January 2021

The Big Short (Squeeze)

It has been a year now since the first cases of COVID were reported in the UK –a year that has seen an extraordinary range of investor emotions. From denial and panic, as the pandemic raged across the world; followed by relief and optimism, as investors began to look towards a brighter future. The start of the year has seen that excitement expand, most recently with the scenes witnessed in the last week of January, as US retail investors exposed the vulnerabilities of Wall Street hedge funds.

Thanks to the army of day traders, using the social network Reddit to tout and bid up out-of-favour stocks and squeeze short sellers, some of the most unloved names have seen their share prices rocket in recent weeks. Retail investors have been targeting the most beaten down stocks in the market, for which GameStop –a video game and consumer electronics, retailer –has been the poster child (seeing its share price increase by a staggering 1,800% this year). In recent yearsthese stocks have been easy pickings for hedge funds to short (betting that the price will fall), often in sectors that are in structural decline. However, an online coup has been building: the theory being –if enough people were to buy such a stock, that would drive the price up to an extent that hedge funds would be forced to unwind their short positions and buy back the shares, driving the price up further –a self-fulfilling upward spiral. A social network, several hundred thousand members strong, and instant access trading accounts are a potent mix. Like locusts, going from one to the other, the most heavily shorted stocks in the US market are one by one becoming the top performing stocks in 2021. 

Historically, this level of investor excitement has been characterised by a market bubble, and an ensuing ‘pop’. However, looking across sectors and countries, we conclude that there is no generalised bubble yet, and most long-term investors continue to climb a wall of worry rather than deem the market to offer perpetual risk-free return. That is not to say that recent market dynamics are not of cause for concern and certain areas of the market are exhibiting bubble-like characteristics.

What does that mean for long-term investors? Clearly, this sort of opportunism is not our game, nor a strategy over the long-term that is sensible. When this particular hysteriaends, andend it will –driven by regulation (market collusion), restricted trading, or major losses after the party stops –fundamentals will return as the driver of asset prices. What it does remind us of, however, is the fragility of the market at times, and that everything has a price. Regular readers will know that we have gradually been rotating portfolios into more value related investments, that could benefit from a re-opening of the economy but also, crucially, offer just that –value, to investors, relative to pockets of the market that are unequivocally very inflated.

Important Information

Opinions constitute our judgement as of this date and are subject to change without warning Neither CS Managers Ltd, CS Investment Managers nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon any information contained in this document. CS Investment Managers is a trading name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority.

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December 2020

Let’s Get Active

2020 marked a sea change in the merits of an active approach to investment management – as opposed to passive, which dominated much of the last decade. 2010 – 2020 saw a rapid increase in the use of index funds and passive forms of investment management. The macro backdrop was hugely supportive of this, culminating in zero interest rates in much of the developed world; the net result of which was the lifting of most asset prices. COVID has accelerated the end of that cycle, with 2020 seeing a huge variety of returns across regions, sectors and assets –benefitting an active approach to fund management once again.

We start 2021 plunged back into a new wave of the COVID crisis – but with the (realistic) hope that, in a matter of months, the vaccine will pull us out and we will begin to return to a more normal way of life. The market is, of course, looking beyond the next few months and to what lies ahead – as many global markets finished 2020 at all-time highs (led by the US). However, asset prices are (on most metrics) expensive as we enter a new year, with an extraordinary run since the nadir of the crisis last March. Opportunity for returns appears sparse. That said, with the green shoots of recovery comes opportunity and the investment landscape never fails to provide rich hunting grounds for investors prepared to look hard enough – and so we wish to highlight an area of investment opportunity we see faring well in 2021, and beyond: the UK.

Here in the UK, we are at the forefront of vaccine development and roll-out, but also one of the hardest hit countries from the pandemic. At this juncture, our local market looks particularly interesting – the UK market has been unloved for a number of years now, partly due to the cyclical nature of its (FTSE 100) constituents, but also because global investor sentiment to the UK has been cautious (largely due to Brexit uncertainty). 2020 was a particularly poor year for UK equities, relative to global peers, although the fourth quarter of 2020 (triggered by the vaccine announcements) saw that begin to change. We believe the UK market is one of the few fairly priced markets in the developed world, that is likely to fare well on a re-opening of the global economy, as investors rotate away from stay-at-home stocks. Some easing of the Brexit impasse, with a trade deal being reached, and a strong global recovery should make for a rich hunting ground for UK investors.

