The Sceptre UK Fund was up by 0.7% in October which compares to a rise of 4.1% in the FT All Share index, a significant underperformance on the month but just about all the shortfall can be attributed to the extraordinarily strong performance of the mining sector since the mid-August market trough. We do not consider ourselves experts in predicting the future price of metals and, as this is the fundamental criteria for profits and profits growth at these companies, we will not invest in the sector.

As the “Hurricane Season” came to a close for a second very quiet year, we took advantage of strong prices to exit our Lloyds insurance underwriter after almost doubling our money (including dividends) in the 2+ year holding period. Whilst these businesses look very cheap on a p/e basis, premiums have already fallen significantly and are now set to fall further as we move towards the 2008 renewal season in January. It sounds a little macabre but the time to invest in the mainstream Lloyds underwriters is immediately following a large natural disaster and not 2 years after the last season of very large hurricanes.

We have also been able to add a new position, starting with a 1.5% holding in a growing company that is highly cash generative and established as market leader in 2 of its business areas in the UK and Ireland.

It should be noted that 7 mining stocks now make up 10% of the FT100 index and their profits are closely linked to the underlying prices of copper, nickel, aluminium, iron ore and zinc with most having a particularly large exposure to copper. Since the commodity bear market ended in 2002 the price of copper has increased 5-fold but the amount of copper dug out of the ground has hardly increased at all. Whilst we understand that it takes time for new mines to be brought on-stream, we also know that there are abundant copper deposits and it is only a matter of time before new capital will be attracted to invest in order to lift copper production. Since 2000 Chinese copper demand has doubled from 1.9m tones pa to 3.9m tones pa and they are responsible for 75% of the overall increase in demand in the period – global demand has risen from 15m tones to 17.5m tones pa. Specialist commodity funds and hedge funds have been tracking the rise in commodity prices and, to some extent, have added to the bull market by investing large amounts into relatively illiquid markets. The group of FT100 mining companies are now trading at between 3.5x and 5.5x net assets.

It will come as no surprise that we have no idea when this “bubble” will start to deflate but we will continue to invest where we believe we can conservatively estimate the future expected cashflows of businesses and not speculate in areas/sectors where we do not have enough information to make reasoned calculations.

We have written a short research piece which details our views on (not) investing in the mining sector and would be very pleased to forward you a copy should you wish to see it.

As always, if you have any questions about our investment approach or the fund, please let us know.

Chris Broadhurst
CEO