Jim Slater's top picks

The key question now is whether or not the plans of President Obama in the US and those of other leading governments will reflate economies sufficiently and stop the world recession from becoming a depression. They will certainly fling at it everything they have at their disposal and hopefully and probably will win in the end. However, I believe that the recession will be more acute and persist for much longer than many investors expect. Also, I think that the attempts to reflate are very likely to result in substantial inflation which may lead to hyperinflation.

A neighbour recently asked me for advice on how to invest a substantial portfolio of fresh money. I gave this a lot of thought before constructing a suggested portfolio which reflects my thinking and is very similar to my own, except that I do not own any leading international stocks. The portfolio is defensive but also has some aggressive aspects which could provide substantial future capital gains.

Gold

First, I would invest 10 per cent in gold. The fund I have invested in is ETFS Physical Gold, which holds gold bullion. A possible alternative is to put 5 per cent in gold and 5 per cent in gold shares in a fund such as Blackrock Gold and General. Another option is to put the second 5 per cent in Newmont Mining instead of a fund. Newmont in the US has the attraction of being politically safe and is well-known for its policy of not hedging, so investors would get the full benefit of any rise in the gold price. All of these securities, including the ), can be housed in an and/or a personal equity plan (Pep).

The risk of hyperinflation is definitely in the air at the moment and gold seems to be the best way of protecting oneself against this possibility. All the gold in the world that has ever been mined (approximately 161,000 tonnes) could be fitted into two Olympic swimming pools with room to spare. In contrast, the mind boggles at the amount of money that is going to be printed (and thereby devalued) in the US and the UK alone. It is not surprising therefore that there is a tremendous demand for gold especially as it is hard to find any currency which does not have obvious faults.

Agriculture

For the next 10 per cent, I would recommend investing in agriculture. There is no doubt that the world's population is growing, Asian countries are eating more protein, climate change is affecting crop yields and the drive for ethanol is taking up a vast acreage of grain-bearing land. I have invested in an unquoted company, Agrifirma Brazil, which is concentrating on transformational land in Brazil and plans to come to the Alternative Investment Market (Aim) when conditions are favourable (for more on this company, see and ). For other investors I recommend 5 per cent in Monsanto, 2.5 per cent in Potash and 2.5 per cent in Syngenta. Monsanto is the leading company in genetically modified seeds and also produces RoundUp. Potash, as its name implies, is the leading company in supplying the key nutrient potash (George Soros recently invested in this company, and it's also ) and Syngenta is a Swiss company similar in many ways to Monsanto, but smaller.

Convertible loan stocks

The next 20 per cent of the portfolio should be in convertible loan stocks which are out of the money (ie, conversion prices well above the present market prices). When market conditions were favourable, oil companies such as Soco International and Dana Petroleum raised money with convertibles at very low interest rates. When their share prices fell out of bed, due to falling markets and the sharp setback in the oil price, the convertible element lost its appeal to equity investors and the still relatively low running yields were insufficient for investors requiring high income. However, the key point today is that both of these loan stocks have attractive redemption yields because annual interest will be paid and the full nominal values will have to be repaid on the redemption dates.

As a result, at $86.5 Soco has a redemption yield of 17.7 per cent a year, which includes a running annual yield of 5.2 per cent. Dana's redemption yield at £80.5 is less attractive at 9.9 per cent a year including a running yield of 3.6 per cent, but its conversion price is much nearer to the money.

I have significant holdings in both of these convertibles. There are a few important points to be borne in mind. First, there is a minimum investment with Soco of $100,000 (about £72,000) and with Dana of £100,000. In both cases, the limit refers to the nominal capital so, for example, at today's market price Soco's minimum requirement would be $86,500.

Second, the convertible of Soco is the only debt of the company and it has a strong balance sheet. Dana has recently made a cash bid for a company with substantial debt. However, it has renewed its bank facilities and has cash and very strong cash flow.

The third point is that the Soco loan has an early put in May 2010 which means that loan stock holders can put their loans on the company and demand repayment early. This enhances the redemption yield considerably. If, for example, Soco had to be held to maturity in May 2013, the redemption yield would fall from 17.7 per cent to 8.4 per cent a year.

Another important point is that Soco is a dollar loan so your view on the risk of sterling against the dollar is a very pertinent factor.

Both companies are takeover candidates, in which event the loans would be fully repaid immediately. Also on a takeover, the conversion price for Dana, which is nearest to the money, would drop from £16.45 to £11.96 if the company was taken over before 17 July 2009.

A final point is that the Soco and Dana convertibles are not eligible for a Pep or an Isa because they will be repayable within four years. I suggest splitting these two convertibles 12.5 per cent into Soco and 7.5 per cent into Dana.

Equities

We now come to leading international stocks – the kind of companies that will unquestionably survive and, helped by many of their weaker competitors failing, should emerge even stronger when the economy finally recovers. I should make it clear that I do not own any of these as I have always believed that, with rare exceptions, elephants don’t gallop. However, they are very suitable for a new long-term investor who is not watching the market minute-by-minute. To reflect my own bearish stance, in my portfolio I have a larger percentage of gold, cash and convertible loan stocks.

For long-term investments I suggest 2.5 per cent in each of six international leading stocks: McDonald's is benefiting from the recession as people move to cheaper dining out; Exxon, the world's leading oil company, has plenty of cash for acquisitions and strong reserves; AMEC will benefit from increased infrastructure spending; BHP Billiton is very cheap and should be the first to benefit from the eventual recovery in commodity prices; Microsoft is a clear leader and is on a very low multiple; and Wyeth is cheap and is likely to be taken over by Pfizer.

The market outlook is still uncertain so better opportunities may arise for future investment. Therefore I recommend retaining 30 per cent in cash. UK investors should consider opening an account with Northern Rock with whom they can obtain the government's guarantee for up to £250,000 per person. The current yield is a relatively attractive 2.25 per cent a year, which is much better than you can obtain from most banks.

The attraction of cash is that it is the most flexible asset of all. It is usually far easier to buy shares than to sell them. Cash can quickly be converted into things whereas shares cannot always be quickly converted into cash.

The last 15 per cent should be invested in a few Aim and small-cap stocks that offer exceptional value at the present time. However, with Aim stocks in particular there is much more risk so it is vitally important to have in place very strong protective criteria when selecting them. It will take some time to tell you about these stocks and the approach for selecting them, so I will cover them in detail next week.

Asset Allocation