Andrew Sweeney120159770

Portfolio UHedge Fund

Aim: GrowthReturn: Absolute

List of Stock:

BAE Systems 4,000,000 sharesLadbrokes 2,000,000 sharesMothercare 1,500,00 sharesRexam 1,000,000 sharesTravis Perkins 1,000,000 sharesTUI Travel 1,000,000 shares

Cash: £5,000,000

Starting Valuation: £61,729,200

Executive Summary

Objectives

The aims of the portfolio are growth meaning the aim is to look for high-

risk companies that will give high volumes of return in the near future, however,

the portfolio will also need a level of fixed income securities to avoid the

investors a dramatic loss. In addition to seeking growth, the returns basis for the

portfolio is absolute, meaning benchmarking will not be required, as the

performance of the index has no effect on the portfolio’s aims. Appendix 1

provides brief introductions to each company in the portfolio.

Portfolio Summary

The overall five-year performance of the portfolio has been very poor in

terms of absolute return and growth, not getting anywhere near close to the

returns expected by the investors. In fact, the portfolio’s return fell short of its

target by over 20% in the first four years. The main drivers of the portfolio,

performing well and achieving the objectives relative to their weighting are

Travis Perkins Trading Co. Ltd. and TUI Travel PLC, which we would recommend

to invest more in for the future as its rate of growth over the past five years

suggest TUI Travel’s share price is undervalued; this will be explained in the

main body of the report. The main failures in the portfolio have been Mothercare

PLC and Ladbrokes PLC, whose share prices both fell by over 50% over the five

years, leading to colossal losses as their inception weightings were so high in the

portfolio.

A final judgement has been made to invest in both equity and an infrastructure

fund. In terms of equity, it has been recommended to buy slightly more shares in

TUI Travel, being cautious that the rise in share price may not continue much

longer; as well as investing in new shares in Smiths Group company. The final

investment has been to invest just over £6,500,000 in John Laing Infrastructure

Fund.

Contents:

Page 1 – Title PagePage 2 – Executive SummaryPage 3 – (Contents)Page 4 – Introduction of the PortfolioPage 5 – Performance Summary 1.1&1.2 Page 6 – 1.2 continuedPage 7 – 1.2 &1.3 Page 8 – 1.3 continuedPage 9 – 1.3 & 2 risk measuresPage 10 – Risk measures 2.1Page 11 – 2.2 continuedPage 12 – 2.3 continuedPage 13 – 2.3 continuedPage 14 – 2.4Page 15 – 2.4 continuedPage 16 – Reconstruction of the portfolio 3.1Page 17 – 3.2 Page 18 – 3.3Page 19 – 3.3Page 20 – 3.3Page 21 – 3.3Page 22 - ConclusionPage 23 – Appendix 1 Page 24– Appendix 2Page 25 – Appendix 3Page 26 – Appendix 4&5 Page 27 – Appendix 6Page 28 - Bibliography

Introduction to the StockThe six stock portfolio is heavily imbalanced with four companies being listed in

the FTSE100, one company in the FTSE250 and the final company being listed in

the FTSE small cap: the companies are

BAE Systems Plc – a giant company in the FTSE100 that develops, delivers and

supports advanced military defence in aerospace systems. The company has

clients all over the world and is involved of the manufacturing of aircraft, ships,

radar, submarines and more for the military.

Ladbrokes Plc – Ladbrokes is one of the UK’s leading gambling companies based

in Britain. It operates call centres and betting shops in the UK, Ireland and

Belgium.

Mothercare Plc – a UK retailer specialising in good for expectant mothers and

young children. It produces both clothing and homecare products for its target

audience. It is located in the UK but its franchise operates globally.

Rexam Plc – A multinational consumer packaging company, manufacturing and

distributing packaging materials. It supplies packaging solutions to the beauty,

food, beverage and healthcare industries. It is a world leader in rigid plastic

packaging and operates globally.

Travis Perkins Trading Co. Ltd. - Travis Perkins is a marketer and distributer

of products to the UK’s construction and building industries. It is involved in

distributing: timber, heating, plumbing and construction products.

