That’s one reason why I maintained a strategy over the summer of being long US government bonds and short the S&P 500 given my concerns over the sustainability of the US economic recovery and the impact on corporate profitability. It worked out to be a profitable trading strategy not because I was right about the direction of the S&P 500 - which ended up rising 5.1 per cent from 1075 when I opened the trade (Bond Market Warnings, 12 July 2010) to my stop-loss of 1130 a fortnight ago - but because I correctly predicted that investors would drive down the yields on US Treasuries to hedge against the risk of deflation. The fixed-income part of the trade produced a 8 per cent gain in the same 10-week period, more than offsetting the loss on my index short trade. A net gain of 2.9 per cent on the combined trade may not seem much, but this still equates to an annualised gain of over 15 per cent, a return that any fund manager would be content with over his lifetime.
Golden prospects
I am now eagerly awaiting, as are most investors, the next meeting of the Federal Reserve Open Market Committee - the rate-setting committee of the US central bank - which takes place on 2-3 November. This undoubtedly will have a major impact on the next moves in global equity markets since investors are becoming increasingly convinced that a second round of quantitative easing (QE) will be announced to counter the increasingly deflationary environment in the US. Clearly, another round of QE would be good for precious metals, and gold in particular, as the dollar-denominated yellow metal acts as an obvious hedge against further weakness in the greenback resulting from Zirp.
My previous advice to buy gold at $1,157/oz (£733.43) in April (Golden Opportunity, 26 April 2010) has worked out well, showing a 13.5 per cent gain in only five months. And if you were convinced by my bull arguments when gold was trading at $1,025/oz a year ago (Why gold is surging, 9 October 2009) you will now be sitting on a 29 per cent paper profit. Next week I will consider the medium-term prospects for gold - and outline a trading strategy for the months ahead.
Seeking alpha
My advice last week to buy the 10 worst performers in the S&P 500 (based on their performance in the preceding three years) and simultaneously short sell the index is a strategy I have used in the past to try to create "alpha" - performance not attributable to general market performance. The point being that irrespective of how the general market performs over the next three months, I would expect my dog portfolio of 10 US shares to outperform the market for all the reasons I have outlined (10 shares to buy now, 1 October 2010). However, I have also created a safety net to mitigate the risk that the market may fall as it did in the same three month period last year. In fact, I am not concerned whether the market rises or falls, as this is a short-term 'long-short' hedge fund trading strategy that is aimed at creating alpha, rather than simply generating "beta" by tracking market moves. It is also a trading strategy that should benefit from Zirp, as another round of QE would result in US government bond yields being driven down even further, and some of the liquidity being pumped into the monetary system would undoubtedly make its way into equity markets.
Small-cap wonders
It is fair to say that I have enjoyed a fair amount of success this year in the small-cap arena. Part of this reflects a focus on Sirp in my stock selections. For instance, lowly rated shares in Walker Greenbank (Luxury at a bargain price, 8 February 2010), Ideal Shopping Direct (An Ideal World, 29 March 2010) and Hilton Food Group (Food for Thought, 17 May 2010) have not only generated share price gains of 55 per cent, 18 per cent and 9 per cent, respectively, but they are all producing dividends to give us a comfortable income stream. And though Lok'n Store (Un’lok Value, 4 May 2010) has yet to make it onto the dividend list, I was willing to sacrifice the income element in my Sirp stock screen, as I was being compensated with a high degree of safety, given the discount to net asset value. Other investors seem to agree, with the shares now trading 30 per cent higher at 118p.
It is a similar story with my Bargain Share portfolio (Bargain shares for 2010, 12 February 2010) which has risen in value by 16.9 per cent, against a rise of 8.9 per cent in the FTSE All-Share in the same eight-month period.
BARGAIN SHARE PORTFOLIO UPDATE 2010
| Company | Share price on 11.02.10 | Share price on 04.10.10 | Percentage change (%) | Percentage change without dividends (%) |
|---|---|---|---|---|
| Bowleven | 113.5 | 174.5 | 53.7% | 53.7% |
| Acal (see note 5) | 141 | 210 | 52.2% | 48.9% |
| Delta (see note 1) | 140 | 185 | 35.6% | 32.1% |
| KBC Advanced Technologies (see note 3) | 45 | 45 | 3.7% | 0.0% |
| Bloomsbury Publishing (see note 4) | 124 | 122.5 | 1.7% | -1.2% |
| Gleeson (MJ) (see note 2) | 130 | 116 | 0.8% | -10.8% |
| Jacques Vert (see note 6) | 16.25 | 15.25 | -2.2% | -6.2% |
| Telford Homes (see note 7) | 91 | 80 | -10.7% | -12.1% |
| Average | 16.9% | 13.1% | ||
| FTSE All-Share | 2644 | 2878 | 8.9% | |
1. Delta received a cash bid of 185p a share on 4 March 2010 and return includes payment of 4.8p dividend on 26 April 2. Gleeson paid out a special dividend of 15p a share and return includes this payment 3. KBC paid out a final dividend of 1.1p on 18 May 2010 and pays interim dividend of 0.55p on 13 October (shares trading ex-dividend) 4. Bloomsbury paid a final dividend of 3.65p on 1 July 2010 and return includes this payout 5. Acal paid a final dividend of 4.67p on 30 July 2010 and return includes this payout 6. Jacques Vert pays a final dividend of 0.65p on 16 October and return includes this payout as shares are trading ex-dividend 7. Telford Homes paid a final dividend of 1.25p on 16 July and return includes this payout | ||||
No fewer than seven of my eight small cap 'value' shares are paying dividends, an income stream that has added over three percentage points to my total investment return which highlights the gains we can make by focusing on a Sirp-based approach in our stock screens. In fact, having beaten the market in 10 of the 11 years with my Bargain Share portfolios – average annual gain of 14.6 per cent - I think the value of Sirp has proved its worth many times over!