Finally, we shall be writing more on inflation in the months ahead as we have portfolios positioned for this to increase in the years ahead, through our holdings in precious metals, inflation linked bonds, infrastructure and property assets. 

Important Information

Opinions constitute our judgement as of this date and are subject to change without warning Neither CS Managers Ltd, CS Investment Managers nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon any information contained in this document. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority.

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November 2020

The Great Rotation

 November has been the landmark month in the fight against COVID 19. In quick succession Pfizer, Moderna and AstraZeneca all came out with their version of a vaccine – each trumping the former on the practicalities of distribution (storage temperatures). It was the efficacy number that was the standout figure in the announcements, far exceeding expectations and markets have reacted accordingly. We have seen a significant rotation from stay at home stocks to re-opening stocks.

The US election rallied investor spirits early in the month, cheering a Biden victory. This was tempered by the prospect of a divided Congress (with the Democrats taking the House and the Republicans having control of the Senate). This is not the “blue wave” expected by markets, but good enough –as it means Trump’s corporate tax cuts will stay in place while fiscal stimulus should turn out to be sufficient, rather than excessive. Policymaking should also become less erratic with Biden in the White House, which could reduce the risk premium on equities over time.

Markets didn’t have long to ponder the election, when we had the first release of vaccine results from Pfizer/BioNTech on 9th November. This triggered the start of a significant market rotation from those companies that have fared well during the pandemic (healthcare, technology, etc.) to those that have not (financials, industrials, travel & leisure, etc.). Over the last few years, the market had already been favouring the former (growth style) companies and shunning the latter (value style) companies. COVID extended the divergence to the extreme. The vaccine news triggered an immediate rotation into these deeply unloved and lowly valued sectors. The ensuing follow up vaccine results from Moderna and AstraZeneca compounded this rotation –capping off an exceptional month for value investors. 

Throughout the summer, we have been selectively buying funds that have exposure to these sectors, not with a view to predicting a successful vaccine, rather becoming concerned on valuations of some high-flying technology and related stay at home beneficiaries. Value investing is fraught with traps (those companies that are in structural decline) and therefore care needs to be made in selecting those managers we believe can identify great business at good discounts to fundamentals, where we believe the next few years could yield strong returns.

Important Information

Opinions constitute our judgement as of this date and are subject to change without warning Neither CS Managers Ltd, CS Investment Managers nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon any information contained in this document. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority.

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October 2020

US Elections and Markets: Vaccine Boost 

The US election took place last week and the outcome was a clear victory for Joe Biden. President-elect Biden flipped the key states of Michigan, Wisconsin and Pennsylvania, giving him more than the 270 electoral votes needed to win the White House. Additionally, while it may take time to roll out, the recent positive US vaccine trial news looks to be very promising, with Pfizer finding a 90% efficacy rate in its latest trial.

The added complication, if the Democrats fail to take control of the Senate, has significant implications for US government policy going forward. Two Senate seats in Georgia are headed for a January run off election, giving Democrats a narrow path to winning both and yielding a 50-50 Senate, with the vice president as the tie breaker. A divided government (with Republicans retaining their control of the Senate) could see greater regulation for many sectors (such as the big technology companies), but big-ticket legislative action (including large-scale fiscal stimulus and public investment, tax, healthcare and climate related legislation), would likely face significant hurdles.

Some additional fiscal relief in the near term looks possible, but we see the size and scope of fiscal stimulus and public investment as more modest than a united Democratic government (i.e. control of both the House and the Senate) would likely deliver. Fiscal stimulus will be present in some shape or form however to aid the recovery from the Coronavirus pandemic, so we still expect government yields to slowly move up over the next few years, along with inflation expectations.

A Biden win likely signifies a return to more predictable trade and foreign policy. We believe emerging market assets should perform well on improved trade sentiment, especially in Asia. While we don’t believe this to be the end of the US-China rivalry, we do expect a softer tone to be used by the US government going forward, which will likely benefit these markets. In addition, many Asian countries have managed to contain the virus and are ahead in the economic restart.