TUI Travel Plc – A British travel group in the leisure industry that was formed in

2007 when the Tourism Division of TUI AG merged with First Choice Holidays

Plc. It operates as a travel group in Europe and North America

1. Performance Summary

1.1. Brief Overall Performance of the Portfolio

As stated in the executive summary, the Portfolio’s performance over the past

five years was not acceptable to the investors as it failed to achieve year on year

growth, the basic minimum requirement of the investors. Whilst in three years

the Portfolio showed growth on the previous year, the particularly severe loss in

the first year meant that even with the promising performance in the fifth year

when the annual growth was 27%, the Portfolio failed to meet its fundamental

aim of growth. The weighting of the Portfolio has proven to be part of the reason

why the portfolio has failed to meet the aims set by the investors. With BAE

Systems having just under a third of the inception weighting, it has meant that

the Portfolio has relied heavily upon the performance of BAE to meet its target.

This can be contrasted with TUI Travel, which only had 5% of the inception

weighting meaning that its performance has had little effect on the overall

performance of the Portfolio. Thus as a result of BAE performing poorly,

especially in the first two years of the stock being held, the Portfolio has suffered

massively. If the inception weightings of these two companies had been reversed,

the results of the Portfolio would have been significantly different. The fact the

Portfolio has performed so well in the last year makes it more difficult to decide

which stock to keep/sell; it also shows that the Portfolio in itself is very volatile

this volatility being further discussed in the risk measures part of the report.

1.2. Simple Return

The simple return of the stocks in the Portfolio, as well as the Portfolio as a

whole, has been used to analyse the performance of the Portfolio relative to its

aims, as a simple return shows how much return is generated from each holding

stock relative to its initial cost. This is appropriate as the Portfolio’s return basis

is absolute, meaning investors have no interest in how the index performs, their

only interest being in the annual growth of the stocks being held.

The Portfolio as a whole has a simple return of -9.75%, indicating that the

Portfolio has massively underperformed in comparison to the target set.

Critically, the underperformance of two particular stocks have majorly affected

the simple return; those being Mothercare PLC, having a simple return of just

less than 36% decrease and Ladbrokes PLC, having a simple return of 46.4%

decrease. Due to the combined inception weighting of these two stock being

26%, the poor performance has had a harsh effect on the Portfolio, where the

other stocks being held have all performed considerably better.

BAE Systems PLC and Rexam PLC have provided some stability to the Portfolio

with their simple returns over the five years, although not necessarily the aim of

the Portfolio; the hedge fund still needs to maintain a level of security to

minimise losses, should the Portfolio underperform (as it has done). With BAE’s

capital return excluding costs showing a decline of 11.4%, likewise with Rexam

PLC’s showing a decline of 0.4%, both companies have managed to pay good

dividends over the holding time enabling both companies to achieve a simple

return of 13.2% and 21.2% respectively. This conveys that although the hedge

fund’s aim is growth, achieving dividends through some of the stock held is

advantageous for the performance of the Portfolio and the performance of BAE

and Rexam should be seen as a positive asset for the Portfolio.

The main drivers in terms of simple return are: firstly, Travis Perkins with a

simple return of 27.8% showing that it has grown strongly in the past five years

as well as paying some dividends for income. More importantly, the capital

growth of Travis Perkins Trading Co. Ltd. (excluding costs) has been 18.3%

showing that it has grown at a steady rate without the need for dividends to

generate return for the Portfolio. Secondly, the most successful stock in

achieving a simple return is TUI Travel Plc, generating a simple return of 74.5%,

which is far higher than the target set by the investors. This shows phenomenal

growth in the past five years showing that the stock price was definitely

undervalued at the outset; it has blown all other stocks being held in this

Portfolio out the water and in addition it has outperformed its main rival,

Thomas Cook Group PLC, as shown in the following graph which compares the

relative share price between the two companies and the Travel and Leisure

Sector. Although TUI Travel does not outperform the sector in this graph, this is

due to the fact that the sector is extremely broad, containing a diverse group of

companies including William Hill, Cineworld Group Plc and Ladbrokes (the

comparison between TUI Travel and Ladbrokes is shown in Appendices).

