• Angus Crennan

September 2020 Balmoral Fund Investor Update

Updated: Dec 24, 2020

Please see below extracts from the end September Investor Letter sent 7 October 2020.

Following the near complete gain realisation of our investments between March 2019 and February 2020 we have been in the process of carefully rebuilding our portfolio during 2020.

At the end of September 2020 our Fund has moved to 59% invested across 16 businesses together with a range of protections being maintained within the portfolio to protect us during this period of elevated risk.

As at end September our Fund’s unit price was $1.09066. With consistent risk management in place over the first 9 months of 2020 we remain 0.87% in front of global share markets.

The Balmoral Fund’s has delivered a compound annual growth rate over the 3 years to end September of 7.0%. This is a little lower than the 8% we are seeking although deliberate given we have been so clearly prioritizing risk management for the last 18 months.

My view on investment markets remains largely unchanged from my last letter:

1. Market confidence rebounded over the 6 months to end September. Share markets have rebounded much more than expected. The abrupt return of investor euphoria seems to be mainly due generous government crisis payments. These financial Band-Aids are slowly being taken off. There is a gap between Wall Street confidence and Main Street reality.

2. Asset prices have been moving erratically over 2020 because sophisticated investment institutions are not implementing portfolio changes. Swollen money market funds and smaller equity market volumes support this.

3. With the big guys bunkered down, the US equity market in particular is being driven by less sophisticated smaller traders.

4. Market volatility is enormous and this means heightened risk (see volatility graph below). When sentiment does change we will be well positioned. Recall during the first three months of 2020 our Fund increased in value while global equity markets declined. We don’t have to be afraid of missing rising markets, we can make money in all market conditions.

5. Confrontational issues between the US and China needs to be closely watched; like Japan in the 1980s the Chinese economy requires growth to ensure sustainability of its lending programs.

6. Coronavirus infection rates continue to rise across both the developed and emerging markets. This means efforts to manage its further spread will continue to constrain economic activity.

Five charts illustrating market conditions

This first chart below shows how expensive the US Nasdaq Index, which includes the big US tech companies like Amazon and Facebook, is relative to its own history by way of a Price to Earnings (PE) Ratio.

The average PE ratio of this index over the last 15 years is 32 times (on average we needed to invest $32.03 to buy $1 of earnings) whereas valuations at end September 2020 had swollen to our needing to invest $65.20 to buy $1 of earnings. Based on its own history the US Nasdaq is expensive.

Relative value offers a different perspective

The counter argument to ‘expensive historically’ is to use a cross section of the capital markets at a point in time (ie ‘everything is expensive at the moment’).

The graph below illustrates this relative value argument by graphing the additional ‘spread’ in earnings an investor has received over time from a dollar invested into the US Nasdaq Composite Index relative to that same dollar invested into US Government 10-year bonds.

As at 30 September 2020 the US Nasdaq Composite earnings yield was 1.53% while the 10-year US Government Bond’s yield was 0.684%. This translates to an investor earning an additional 0.85% in Nasdaq earnings in exchange for both the additional risk of shares, but also the potential for share earnings growth over time.

As the graph below shows however even Nasdaq companies’ earnings don’t just go up.

Absolute return perspective

The Balmoral Fund seeks to generate 8% compound annual growth rates over rolling 3-year periods after fees. This rate of return meaningfully contributes to wealth creation (it will double investment capital over 10 years and multiply it ten-fold over 30 years) but also allows very rigorous risk management.

This is an institutional style of investing designed to avoid boom-busts long only share market investors experience. Institutions cannot accept the ‘bust’ phases because their investment assets often back prudentially regulated liabilities.

Targeting 8% each year is influencing how we run our portfolio. Buying investments with earnings yields of 1.5%, or bonds with compressed yields, needs to be considered very carefully when we are looking for the portfolio to grow at a sustained 8%. Holding cash is a headwind however cash provides us valuable optionality. Most important however is avoiding, or measuring and hedging, concentrations of risk.


Consider an Olympic swimmer whose lap times starts to become wildly erratic. There is a strong relationship between volatility and risk both in sport and financial markets.

The chart below shows the increasingly volatile US Nasdaq Composite Index in the form of rolling 180-day standard deviation of daily index changes to end September 2020. Our 180-day measure balances out noise and show us systemic changes. Current market risk is only eclipsed in recent history by the GFC.

Our second risk chart below was recently published by the Reserve Bank of Australia and neatly illustrates how significant the reduction in economic activity from the Coronavirus has already been around the world. The quality of the data coming out of China is uncertain.

High risks combined with high valuations means investment risks remain elevated. We respond to that risk with conservatism and using protective instruments to manage our risk concentrations.

Our Portfolio

We currently own 16 securities. For web viewers of this note, more information is available on Balmoral's portfolio - please contact me.

News about Balmoral Asset Management

I am very pleased to share the news that the Australian Securities and Investments Commission (ASIC) has now issued Balmoral Asset Management with an Australian Financial Services License. The timing could not be better as our Friends and Family capacity has been fully utilised.

It has taken time to obtain this license however it provides Balmoral the widest authorities and capabilities to look after its clients’ investment interests. ASIC has informed Balmoral Asset Management it is only the 11th organisation with particular authorities to provide advice to superannuation funds, a very strong imprimatur of the institutional skills and experience embedded in our business. The exclusive institutional expertise provided by our business has been verified through the comprehensive AFSL awarded.

With our Friends and Family capability now closed the Balmoral Fund is now exclusively open to wholesale clients (as that term is defined in section 761G of the Corporations Act).

To fit in this category an investor:

1. Will need to make an investment of at least $500,000 into the Balmoral Fund, or

2. Demonstrate they have net assets of at least $2,500,000, or gross income of at least $250,000 per annum for each of the past two years, as certified by a Qualified Accountant.

I wish everyone a healthy and successful end to 2020.

Angus Crennan

Executive Director, Balmoral Asset Management


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