This page shows the official NAV as confirmed by the third-party administrator. The fund NAV is normally confirmed in the week following the month end. The offer price differs only to the extent that the securities underlying the fund have a different bid/offer closing price.

	NAV at 30th September 2009 close: £1,449.1613

The Fund aims to achieve excellent long-term investment returns by investing in undervalued listed equities. The investment strategy is based on two premises that challenge conventional investment theory.

The market is not always efficient

Conventional investment theory suggests that markets are efficient at pricing, given all available information. Our investment strategy is based on the belief that the market is efficient on a medium to long-term basis, but that at any given point in time there can be divergence between true underlying value and market value.

This divergence can exist for three reasons. Firstly, a lack of understanding or knowledge of available information. Secondly, a short-term focus by many investors often driven by the need to perform on a quarterly basis, which can magnify the importance of transitory events. Thirdly, decisions driven by emotion rather than logic. In reality all three of these are inter-related and often conspire to produce pricing anomalies.

We believe that by taking a medium-term view, based on thorough research and logical analysis, we can take advantage of investment opportunities that are presented to us by a market place that is not always efficient.

The secret to minimising risk is not diversification

Conventional investment wisdom tells us that the key to minimising risk is diversification. We are not opposed to diversification, but in equity investments there is something far more important for risk reduction: Knowledge. The ability to truly control risk comes from an in-depth understanding of your investments. With equities this means understanding the variables that can affect the profitability of the business you are addressing, staying abreast of factors (be they economic, internal, or competitive) that can adversely or positively affect these variables, and watching the business closely for signs of deterioration in the fundamentals (or divergence from the investment hypothesis).

As we said we are not against diversification, but only to the point that it does not inhibit our knowledge of our investments. We limit our investments to a maximum of thirty, though in reality the portfolio is more likely to consist of 10-20 positions.

It is our experience that an investment strategy based on buying businesses where we have identified a valuation anomaly, combined with intensive research, good follow up and the application of logical analysis, does produce superior returns over the medium term. Importantly we believe these returns can be achieved without the use of leverage.

	In general, we believe that the market frequently undervalues the real expected returns of a particular company

Underlying the Fund will be in depth fundamental analysis that was established and proven within Phoenix Asset Management. The Fund will not need to be concerned about the short-term fluctuations in the stock market, believing that in the short to medium term the stock market is more liquidity driven but that in the long run the fundamentals assert themselves. Stock market volatility therefore should be welcomed for the opportunities it may present for the Fund to make bargain purchases or opportunistic sales. In general, we believe that the market frequently undervalues the real expected returns of a particular company but, more importantly, the market has consistently shown its ability to overvalue whole sectors with little differentiation between the individual companies. Warren Buffett said at his shareholders meeting in 2000, "There's no question that in the past year, the ability to monetise shareholder ignorance has never been exceeded". Whilst we are not expecting to see another TMT style bubble in the near future, we do believe that opportunities of undervaluation and overvaluation will always present themselves.

Investment Universe

All listed companies that either generate cash or will generate cash fall into our investment universe, the key for us is to have the knowledge and understanding to predict what the future cashflows will be. Certain sectors are very difficult for us to value because we do not have sufficient expertise to determine future prices – this is particularly true in commodity markets such as oil and metals. For example, we are not experts on the oil price and would not therefore invest in the shares of oil companies. Other sectors that we would normally avoid include regulated utilities.

Growth companies and mature (low/zero growth) companies are within our universe as long as we are able to estimate future cashflows. Clearly, the bigger the growth the less certainty we can assign to the expected cashflow and the more conservative we become. Historically, it has been the very high growth companies that the market has over-valued as analysts and investors have drawn straight lines to continue the initial high growth periods for many future years. Conversely, the market will sometimes ‘de-rate’ a company that stops growing and it will fall from favour. Sometimes this flattening of the profit growth is accompanied by a large reduction in capital expenditure whilst depreciation remains as a higher cost on the Profit and Loss Account. To many, this ‘no growth’ rated company will be mediocre, but will be generating more cash than the P&L suggests and may well be an undervalued opportunity for us.

When a well known brand goes through a poor and sustained trading period management may eventually be replaced and a new strategy developed. Sometimes this re-structuring will also be accompanied by a capital raising Rights Issue. Our evaluation of this new strategy will involve analysis of the expected cost savings, management track record, planned corporate structure and anticipated divisional operating margins. These situations sometimes present us with the opportunity to invest at low ‘old company’ valuations when new management and cost structures are already being put in place.