TUI Travel additionally shows a tremendous capital return of 52.1%, showing

that it has enjoyed a tremendous aggregate growth in its share price over the

past five years, which is the exact aim of the Portfolio. (Source Digital Look)

1.3 Compound Annual Growth Rate of the Portfolio

The Compound Annual Growth Rate of the Portfolio is important in analysing the

performance of this hedge fund as it provides an average growth in a stock’s

share price over the years it has been held in the Portfolio. Thus these results

clearly show which companies are driving the growth of the Portfolio and which

stocks are failing to meet the target.

The two companies that possess a negative compound annual growth rate

(CAGR) in the Portfolio are Ladbrokes, with a CAGR decrease of 11.9% and

Mothercare, with a decrease of 8.6%. Similarly to the way in which their

weighting has an effect on the simple return, the two companies are particularly

at fault when one analyses the reason why the Portfolio does not meet its target

of growth.

Though the rest of the stock being held has obtained a positive CAGR throughout

the holding period, some of the stock growth would not be viewed as a success to

the investors in the fund. BAE Systems has maintained its secure status for the

Portfolio, showing a small CAGR increase of 2.5%. Due to the large inception

weighting BAE Systems is proving to be more of an anchor for the Portfolio,

achieving steady growth over its holding period showing that although it is not

meeting the aims of the Portfolio in terms of growth, it is eliminating some losses

incurred by Ladbrokes and Mothercare with its security (shown in Appendix 2,

with sector comparisons). Rexam PLC also has a similar role in terms of CAGR,

with an annual growth rate of 5.07%. BAE Systems' inception weighting of 28%

also shows that it accounts for a large portion of the activity in the Portfolio,

more so than Ladbrokes and Mothercare combined. However, the slightly

positive CAGR of both Travis Perkins and BAE Systems cannot be seen as

beneficial for the Portfolio, as they combine to have an inception weighting of

55% of the Portfolio, therefore if neither stock is growing particularly

successfully relative to share price, then the Portfolio will struggle to grow as a

whole.

Moreover, Rexam PLC also has a small CAGR of 3.95%, which would not be

viewed as achieving the aims of the hedge fund and not a result investors would

be pleased with. The only stock showing a particularly fruitful CAGR is TUI

Travel, with an annual growth rate of 11.9%. Over five years the stock has shown

tremendous growth individually, since the company launched in 2007 and is on

course to continue. Yet for the Portfolio as a whole, the TUI Travel’s stock

unfortunately does not provide the growth deemed necessary to the investors

for the Portfolio to be seen as successful due to its small weighting and therefore

its tremendous performance has had a limited effect on the overall performance

of the Portfolio.

2.Risk Measures

2.1. Identifying Risks in the Portfolio as a Whole

Due to the fund being an absolute growth fund it in effect dictates that the fund is

riskier than other types of fund and is more likely to respond more dramatically

to any changes that occur in economic conditions. With the Portfolio return basis

being absolute, this nullifies any risks against the index, for example, the Beta of

the stock in the Portfolio. Therefore the performance of the index has no effect

on measuring risk effect against the Portfolio. Being an absolute growth fund

means that the Portfolio as a whole has to perform by continually outperforming

its previous year’s return. The obvious risk is that some of the stock, heavily

weighted, may not grow enough to satisfy investors that the return it generates

meets the aims of the investors and therefore heavily weighted stock greatly

affects the cumulative return of the Portfolio. The weighting of this Portfolio has

been identified as a key risk and will be discussed in further detail in this section.

Additionally, the Portfolio is also subject to timing risk. One cannot be certain

whether the stocks will be bought or sold at the right time. For example, with TUI

Travel’s stock performing so well over the past five years, it is difficult to say

whether the stock will continue to rise as it has done previously, thereby giving

rise to a risk in the decision of whether to buy more or sell the stock now.

Another specific risk to the Portfolio is that one particular stock, namely

Mothercare Plc, has had a change in management recently, with the Chief

Executive Simon Calver resigning in February 2014 (Financial Times, 24 Feb

2014). This has left Mothercare Plc, a company who has been failing to reach

their target of making profits with new management in a market that has

“become much more aggressively price competitive” (Ms Eithne O’leary,

Financial Times, 24 Feb 2014), which is a putting both the Portfolio’s growth aim

and return basis at risk.