As long-term investors, we shall take time to consider the Biden presidency and shape our portfolios to reflect the evolving world. This is likely to mean a blend of those progressive, innovative businesses that are part of the new world, balanced with this companies that will restructure, evolve and continue to be good businesses, but where the market has already thrown in the towel. 

Important Information

Opinions constitute our judgement as of this date and are subject to change without warning Neither CS Managers Ltd, CS Investment Managers nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon any information contained in this document. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority.

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September 2020

Back to Work Stocks

 As the third quarter of 2020 draws to a close, we are faced with the daunting prospect of a COVID winter as government measures become more restrictive once again in combatting the virus. For markets, however, it is already the Spring as they tend to look through short term issues and into the future. In March this year, we were nearing the lowest point in the crisis and equity markets were rightly predicting one of the sharpest and most severe recessions in history. The nature of the recession hit certain sectors more than others and, as we emerge, it is clear that a rising tide is not lifting all boats. This month we look at those areas of the markets that have fared well, to those that have done poorly –in considering what next for markets. 

Technology is the well documented winner of the COVID crisis. The forced lockdown, followed by tight restrictions globally, has required us all to change the way we live, work, shop and communicate –and the digital world has been our gateway. The NASDAQ (US benchmark technology index) has hit new all-time highs almost on a weekly basis over the summer, but does that mean it will lead going forward? We don’t think so. A large part of the increase in the prices of these stocks has been on valuation uplift alone –meaning that whilst many stocks in the sector have seen earnings pick up, not nearly enough to justify such staggeringly high prices. Gravity always catches up –either these technology businesses need to really deliver (on earnings), or these elevated shares prices will mean revert (downwards). 

Whilst we are sure that the world will not return to the way it was pre-COVID, technology is not the only beneficiary. The UK Government and others around the world are using the next wave of support to tackle the climate emergency and other key future trends, rather than keep failed companies on life-support –focusing help on those industries and sectors that are not only survivors but “thrivers”in the new world. Investors may be underestimating the power of human ingenuity. It is not the job of a handful of technology stocks to pick us up and dust us down –there are many great businesses in the pack that will emerge as those set to thrive next year and beyond. So, we are looking at those regions and sectors that we feel are best placed to fare well as we move into 2021 and beyond, where we do not believe share prices are excessive and opportunities lie. We are minded to avoid significant exposure to deep value areas of the energy market and those that are simply in structural decline, focusing on those cyclical opportunities that we believe will emerge stronger.

Important Information

Opinions constitute our judgement as of this date and are subject to change without warning Neither CS Managers Ltd, CS Investment Managers nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon any information contained in this document. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority.

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August 2020

A New Paradigm

Over the last century, each decade has been synonymous with an environment that has typified that period – a paradigm. From the great depression of the 1930’s, to the war time period of the 40’s. The 70’s saw high inflation and low growth, whereas the 80’s were the reverse of that. Markets adjust to these environments accordingly. The most recent decade has been typified by quantitative easing, lifting most assets. And it is this very act that is likely to have a significant bearing on this decade – effectively lowering the expected return for traditional asset classes. Investors therefore need to look elsewhere for returns and that is a core reason we see a renaissance in the value of active management.

The developed world finds itself almost entirely at record low (in some cases negative) interest rates, thanks to the aggressive policy action by central banks over the last decade and more recently as a result of COVID-19. This has had a knock-on effect of boosting asset prices, even though the underlying economic environment remains challenging at best.

We strongly believe that the traditional asset allocation structure, whilst still forming an important element of portfolios, will not be the one best placed to weather the next ten years. Take UK Government bonds for example – the yield at the end of August of the UK 10-year government bond was close to 0.3%. This means that investors buying these assets (formerly a popular way of providing some protection in portfolios) will receive a paltry total return of just over 3% over a decade. Take into account inflation and investors are guaranteeing a real loss on their money, if held until maturity. A passive approach is committed to buying such assets, whereas as active managers, we have the ability to select other assets, where returns can be more attractive, and it does not necessarily need to be at the cost of greater risk. Portfolio balance can be achieved by blending assets that compliment one another in varying environments – gold is a classic example of an equity compliment. Whilst gold and equities are volatile assets, their drivers are often different – gold will tend to fare well in a risk off environment, whilst stocks will struggle – however collectively, we believe that both assets will deliver solid returns over the long-term.

