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Week Commencing January 20, 2014

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This week we look at the following topics:1.0 Welcome to a year of opportunity2.0 A$ direction following jobs report3.0 Key takeouts from ECB monthly report4.0 New section: CEO chit-chat (ELX)5.0 Client question – portfolio methodology

Editor’s note: We now have a dedicated campaign page for Invast Insights. Share the link with your friends who aren’t already clients to receive a 4 week free trial of this report. Visit www.invast.com.au/insights

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1.0 Welcome to a year of opportunity

As Invast clients, you will receive the 2014 forecast guide via email. For those who want to directly download it, the link is here. The focus of our forecast guide is around changing you way of thinking this year. We make the point very clear that your way of thinking is what will determine your success. Your way of thinking is similar to the operating system which runs your computer or mobile phone. Every so often it needs to be cleared out, reformatted to ensure your performance runs smoothly. Every so often, your operating system will require you to update your software. Our 2014 forecast guide is the software upgrade we think every trader out there needs, the latest version for trading success. We hope you enjoy it and most importantly, profit from our key trading ideas.

We start this year with something special. Invast’s analyst team has been working hard to bring you our 2014 yearly forecasts while many of you spent the festive season on holiday - either by a tropical poolside resort somewhere or along a beautiful Australian beach. We hope that the content in the forecast guide report helps maintain your holiday mood throughout the year. The forecast is our big picture look at key opportunities. We think the market posses big opportunities for the year, particularly when removing the noise from the daily newsflow or fear mongers among investment banks or brokerage houses. Our views are balanced, we aren’t extreme or naive enough to think that we get the market perfectly right but we like to back your thoughts and opinions with trading calls.

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2.0 A$ direction following jobs report

Jobs numbers came in line below expectations last week in Australia. The unemployment rate is flat but jobs are being lost as we enter 2014. Market expectations were for the unemployment rate to hold steady at 5.8%. Full time jobs shed 22.6k compared to expectations of 10k additions. Clearly, this isn’t a good number. The participation rate has again distorted the numbers and this is likely to reverse in the coming months. If we don’t see an improvement in absolute jobs being added in February, the door is open for a cut by the by in March. Make no doubt about this!

To put things into perspective, Australia’s participation rate is now at 64.7%. The rate was at 65.8% in December 2010. Statistically, this is important. The slowdown in Western Australia and other mining exposed states is profound. Western Australia’s unemployment rate now stands at 4.7% compared to 4% in January 2013. Victoria and New South Wales remain sluggish, not picking up the slack as expected by fuelling building activity.

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So will the RBA cut rates? The only thing to prompt the RBA into another cut in the first half of this year is the outlook for the jobs market. Inflation is clearly on the backburner and while other pieces of data like retail sales, building approval numbers, US tapering and the currency are important, they are insignificant when compared to jobs. We think the greatest risk to the Australian economy this year is the prospect of unemployment breaking out above 6% and sitting there persistently before falling by the end of the year. We still see the AUDUSD with an 8 in front of it (cents) until at least the fourth quarter of this calendar year.

Major support trend line at around 0.8890 but major resistance at around the 0.9020-0.9025 level. Click the video to the left to hear our initial technical levels following the jobs release. The 0.8890 support trend line broke convincingly following the news and looks to now be heading into the mid 0.80’s level range where it will consolidate.

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3.0 Key takeouts from ECB monthly report

The ECB released its monthly report on 16 January 2014, you can click here to read the full text. The statement didn’t contain any real surprises but we wanted to cast our eye over what we think the ECB is most focused on this year. The most obvious theme to emerge is a very strong commitment to low interest rates for a prolonged period of time. Click on the video to the right to get our latest technical levels on the EURUSD.

Europe is not out of the woods by any means and as we have stated previously, it is the one thing that keeps us up at night. The ECB has witness the successful implementation of quantitative easing and loose monetary policy by the US Federal Reserve and it plans to go down the same path, albeit lagging the US by around a year or two.

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For us this means two things:

1) The Europeans want a cheaper currency, they want to manufacture and export their way out of this economic slump and so as the US dollar rebounds for years of suppression, the Euro is likely to see its gains capped in the high 1.30’s range.