2.2.1 Key Risk 1: Standard Deviation

Firstly, the Portfolio as a whole is affected by its standard deviation. In some

cases the standard deviation of the Portfolio being high could be seen as an

advantage and not a disadvantage, as standard deviation measures the variation

from the mean and therefore if values were moving in a positive direction, it

would mean that the Portfolio is growing and that growth will be additionally

positive. However, (as shown in Appendix 3) the Portfolio’s volatility fluctuates

in both positive and negative directions, meaning that the Portfolio is risky, but

as the negative fluctuations have outweighed the positive fluctuations, the

percentage return is not meeting the requirements set.

The standard deviation of the Portfolio would be successful if the stock were to

deviate positively and grow each year. However, in the past five years the

standard deviation of the Portfolio has dropped from 29% to 19% (roughly).

Therefore the potential for growth of the Portfolio has reduced. This suggests

that the aims of growth are becoming less and less likely to achieve for the

Portfolio. The Portfolio will need to change some of its stock to achieve a higher

standard deviation in order to give it more of a chance of growing. The

annualised standard deviation of the Portfolio has a value of 27.92%, meaning

the overall potential shift over the past five years of trading has been over a

quarter. This shows that the portfolio is fairly risky in terms of growth but it is

not fulfilling its potential.

With regard to the individual stocks having risk on the Portfolio, BAE Systems

has the lowest annualised standard deviation at 33.7%, highlighting it has the

lowest risk to the Portfolio. This is not necessarily a negative point as previously

discussed. BAE pays good dividends for the Portfolio and is the most heavily

weighted stock. The main underperformers of the Portfolio, Ladbrokes and

Mothercare have standard deviations of 41.6% and 50.2% respectively. This

shows that both are volatile in terms of share price movement, with Mothercare

being the second most risky in the Portfolio. The current decrease in these

shares emphasises that the Portfolio is at risk of continuing to fail to meet the

aims set by the investors. This is a result of the two stocks negatively deviating as

they have done in the previous five years. With the Portfolio having stock such as

BAE, who are minimising losses by maintaining a low deviation, the Portfolio is

reliant upon other highly deviating stock for its growth. BAE’s stock has also

grown more in the past two years since its trough, which could have been as a

result of the financial crisis. This shows again that BAE is not putting the

Portfolio at risk.

Travis Perkins Trading Co. Ltd has an annualised standard deviation of 55.2%

showing a massive potential for increasing its share price. Taking into account its

simple return, this can be seen as a successful risk taken by the Portfolio, as there

is a positive deviation that is providing the Portfolio with growth. Another

successful risk taken by the Portfolio has been TUI Travel, whose annualised

standard deviation of 46.5% shows that the stock still has room to grow. These

two stocks are respectively the most risky and third most risky stocks in the

Portfolio and are subsequently relied upon by the Portfolio in terms of growth,

yet both stocks’ past performance shows the risk is paying off.

2.2.2 Correlation of the Stock

Part of the standard deviation being a key risk, is due to the correlation of the

stock in the Portfolio. Again, due to the nature of the Portfolio, being a hedge

fund with an aim of growth, correlation should be seen as something critical in

enabling the Portfolio to achieve its aims. However, in this Portfolio, risk is

generated by the lack of correlation between the securities For example, the

most successful stock in terms of growth, TUI Travel, does not have a convincing

correlation with any of the stock, with the exception of Travis Perkins, who share

a correlation of 0.75 with TUI Travel. The only problem with this is that these are

the two most successful companies in the Portfolio. If one were to suddenly

underperform the whole Portfolio would be at risk of barely making profit.

Similarly, the only correlation between two securities that competes with the

correlation of Travis Perkins and TUI Travel is the correlation between BAE

Systems and Ladbrokes, which has a value of 0.71. However, the reason this

posts such a risk to the Portfolio is that Ladbrokes has performed poorly in the

past five years; although BAE Systems' share price has lowered, it has been on an

aggregate rise for approximately two years, whereas Ladbrokes is the opposite.

This poses a threat to the growth of the fund because if Ladbrokes’ share price

continues to fall, this may have an affect on BAE’s share price, which may lead to

the largest weighted stock in the Portfolio suffering. This leads onto the next key

risk of the Portfolio, which is its weighting of stock.