Other assets considered are that of absolute return funds – these collective investments are well diversified and have the potential to do well in varying market conditions. The severe falls in stocks in March this year was a true test for such strategies and winners have emerged. We favour those absolute return funds that we believe will deliver solid long-term returns, but with low correlation to equity and bond markets.

Important Information

Opinions constitute our judgement as of this date and are subject to change without warning Neither CS Managers Ltd, CS Investment Managers nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon any information contained in this document. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority.

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July 2020

Gold

Gold prices closed in on $2,000 at the end of July, marking the highest point for the yellow metal in history. Regular readers will know that gold has been a core element in our portfolios for some time. Since the end of 2018, the backdrop has been very supportive for gold, and events of 2020 have only reinforced our view on the precious metal. This year has been the perfect storm to push gold prices up to new highs and many of the reasons for favouring the asset previously still hold true. In particular, it provides protection against a growth shock and against an inflation spike. It also usually performs well in times of dollar weakness, growth of money supply, persistently low rates and assists with portfolio diversification.

One of the main drivers for gold has been falling real yields – that is, the US Treasury yield minus the rate of inflation. Rising interest rate environments often have a dual negative effect of increasing the opportunity cost of holding gold as well as curbing inflation. So, when the inverse of this happens and real yields fall, gold tends to fare well. And that has indeed been evident this year, as US interest rates have fallen sharply.

Gold is not the only precious metal investors are paying close attention to. Silver has started to perform well in recent months too, now outperforming gold. Silver shares a number of the same characteristics as gold, and can perform well in many similar scenarios. However, silver is more cyclical than gold due to its industrial applications.

Investors wishing to access precious metals can do so through two main routes – physical replication or through shares in precious metal related companies. We aim to give clients the opportunity for exposure to both of these. Investing in precious metal producing companies is widely regarded as a leveraged way of maximising returns – when prices go up, investors expect related companies to fair much better, and vice versa. Cost of production is ever changing, but most large companies are sustainable above $1,000 gold. As prices move significantly higher, margins can improve dramatically. During times of severe market stress, it is possible that gold companies and the underlying commodity can lose their correlation due to company specific matters and investor concerns over equities generally. We saw this at the peak of the crisis in March this year. The rational reasons for owning gold are becoming ever more apparent to investors. We do not believe that prices are yet at extreme levels nor are investors exhibiting the sort of euphoric signs that often signal a topping point for an asset. We continue, therefore, to see gold as a core element in portfolios.

Important Information

Opinions constitute our judgement as of this date and are subject to change without warning Neither CS Managers Ltd, CS Investment Managers nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon any information contained in this document. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority.

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June 2020

Alternative Protection

In addition to pure equity investment, we also look for a blend of assets – covering equities, bonds and alternative investments. This has the dual objective of achieving a return at the same time as dampening the   high levels of volatility associated with investing solely in stocks. The non-equity portion of a portfolio has in recent years followed a particular trend of falling interest rates. This has seen lower income returns which have been more than offset by capital appreciation. Now,  however, investors buying Sovereign bonds are being locked into flat or negative real returns (if held to maturity), and so this month we are looking at alternative approaches to protecting portfolios in what is still undoubtedly a deeply challenging economic backdrop.

The UK 10-Year Gilt (government bond) yield was 0.16% at the end of June. If held until maturity, investors can expect a total return of just under 2% over 10-years. Given the Bank of England’s inflation target, the real return is likely to be negative after only one year. It does raise the question as to why investors would settle for these returns. In our view, there is still some merit in holding government bonds in a portfolio – but for short periods  of time on a tactical basis – when equity markets are volatile.

We are constantly exploring and investing in alternative options that we hope will help provide  the diversification and return profile that a traditional defensive area, such as Sovereign bonds, once gave. In our portfolio construction we would expect to include in the asset mix inflation-linked bonds as an alternative to the conventional bonds discussed above, with added protection should inflation trends accelerate . Gold is another useful asset that we have talked about in recent months. Absolute return funds – that look to derive returns from the market in various ways – can often be a useful tool in portfolios but require monitoring. They may perform well during periods of market stress and be steady in fair-weather conditions. Overall, with the International Monetary Fund continuing to lower its economic forecast for the year, we intend to continue our cautious portfolio positioning over the summer employing some of the strategies described above.

