Shires Income PLC

Manager's Monthly Report

May 2013

April witnessed a continuation of the trend of positive returns from equities. The index has now surpassed the level achieved in 2007 prior to the onset of the financial crisis. Macroeconomic news flow was limited during the month. Chinese growth continued to slow and this again manifested itself in declining commodity prices and falls in the shares of the mining companies. Indeed copper fell to its lowest level for 18 months and at one point the oil price fell below $100. There was also a precipitous fall in the gold price in the middle part of the month and this has only partially recovered.

Growth remains elusive across Europe. Indeed the region is now expected to deliver another year of contraction during 2013. Prospects are a little brighter for the domestic economy, where Q1 GDP was 0.3% and hence the much feared “triple dip” recession was avoided.

Given our long term approach to investing it is often the case that on a month by month basis there is only limited activity in the portfolio. This month we have taken advantage of the weakness in the mining companies to both buy a little more BHP Billiton and to write some puts on the shares. We also sold some puts on Standard Chartered and HSBC.

Much has been written this year about the “great rotation”, that is the idea that asset allocators will increasingly recognise the attractions of equities relative to fixed interest valuations. It is the case that many fixed interest instruments appear very fully valued and that as a consequence equities appear to offer good relative value. However, many equities have rerated, in some cases significantly and therefore it is more difficult to argue that equities represent good value from an absolute perspective.

There are reasons to be positive. Amongst these is the continuing recovery in the US. Unemployment is now at its lowest level for four years and consumer confidence is increasing despite the impact of sequestration and the removal of certain income tax cuts.

2013 has witnessed greater activity in capital markets. This has manifested itself in an acceleration in the rate of IPO’s and also secondary market offerings. Such activity is at least in part, a function of confidence. Were that confidence to permeate management teams as well then allied with what are generally strong balance sheets it is conceivable that merger and acquisition activity might pick up.

However, it needs to be remembered that corporate profit margins are at or around peak levels. That means earnings growth will in the main, have to come from sales growth. The global macro-economic environment means that there is therefore a heightened risk of earnings disappointment; this is particularly the case for companies with a second half bias to their profit expectations. Any disappointment could be harshly treated when one considers the re-rating that many companies have experienced. Recovery in the US would be expected to become more difficult as sequestration really bites and further austerity measures seem likely if there is to be agreement on the debt ceiling negotiations.

The European debt crisis is unresolved. The OMT remains untested, indeed its real strength lies in that fact. If bond investors begin to lose confidence in the authorities’ ability to protect the Euro we could find ourselves back in the midst of a crisis. Nothwithstanding the above, we believe that the best way to navigate through this difficult background is to continue to invest in good quality companies with the potential to deliver growth over the medium and long term. Allied with sound balance sheets that provide protection throughout the economic cycle.

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