There is also a lot of diversity in the stock, which is a risk to the Portfolio because

the investors want growth, correlation is less likely to be strong if none of the

stock are related. This suggests that any correlation is random and therefore not

reliable and therefore the Portfolio is at more risk of failing to grow and the stock

that do have correlation have both just merely had rises in stock price over the

past five years.

2.3 Key Risk 2: Weighting of the Portfolio

The reason weighting is a risk to the Portfolio is that 60% of the Portfolio is

made up of two particular stocks, BAE and Travis Perkins. The pie chart below

shows the weightings of the Portfolio (Appendix 4 gives details of representation

of the pie chart).

The problem with having two stocks with such high inception weightings is that

if they were to both underperform, the growth of the Portfolio is then reliant

upon four stocks growing heavily enough to generate an overall growth for the

Portfolio, which would be extremely unlikely considering the four stocks only

hold 40% of the weighting (excluding cash). However, having BAE Systems with

such a heavy weighting, it does reduce the Portfolio risk. BAE is fairly secure as a

company and does not hold much risk to the company. This is important in a

hedge fund because it would be too risky to aim to grow all six stock in the

Portfolio. This would be a monumental risk and therefore having a relatively

secure stock with an inception weighting of 32% will eliminate losses should a

small percentage of the overall Portfolio fail to meet the returns basis.

Another risk to the Portfolio, in terms of its weighting, is having TUI Travel with

an inception weighting of just 5%. The reasons for this being a risk to the

portfolio is that TUI Travel is the largest travel company listed on the UK stock

exchange. It is a seasonal stock and therefore will have peak times in the year in

terms of performance. However, due to the UK emerging out of the financial

crisis, with Mark Carney saying interest rates will “remain low for some time” as

the economy steadily returns to normal (Telegraph Finance, March 2014), this

suggests that more people will be going on holiday now than five years ago and

therefore the Portfolio should now give a larger weighting to TUI Travel who are

likely to grow as their success is based on people being able to afford the

company's service. TUI Travel’s performance within the Portfolio has therefore

been restricted because of its small weighting.

The holding of cash as a weighting is another risk to the Portfolio with the total

cash being held when used in the weighting of the Portfolio being 9%. That cash

will not grow at a rate the investors are looking for, with interest only being 1%

per annum. As such, this will not aid the Portfolio in growth terms. It would have

been better to start the Portfolio with a smaller amount of cash and use the large

portion of that cash to invest in more stock. This could have resulted in more

growth for the Portfolio, but with the cash making up just under 10% of the

Portfolio and cash being certain not to grow, the Portfolio is at risk of losing

potential growth.

2.4 Key Risk 3: Value at Risk

The Value at Risk (VaR) is important to the growth of the fund as it takes into

account the percentage return of each stock and the Portfolio as a whole. A 99%

confidence level is more appropriate as the VaR needs to be as accurate as

possible. The VaR of the Portfolio as a whole poses a risk because with a 99%

confidence level, the VaR stands at 4.73, which in turn means that the biggest

adverse movement would have been 4.73%. This is a risk because that is a figure

that the investors would not accept as being an acceptable return. If the worst

case scenario was 15% off the target there is a large margin for failing to meet

the investors targets.

In terms of which individual stock is putting the Portfolio at risk, Travis Perkins

has the largest VaR, meaning that its stock would have had the highest adverse

movement potential of 7.4%. However the stock has performed well and has

achieved the aim of growth. This shows that it was a risk worth taking. Similarly

with TUI Travel, whose stock had a VaR of 5.79%, the stock performed extremely

well for the risk that was taken.

The second highest VaR in the Portfolio belongs to Ladbrokes. This puts the

Portfolio at a disadvantage because Ladbrokes has performed so badly and has

had a massive decrease in the value of its share price despite showing glimpses

of growth between 2012 and 2013. The risk it has brought to the Portfolio has

evidently not been worthwhile. Likewise with Mothercare, a company who has

struggled to bring any profit or growth to the Portfolio at any point, a VaR of

5.69% at 99% confidence level shows that the risk taken in investing in

Mothercare has not paid off. Additionally, Rexam’s VaR also suggests that the risk

has not paid for the Portfolio, as Rexam has barely shifted its share price

cumulatively over the five year holding period, a VaR as high as 5.79% is too

high. On the contrary, the smallest VaR in the portfolio, being BAE Systems, again

proves that this is the safest stock in the Portfolio and due to its heavy weighting

(as previously mentioned) is good for the stock, considering the dividends it

pays.

