QUALIPORT
Lessons From A Falling Market

By Maynard Paton (TMFMayn)
July 18, 2002

It's been a tough couple of years for the Qualiport. During 2000, the portfolio fell 17%. Last year, it fell a further 3%. So far in 2002, the Qualiport's down another 14%. Here are four lessons the portfolio has learnt from the bear market.

1. Patience is required

If the stock market's recent performance teaches you anything, it's "don't rush with your share picks".

When the FTSE 100 dipped below 4,000 the other day, it touched levels first seen in October 1996. Over the past year or so, those investors patient enough to wait for the right companies at the right price have been rewarded.

Take Vodafone (LSE: VOD). The Qualiport first mentioned the telecom firm back in November 1998. At the time, the shares cost 167p and were rated on a racy forward price to earnings (P/E) ratio of 49. Today the shares are worth about 100p.

Although the Qualiport never bought Vodafone, it did pay the price with Unilever (LSE: ULVR). Buying at 672p -- and a P/E of 25 -- during July 1998 always looked an optimistic investment for a company growing at a snail's pace. The shares are now 541p.

Both Vodafone and Unilever are good, solid companies. However, to ensure your portfolio gets the best out of them, patience is required. In short, only invest when the company's price (i.e. valuation) is in your favour. You can now pick up Vodafone and Unilever at P/Es 50% lower than those seen in 1998.

2. Shares can go much lower than you think

How many times did you ask yourself "just how far will these tech shares rise?" during the TMT boom? Back then, dotcom punters were buying for fear of missing out on further gains to come.

At the moment, the situation has reversed. Just how far will my shares fall? Nobody wants to invest at the moment for fear of further falls to come.

For instance, look at Qualiport share Lloyds TSB (LSE: LLOY). Its watch list 'buy price' of 674p equates to a prospective dividend yield of 5.5%. With that yield notably higher than the returns available on gilts, it's an attractive price for a long-term investor.

However, earlier this week, Lloyds TSB shares closed at 530p. That price offered a prospective dividend yield of 6.9% -- a kick-arse blue chip bargain if ever there was one. Who'd envisaged Lloyds TSB shares getting that cheap? Nobody knows how depressed the last seller of stock will be.

(Of course, there is a danger of getting too bearish with your valuation measures. If you're waiting for blue chip dividend yields to fall to 10% before piling in, then you'll probably join those top-of-the-market bulls still yearning for Geo Interactive (now Emblaze (LSE: BLZ)) to hit £100 per share.)

3. Keep to your strategy

"These companies are loss makers. They do not, therefore, pass the Qualiport criteria. They are out, out, out of contention" -- Bruce Jackson, January 1999.

The companies out, out, out of contention were Colt Telecom (LSE: CTM) and Energis (LSE: EGS).

The Qualiport aims to buy companies with long, proven and profitable track records. That excludes profitless, debt-heavy firms so prevalent in the telecom sector. However, a few years ago, it was all too easy to get side tracked into such 'growth' industries and their fledgling operators.

For a time at least, rejecting Energis (at 269p) and Colt (at 2,025p) looked rather silly -- the Qualiport could have doubled its money on both. However, economic downturns always bring with them the harsh reality of business. Energis has gone bust; Colt shares are now 42p.

Regardless of what the market is doing, long-term investors should keep to a familiar and comfortable investment philosophy. Suddenly adopting a different strategy because of rapidly rising share prices elsewhere probably means you'll be late to the party and won't recognise when it's time to leave.

4. Individual shares can do well in a falling market

Hand picked portfolios should (in theory!) be able to hold their own in a falling market.

For instance, even though the FTSE 100 has dived 40%, Qualiport watch list shares Imperial Tobacco (LSE: IMT), Gallaher (LSE: GLH) and Allied Domecq (LSE: ALLD) have all risen since January 1st 2000. Even Marks & Spencer (LSE: MKS) -- with all of its troubles -- has made headway over that time.

One of the most significant Qualiport investments was the October 1999 purchase of Emap (LSE: EMA). At 787.5p, the shares were valued on an earnings yield of over 6.5% (i.e. a P/E of about 15). A lot has happened to Emap during the intervening years, including a change in leadership, the unravelling of its US acquisition and a slump in advertising. However, with the shares currently at 741p (down 6% on the buy price), the investment has soundly outperformed the FTSE 100 (down 30% from 6,059) since its purchase.

What does this suggest? Buying great companies at reasonable valuations and holding for the long-term can protect you from any stock market turmoil.