2) European indices will start to perform in the same way US indices have over the past eighteen months. As the banking problems phase out, European stock markets like the DAX and CAC will benefit from the ultra lose ECB monetary policy stance. There will be political chest-beating (as usual in Europe) about the appropriateness of such a monetary stance, but since the stock market usually front runs the economy by around six to nine months, companies will start to see a rise in their valuation.

European stock markets are quiet unique in that they are heavily represented by multinational businesses that have operations globally and are likely to benefit from a strong US economy and the flow on effects. The availability of cheap credit is a double benefit for these businesses and this will continue to help stock prices. We remind clients of our earlier reports on the markets like the DAX where we broke down the index and spoke about the key drivers in coming months that would likely impact returns. It’s worth re-reading this section if you have missed it, published in Invast Insights Issue 7. The DAX has rallied by 14% since we published this report just over three months ago.

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4.0 New section: CEO chit-chat (ELX)

One of the key small cap ASX companies we have been keeping our eye on over the holiday period has been Ellex Medical (ELX). We first highlighted the stock in our Invast Insights Issue 1 report on 26 August 2013 and then followed up with a longer note in Issue 13.

In our most recent report, we ended off our analysis by saying “Our bottom line is that we like Ellex and think the turnaround strategy is progressing to plan. The market will start to pay attention when earnings grow and we think this will become more evident early in the New Year. We want to get in before that and think at around 30 cents per share and a market capitlisation of $30m, the risk reward ratio is more than attractive to justify a holding in a well diversified portfolio.

Liquidity is thin with the top 20 shareholders holding around 45% of the stock and directors’ holding 24% - but this also creates opportunities when the market decides it’s time to buy the stock. We plan to speak to CEO Tom Spurling sometime in the next few weeks if we can get a hold of time – he’ll no doubt be busy showing off his company’s products at the 2013 Annual Meeting of the American Academy of Ophthalmology in New Orleans on 16-19 November.”

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We were fortunate enough to speak to CEO Tom Spurling last week, as promised late last year. A lot has happened over the past few months – Ellex has successfully funded a new business in the United States to further expand its product offering while the shareprice has risen to as high as 46 cents in the days leading up to our chat with Tom Spurling. The market is starting to take interest in this story, we asked Tom a whole range of questions. These were generally the key points which came out of the discussion, summarised below:

* Tom believes the SLT range of products puts Ellex in a world leading position. Sales are mainly being driven by a combination of direct salespeople and distributors, depending on the geographic location. Direct sales teams are in place across Germany, Australia and Japan. Expansion directly into the United States is a key priority and expected to yield significant results, as already released to the market. Independent research shows that Ellex has around 16% market share across key products, in second place compared to competitor Lumenis. Private equity owns Lumenis and that business is generating around US$150m in annual revenue (across all products) compared to around $45m for Ellex. The rest of the market is highly fragmented. Ellex is number one in terms of market share in the glaucoma market.

* 2RT technology is perhaps the largest game changing product for the company. The market is different to other medical products whereby new drugs or technology needs to go through a tight regulatory process which can cost huge amounts of money. With the type of technology Ellex is trying to launch, it is common practice to self regulate and convince potential buyers through self funded studies backed by reputable industry professionals. 2RT technology has the potential to significantly change the way eye surgeons manage their patients. Ellex is planning to co-ordinate a 300 patient study which it hopes will help articulate this point with potential clients. An announcement around 2RT should come within the next few months.

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* The average life cycle of these products is somewhere in the order of 10 years. Doctors have the discretion in terms of purchasing new equipment but it wouldn’t be uncommon for the typical Australian eye surgery to have around $100k worth of Ellex products. Estimates will obviously vary depending on size of surgery, the number of doctors using it etc but this is just a rough guide. The main incentive for a doctor to purchase the equipment all comes down to how it will help improve success rates with clients and make the consultation process easier. Price points are similar to those of a brand new car.

* The recent fall in the Australian dollar makes life much easier. We estimate that there could be at least a couple of million dollars benefit to gross margins based on a 10% fall in the Australian dollar relative to the US dollar – the type we have seen over the past year. This is Invast’s own estimate and not something that was explicitly stated by CEO Tom Spurling but our estimates are based on numbers which he analysed on the group’s 2011 financial year results. This is a guide only but obviously a positive for earnings.