3. Reconstruction of the Portfolio

3.1 Stock Being Sold

Judging on the performance of all six stocks in the Portfolio, there are two stocks

to be completely sold. Firstly, Mothercare will be sold due to the losses it has

suffered over the past five years. The aim of this Portfolio specifically was

growth, yet Mothercare’s share price has decreased by 54% over the past five

years, and this year the share price has fallen dramatically again, which does not

show any promise of growth in the near future in comparison to the share price

when the stock was bought. (Appendix 5 shows the share price data of

Mothercare over the past 5 years). Moreover, with it being such a small company

(listed on the FTSE small cap) the returns it will generate will have very little

effect on the profits in comparison with the majority of the Portfolio whose

companies are all listed in the FTSE100 (except Ladbrokes). Evidence to support

this is that, in terms of performance summary, Mothercare produced, both

relatively and absolutely, the least dividends in the Portfolio and also had the

lowest value. Additionally, although the reason for the huge drops in the share

price are most likely to be the fact that its management has changed twice in the

past five years, this also means that the company is not stable at the moment and

is pursuing new aims, and the Portfolio is being put at great risk, which is not

paying off in terms of growth or return.

The second stock to be sold will be Ladbrokes Plc. It has massively

underperformed in comparison to the sector and it is also far smaller than the

leading company in gambling, namely William Hill. The fact gambling is now so

accessible as it is available online, with many different companies emerging on

the market, means that it is tough for companies that provide this particular

service to grow enough to please the investors of this Portfolio.

The third and final selling of stock will be 1,241,379 shares from the BAE stock in

the Portfolio. This will decrease the weighting of BAE Systems in the Portfolio to

20%, which is enough to still appreciate the dividends produced to help gain a

positive absolute return. The main reason behind the selling of this stock is to

allow for a larger weighting in the Portfolio to be more risky in terms of share

price. As BAE has the least volatility in the Portfolio, this is only an advantage to a

certain extent that is not worth more than 20% of this Portfolio value because

ultimately, the aim of the Portfolio is growth.

Assuming all stock is to be sold at the closing share price on trading day 1825,

the Portfolio will receive £16,362,379.31 to invest. This, along with the cash that

is already held which had a closing value of £5,626,933.40 means the fund is

holding a total of £21,989,312.71, of which, £19 million is to be reinvested. The

rest will be saved for reasons such covering management fees for the year.

3.2 Stock Being Held

The reason for the remainder of the stock being held is due to the fact that over

the past five years they have each generated a positive simple return; this shows

that they are making a profit for the Portfolio which is not directly the aim, but

the security from Travis Perkins and Rexam Plc allows the opportunity to invest

in riskier stock and still provides income. Rexam Plc stock has been retained in

the Portfolio as although it has been very volatile, it has kept generating profit

and itself has grown, achieving the aims of the Portfolio despite only having a

small weighting and therefore little influence relative to the companies with a

larger weighting.

Looking in depth at Travis Perkins Trading Co Ltd, which has gained the highest

weighting in the Portfolio in its holding time to show that it has outgrown the

majority of the Portfolio. It has delivered a capital return (excluding costs) of

18.3%, which would please investors, considering its large weighting. It has also

massively outperformed the Support Services sector, with nearly a 50% higher

relative value. It is an extremely strong company which has performed well

consistently. Its consistency has therefore enabled more risky stock to be

invested in by the Portfolio. In addition to the returns it had accomplished,

Travis Perkins also displays a strong correlation with Rexam and TUI Travel of

0.85 and 0.75 respectively. This shows that should Travis Perkins continue to

grow, the other companies will grow with it and vice versa. Correlation is

important to this Portfolio as it needs growth to be promoted in the short term of

holding the stock. Therefore if one stock can influence another, the Portfolio will

benefit greatly.

