years (in comparison to gold).  Now I don’t mean to rush out and sell all your silver, but in relation to its historic comparison price with gold, it appears expensive.  Platinum on the other hand, over the last 20 years has historically traded at about 1.4x the price of gold (with a range of between 0.94x & 2.44x).  At the moment, it trades at about 1.22x the price of gold, so based on its historic comparison with gold; it is about 13% below its 20 year average.  Again, don’t rush out and buy platinum.

The way a ‘trader’ (as opposed to investors like ourselves) might play the information above would likely be to conduct a pair’s trade.  Based on the AU$ prices as I write (28^th April 2011) an AU$100,000 trade would look as follows:

• Buy 60oz platinum @ AU$1,662.98 per oz for $99,778.80
• Sell 2,375oz silver @ AU$42.01 per oz for $99,773.75

Now the hope here of course would be that for example, platinum moves to say AU$2,000oz and silver retreats to say AU$30oz.  Such an occurrence would generate a $48,744.95 profit (less any trading costs) and given the volatility of these commodities, these movements could happen quickly, so you can see why such trades attract people.  I will revisit the trade around this time next year and see how it would have played out.

Fact is, if I ever became particularly passionate about a precious metal (or any other mined commodity) being very cheap, my likely reaction to such a situation would not be to build a large safe and store significant quantities of the metal in question, waiting for the price to rise.  What I would likely instead do, is find a miner of the commodity I liked, whose business I believed to be undervalued and buy its shares.  In this way, if my belief that the commodity was cheap turns out to be true, I am positioned to benefit out of not only the improvement in the price of the metal, but with the kicker of a potential increase in the intrinsic value and/or market price of the miner I own which is unrelated to commodity prices – Tony Hansen 08/05/11

Update No. 5 – 01/05/11

Current Prices	Apr 1 2011	Current Price	Since inception
EGP Fund No. 1	1.00000	1.02022	2.02%
EGP20	1000.00	942.67	(-5.73%)
S&PASX200 (TR)	35632.05	35527.91	(-0.29%)

EGP Fund No. 1 Pty Ltd. Up by 2.02%, leading the benchmark by 2.31%.

EGP 20.  The EGP20 index is Down by 5.73%, lagging the benchmark by 5.44%.

S&PASX200TR    The benchmark index is down by 0.29% since April 1 launch.

So endeth our first month of operation.  As I have previously declared, we will seldom disclose any of our holdings, excepting when we have eliminated a position, I will then tell you what it was and why we held it (and why we disposed).  Given that we will historically buy with a very long-term view, disposals often come in the form of a corporate event such as a take-over; I expect I have participated in a disproportionately large number of these.  I like to attribute this to recognition of my assessment that the companies that were taken over were under-priced.  The consequence of this is has historically been a significant premium to my entry price, but comes with 2 unwanted side-effects.  The first is that a capital gain is crystallised, thereby triggering a taxation obligation, in truth, there are worse things than paying tax on your earnings (just doesn’t feel like it at the time).  The second side-effect is that you need to re-allocate your capital. If I am extremely confident about the undervaluation I have assessed, I would ordinarily be happier to let the value come to the surface over the course of years than take an immediate 30 or 40% takeover premium.

Now, having talked about an historic high strike rate in having stocks I own taken over, I would say that in my view, only two of our seven holdings are realistic targets at present.  Three are far more likely to be acquirers in my view; the other two will likely focus on growing their businesses organically. So don’t expect to hear much about our holdings for a while.

Because I will not reveal holdings, I will instead give some comparisons of our holdings with those in the benchmark:

Metric	EGP Fund No. 1	S&PASX200
Weighted Price to Earnings	7.07	13.25
Weighted FY2012 P/E forecast	3.05	9.79
Weighted Market Capitalisation	$281m	$5,695m
Weighted Dividend Yield	2.32%	3.84%
Gearing	22.1%	49%

These workings were done 20/04/11.  On the pricing metrics, our portfolio is markedly lower-priced than the broader market.  Basically, with our P/E of 7.1x compared to a market P/E of 13.3x implies our companies are discounted 46.66% more heavily than the broader market.  The lower P/E is generally indicative of the markets assessment of our holdings weaker future prospects, however, the forward P/E ratios would seem to dispute this, now these are analysts forecasts (which must naturally be viewed with scepticism), but the comparison shows that our holdings are expected to grow their FY2012 earnings by 132% compared to those over the last 12 months, and the ASX200 is expected to grow its earnings by 35.4% (from $85.96b over the last 12 months to $116.4b in FY2012). In my view, you can’t have it both ways, assessing weaker future prospects, yet forecasting stronger future growth; it is from such discrepancies we expect to generate above average performance.

The average size of companies in the ASX200 was about $5,695m, the (weighted) average sizes of the companies we hold are $281m.  Our holdings are more than 20 times smaller on average; we hope they are consequently more nimble in their use of our capital.

The only area where we lag is in dividend payout ratio, with our holdings returning a much smaller proportion of profits as dividends.  I will take growth anyway I can get it (capital or dividends), but I generally prefer to invest in businesses with good prospects for re-investing their earnings at high rates of return, I believe we are invested in such businesses.  You can see how cautiously we assess the use of debt, 4/7 of our holdings are in a net cash position, the other 3 use only cautious debt levels, leading to our low average.  I have not used net debt (Debt minus cash holdings) in the calculations, but total debt/equity.  If I added all cash our companies hold back in, our holdings would be in a net cash position. In our view, if you are not carrying significant levels of debt, the likelihood of having a minor event turn into a major problem is very low.  Very low is our default risk preference.

I keep an ASX200 sheet I update myself for the various ratio used, as I often find significant variations in the data across even reputable sources, I suspect many indices fail to account for the losses some constituents make, nor to accurately reflect the most recent 12 months performance in the ratios, I account for such things.  The exception is the gearing ratio, which I derived from the recent Reserve Bank Financial Stability Review (March 2011) an excerpt from this stated:

“gearing for listed non-financial corporates fell to 49 per cent in the second half of 2010 from a peak of 84 per cent in 2008”

The remainder of the report is well worth reading also.  The market is obviously being much more conservative with its use of debt, and given the nature of the recent GFC, understandably so – Tony Hansen 01/05/2011