* The economic slowdown in Europe is making life harder, distributors are finding it more difficult to source financing and hence the whole supply chain is somewhat complicated, but we didn’t sense this to be a material problem. This was a risk which Tom Spurling pointed out. He also noted the risk of imitations hitting the market, coming from places like Taiwan, but then again this is not unique to Ellex.

* Australian Ethical Fund – which manages around $800m – has recently been buying the stock on market and was a participant in the recent capital raising to help fund the US acquisition. Australian Ethical now owns around 12% of the stock.

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5.0 Client question – portfolio methodology

We recently received a query from a client regarding our model portfolio methodology. We publish and update our portfolios on a monthly basis, the next update will be in the first week of February. Client Jack Alexander from Sydney asks – “I manage my own modest SMSF portfolio & just want to know how you pick stocks in these portfolios. What system of methodology do you use...?”

Dear Jack, thanks for the question. The model portfolios are aimed to give you an idea and framework around managing your investments - they are general in natural and do not take into consideration your personal circumstances so please keep that in mind. The portfolios are not benchmarked to any particular index, they are run with an absolute return basis in mind. They will also evolve to include global foreign exchange and index positions and so picking one stock index to benchmark against is pointless.

Common benchmarking to the ASX200 is pointless since the index is just a measure based on market capitalisation and doesn't really mean much other than a mathematical calculation and most individual investors do not have to be invested 100% of the time, unlike fund managers and so the opportunity cost of investing is being in cash.

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Wealth Preservation - We have made the money and looking at smart ways to invest it. Quality is key, income is important but not as important as certainty. We have some tolerance for the riskier things in life but not too much as retirement is the next phase of our life. Return target between 5-10% pa. Portfolio commenced with $50,000.

Drawdown Phase - We have created our wealth, preserved it well and now need to find ways to generate a reliable income because we are no longer work and need to make sure we have enough money to pay the bills as they fall due. Return target around 5% excluding franking credits pa. Portfolio commenced with $50,000.

So why did we start our portfolios with $50,000 in each? We think this is close to the average amount most people will start off with investing. We hope to grow this to much more over time. If you have more or less than this amount you can just adjust according to your own preferences. The portfolios are not rigid, rather they are just a guide of trading opportunities which we think satisfy each type of investor. They will grow and change over time.

With the derivative exposures in the Wealth Creation Portfolios, we allocate the whole amount of exposure to the size of the portfolio. For example when taking a position in gold, we recognise the face value of the exposure and not just the margin requirement. We feel this is more appropriate so clients know exactly what they are getting themselves into. Some traders may want to adjust for this methodology which is fine.

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Go to www.invast.com.au/insights to get a complimentary 4 week trial and receive the latest insights as they are published to our live clients.

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DisclaimerPlease note that you are receiving this report complimentary from Invast Financial Services Pty Ltd (AFSL 438 283). Invast staff members may from time to time purchase securities which are included in this or future reports. The authors of this report may or may not be holding a position in the securities mentioned. Please note that the information contained in this report and Invast's website is of a general nature only, and does not take into account your personal circumstances, financial situation or needs. You are strongly recommended to seek professional advice before opening an account with us.

General Disclaimer: This newsletter contains confidential information and is intended only for the person who downloaded it. You should not disseminate, distribute or copy this newsletter. Invast does not accept liability for any errors or omissions in the contents of this newsletter which arise as a result of downloading this newsletter. This newsletter is provided for informational purposes and should not be construed as a solicitation or offer to buy or sell any financial product. Invast Financial Services Pty Ltd is regulated by ASIC (AFSL 438 283 | ABN 48 162 400 035).

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Risk Warning: It's important for you to read and consider the relevant Product Disclosure Statement, and any other relevant Invast Financial Services Pty Ltd documents before you decide whether or not to acquire any financial products listed in this email. Our Financial Services Guide contains details of our fees and charges. All these documents are available here on our website, or you can call us on +612 8036 7555. CFDs and Foreign Exchange are leveraged products and carry a high level of risk and you can lose more than your initial deposit so you should ensure CFD and Foreign Exchange trading meets your personal circumstances.

General Advice Warning: Being general advice, this newsletter does not take account of your objectives, financial situation or needs. Before acting on this general advice you should therefore consider the appropriateness of the advice having regard to your situation. We recommend you obtain financial, legal and taxation advice before making any financial investment decision.

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