3.3 New Stock Recommendations

Firstly, it is recommended that TUI Travel’s stock is to be increased by 500,000

shares based on the level of growth it has enjoyed during the holding period. As

it is still a relatively newly formed company (formed in 2007) it still has

potential for growth in the sector, which is outperforming TUI Travel despite the

tremendous growth and returns of Travel. This will give the company a large

enough weighting to demonstrate more influence in the overall Portfolio growth,

with more activity predicted in the forthcoming summer months, this seasonal

stock is expected to thrive. The reason behind not investing even more in TUI

Travel is that the company has performed so well over the past five years, there

is risk of TUI Travel being in a stock bubble. Therefore caution needs to be taken

when investing now and the time to sell may come as soon as the end of the

second quarter. Though this defies the random walk hypothesis, which, deemed

by Pries and Stanley as to “fail to account for the very largest stock prices”

(Econophysics, May 2011), the duration of the continued growth of TUI Travel is

still debatable. However, as the stock has thrived so much and is continuing to

thrive, money will be invested into buying 500,000 shares which will cost

£2,186,500 of the proposed £12 million that will be spent on investing in new

stock.

When looking at new stock to invest in, it is recommended to look into

companies that are in the FTSE100, because if the index is performing well, it is

more likely the companies being held in the Portfolio will be performing well if

all the companies are listed in that index. As all of the remaining companies in

the portfolio are to be listed in the FTSE100, stock has been picked from this

index in terms of investing in equity for reconstruction. The use of derivatives

being prohibited limits certain types of reinvestment. For example, futures and

options cannot be utilised in an attempt to reduce counter party risk. Example of

a particular commodity that has been restricted due to the use of derivatives not

being allowed is crude oil futures. Crude oil futures (July 2014) would have been

a short term investment worth looking into as Wood Mackenzie are to invest in

North Sea oil production generating a predicted £438million (The Telegraph, 10

January 2014). However the futures on crude oil in the North Sea can not be

paid.

The use of technical analysis will provide analysis of the historical performance

of a stock, which can be compared to the performance of the stock that has been

held in this Portfolio. Technical analysis pays particular attention to the share

price data, which indicates the success of company growth. This is in contrast to

the efficient market hypothesis, which indicates that only the current market

price of a stock is its specific one. Technical analysis differs as it takes into

account solely the past performance of a stock in predicting the stock price

movement. Considering this fund needs short term growth, technical analysis

will be useful as it will show trends in the equity of the companies being invested

in, therefore helping make a decision of how much to invest in a company.

As a result of using technical analysis, for example using the moving averages

method to derive the average trading price, it appears that Smiths Group Plc's

share price is currently undervalued with the current share price being more

than 5p over the moving average. The simple moving average is only useful to an

extent as it shows equal weighting for each trade. Exponential moving averages

apply more weight and are momentum indicators therefore advantageous when

considering short-term growth. However, as shown below, after calculating the

exponential moving averages, the moving average convergence divergence

suggests that there is a low amount of momentum at the moment.

[Table showing date of stock price (left) and stock price (right), below are

SMA, EMA0 and EMA]

However, despite the lack of momentum, the main driver behind investing in this

stock is the undervalued share price. In recent company news, Smiths Group

have revealed several new technological advances are ready to surface, for

example a new narcotics detection system developed in ten languages which will

aid police and other security groups around the world (source, Bloomberg, 24

March 2014). This proves that this global technology company is expecting

growth in the forthcoming months, even if there has been a slight dip in

performance recently. One final advantage is that it brings slight correlation to

the portfolio with BAE Systems (appendix 5), despite both being heavily involved

in aerospace and defence. This means that if one performs well, the other does

not suffer due to the positive correlation of 0.3 (Smiths Group has outperformed

BAE systems over the past five years). Therefore the verdict for Smiths Group Plc

is to buy 800,000 shares @ 1271p per share, which will have a total cost of

£10,168,000 to the Portfolio; thus leaving a total of 6,645,500 to reinvest.

Finally, again, using technical analysis and looking away from reinvesting in

equity for the Portfolio, the remainder of the money is recommended to be

invested into an infrastructure trust, specifically, John Laing Infrastructure

Limited. The reasons behind the investment are that, again, it has a negative

moving average convergence divergence (information from London Stock

Exchange Website, for up until 31 March 2014) This reiterates the position that

the stock should be bought whilst it is undervalued (Appendix 7 shows screen

shots of charts provided from the LSE website). Additionally to the MACD, the

relative strength index is also a good measure of momentum of a share price; the

relative strength index of John Laing Infrastructure is currently less than fifty.