Our basic approach

When buying or selling shares we are trading a fractional part of a whole business. So when analysing a company we consider its total market value and treat the investment as if we were buying the whole company at that price. There are three major things that we are looking at in a company. They are its business, its management and its price.

Business

Ultimately the value of a business is the present value of its future earnings flow and it is the calculation of those future earnings that is the key to valuations. Generally, the simpler the business the easier the earnings are to predict but in all cases we have to make certain assumptions relating to the expected overall marketplace, an expected market share, ongoing margins and the overall global economic cycle. Pricing power is extremely important and underlies the true strength of a business's franchise - market leaders and niche businesses tend to have pricing power and have the best chance of maintaining margins throughout the economic cycle. Obviously, when we come across an industry that is generating capacity far in excess of potential demand we can start to develop a picture of diminishing margins. This has already been seen in the television market, many brands have become irrelevant as all products perform the same function with few problems of reliability. We saw it more recently in the market for PC's and we are beginning to see it in the mobile phone market and other maturing technology industries.

'Good management' is both the ability to operate the business well and a pro-shareholder attitude to the management of the firm's capital.

Management

What we would look for in a 'good management' is both the ability to operate the business well and a pro-shareholder attitude to the management of the firm's capital. It is not our intention to buy a company with a management we cannot fully trust to make strategically correct business decisions on behalf of its shareholders. Their approach to capital allocation decisions and what they decide to do with excess cash within the business are keys to whether they share similar values to our own. So many companies do not have an identifiable policy for capital expenditure and many would prefer to keep cash on their balance sheet 'just in case a potential target comes along'. They seem unable to understand that it if they can consistently show a high return on capital employed they will never have a problem generating or raising cash for strategically thought out investment opportunities. Their preoccupation with wanting to remain a 'big' company frequently prevents them from achieving that goal. A good management will generally own shares in their company (not just free options) and demonstrate a huge breadth of knowledge about their industry and competitors. We do not believe that those managers who invest in shares of their own business become 'good' managers, but it is another pointer which shows us that they believe in the business. By knowing that we are looking for particular qualities for our investments we are able to better identify where some managements are lacking in these areas. Whilst most companies will fall in the middle ground there are certainly examples where managers have made more than one poor capital allocation - often an ill-advised takeover. It may be the build-up of debt over a long period or the unnecessary building of a new production facility and Head Office. A profit warning which was 'unforeseen' coming soon after a capital raising share placing or sale of shares by insider Directors. All of this information provides us with insights into the ability of the management and can also serve to help us avoid an investment mistake. Avoiding such mistakes is as important as finding good investments.

Price

If we identify an excellent business with a credible management team we also have to purchase our holding at a ‘cheap’ price so we may earn superior returns. We target to make a minimum annual return of 15% on an investment. We do not expect this goal to happen in discrete and equal amounts but would target a new investment to double over a 5 year time period. Once we have found an opportunity that fits the first two criteria we must be patient to wait for the market to misprice the shares enough to make our investment 'very safe'. Sometimes we will miss opportunities and sometimes a stock price fall may trigger a closer look at a particular company. Overall an 'expensive' stock market will throw out fewer potential purchases but history has taught us that enough potential investments will occur if we are patient. Conversely, more opportunities that fit our model for purchase will occur in a 'cheap' market. Once a stock comes into the fund it will hopefully become a long term holding if it is generating a return on capital of greater than 15%. We would expect the Fund to have a core of long-term stocks and a smaller weighting of new stocks and mature holdings. The mature holdings are those where we have seen the market re-rate the shares and there is less relative upside for the fund whilst the new stocks are those where we are hoping for lower prices to increase the weightings. Again the margin of safety and the patience to wait until the investment becomes very safe is very important.

Risk

The risk in our approach is not finding a sufficient number of suitable investments and not being fully invested during a big market rally. This has happened in 1999 - 2000 when there was a race to invest in TMT stocks. The ability to sit with an investment and patiently wait for the value to be seen by others is the strength of an unleveraged long only fund. Experience has shown us that a company that is continuing to generate real cash will not be undervalued for too long. The importance within the portfolio is to have the right weightings which reflect our view of the relative undervaluation of each stock and the risks involved. Our investments are based on our own conservative expectations for real cashflows and whilst the markets ‘valuation’ of a specific company will fluctuate, the real underlying value in the business is continuing to add value each day. The volatility of the market will be transferred to the portfolio but we expect the ‘real’ cash generation of our holdings to be recognized by the market over the medium term.

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