The fact that this is fairly low suggests an increase in price is expected in the

coming months, which will achieve the growth aim of the Portfolio. Moreover,

the fund has a low value at risk of just 1.2%, a value far lower than the equity

being held in the Portfolio, again showing that loss is unlikely. The total of

£6,645,500 will be invested in buying 5,679,915 shares of the company at a price

of 117.7p per share (digital look, 31 March 2014, accessed 15th May 2014).

Conclusion

Over the past five years the portfolio has totally underperformed the aim of

growth, the absolute returns basis has been a failure as the first year losses were

so heavy, the aggregate return of the portfolio has been negative. However, this

appears to be partly because of the financial crisis, which, as highlighted in sector

2 of the main body, the UK is beginning to emerge from. That could be a reason

why the growth in the fifth year of the stock being held was so phenomenal, yet

changes still had to be made.

Mothercare and Ladbrokes were both risks to the portfolio that were not paying

off, Mothercare has not got a steady level of management and is struggling to

make any profit each year, therefore heavily affecting the portfolio. Ladbrokes

was not performing well, with both the worst CAGR and capital return, albeit

because of a larger inception weighting than Mothercare Plc.

The choice to invest in Smiths group was not just because of the growth it has

had under the past five years with the current stock being undervalued through

technical analysis but the fact it does bring some correlation to the portfolio with

one of its competitors BAE Systems. This brings an advantage to the portfolio as

the aim is growth as a whole, as both stock have large weightings if both were to

grow it would have a huge effect on the portfolio total. As well as correlation, the

portfolio being in a hedge fund meant some diversification was needed, a new

risk to be taken, infrastructure funds have been performing very strongly in the

past five years, and the technical analysis showed that the most undervalued one

so far was John Laing Infrastructure, which is why a heavy investment has been

made into it.

Appendicies

Appendix 1

This compares the share price between Ladbrokes and TUI travel, both in the

Travel and Leisure sector, which itself has shown phenomenal growth. TUI

massively outperforms Ladbrokes in terms of growth especially in the past

twelve months, Ladbrokes share price is in major decline and has been for a year.

(Source Digital Look)

Appendix 2

Comparison of BAE Systems share price to sector and a main competitor in the

sector and FTSE 100. BAE Systems has been massively outperformed by both

raising the question on its potential for growth, despite generating decent

returns through dividends. Only positive is that this graph shows the stability of

BAE’s share price, at least one company will need this in the portfolio to

eliminate losses; BAE suits this as it pays good dividends. (Source Digital Look)

Appendix 3

1 2 3 4 5 6

-3.00%

-2.00%

-1.00%

0.00%

1.00%

2.00%

3.00%

4.00% Portfolio %age Return

Portfolio %age Return

The above graph shows the annual percentage return of the portfolio each year,

thus showing that the portfolio is not meeting the 10% absolute target set and

proving the risks that have been taken are not working.

Appendix 4

The pie chart shows representation of the inception weighting of the portfolio.

1 BAE Systems

2 Ladbrokes

3 Mothercare

4 Rexam

5 Travis Perkins

6 TUI Travel

This pie chart excludes cash because in terms of risk, cash does not have the

same effect as the stock, which have a weighting.

Appendix 5

The above chart shows the trend that both Smiths Group and BAE Systems

follow, showing that there is correlation between the two companies in their

share price movement. This benefits the portfolio because both stock have a

large weighting in the portfolio therefore a rise in both will bring a massive

advantage. (source Digital Look)

Appendix 6

This is a small graph showing the MACD of John Laing Infrastructure Fund

(courtesy of London Stock Exchange website), the blue being in the negative

indicates that the shares should be bought.

The above table shows some basic elements of technical analysis that supported

the decision to invest in the shares of JILF. The VaR being particularly low shows

that adverse movements will be small and loss is unlikely despite the portfolio

being volatile. It still manages to outperform the FTSE250, which is an advantage

despite not being relevant to the portfolio aims.

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Tables and Graphs sourced from:www.digitallook.comwww.trustnet.com