Important Information

Opinions constitute our judgement as of this date and are subject to change without warning Neither CS Managers Ltd, CS Investment Managers nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon any information contained in this document. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority.

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May 2020

As May has come to a close, it has seen widespread easing of lockdown measures around the world. It is yet too early to gauge how the virus will react to such measures and to what extent a second spike will emerge. It is likely that waves of new infections will occur, but the hope is that they will be localised and more easily contained, given experiences of the last few months. The world appears to have moved from uncertainty and despair of the situation to a phase of learning to live with it – at least until more effective treatment is developed, and a vaccine is ultimately found. Markets have responded accordingly, with the wild swings of March and April, calming in May.

We have been spending time assessing the nature of this crisis, relative to others. The financial crisis in 2008 could be considered a systemic shock – which changes the whole level of the stock market. Everyone gets poorer and it is bad for us all. The other type of shock is idiosyncratic, where the effects vary across different sectors, different parts of the economy and across the world – and investors have to decide who are the long-term winners and who are the losers. It is this (systemic) type of shock Central Banks are desperate to avoid. We have seen from the policy response to COVID-19, that huge attempts are being made to stop this idiosyncratic shock becoming systemic.

The rise in the value of risk assets (equities) since the market bottom in March, has been led by those companies best placed to either capitalise or weather the effects of COVID-19. These have been sectors such as technology, consumer staples and utilities. That still leaves a big part of the market relatively close to the lows of March. As (bad) luck would have it, it is those sectors that have not fared well in the years prior to the pandemic that have been hurt the hardest – financials, energy and industrials to name a few. These sectors have been firmly in the value camp for a number of years now, with valuation dispersion (relative to quality/growth business) now at historically divergent levels. Favouring ‘value’ stocks (which offer a useful level of income and an underpinning of asset value) over ‘growth’ stocks, has been a winning approach over the very long-term, but this has not rewarded investors over the past decade. Whilst a number of businesses in these sectors are in poor condition, there are pockets of real opportunity emerging – and it is these areas that we are assessing, with a view to a partial allocation of capital in favoured managers best place to exploit such opportunities over the medium-to-long term.

Important Information

Opinions constitute our judgement as of this date and are subject to change without warning Neither CS Managers Ltd, CS Investment Managers nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon any information contained in this document. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority.

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March 2020 Update

Coronavirus and its Consequences

We would like to wish all our clients and professional colleagues as smooth a passage as possible through this period of uncertainty. Markets hate factors they cannot fathom and, as the emerging advice indicates that this current virus will be more damaging and likely longer lasting than in its source in China, the economic consequences have clearly become greater. The greatest source of concern is the threat to human life and there has probably been no such direct threat to us as individuals, on a random basis since WW2, from an external event. 

With the global economy slowing before the outbreak and the room for further stimulus restricted by very low global interest rates, this external shock has been the catalyst for a major reappraisal of relative value. This is where we are concentrating our efforts at present. Many of our clients who have flexible mandates will have noticed us beginning our supertanker turn. Factors like Capital Gains Tax, income requirements and specialist asset classes, such as the AIM market, restrict scope to varying degrees. However, we note that periods of great volatility often herald significant change in preferences in asset selection. A good example would be the bursting of the tech bubble in 2000, as commodity assets had become much better value. 

We are now in a position where there has been so much quantitative easing that further money printing and interest rate cuts don’t seem likely to galvanise economic production. Good companies that can avoid recession offering yields of 5% look attractive compared to bonds, and may attract funds for expansion. Gold usually thrives in times of negative real interest rates. Gold shares normally outperform a rising metal price and this may well occur again when margin selling abates. 

Geographically, China and its neighbours seem to have coped well with the Coronavirus. In addition, Japan and China are light on oil resources and the fall in this commodity is a huge stimulus to their economies. Ironically, a recovering Chinese manufacturing base is now selling face masks to a once scornful US. On the other side of the commodity equation, investment in long duration mining cycles has fallen and capacity constraints suggest rising prices. These trends suggest Asian economies will prosper, and at the same time this activity will put pressure on bond prices and trigger a rise in inflation. Index linked bonds could now look much more attractive than the sometimes negative real rates on offer on many Sovereign bonds. 

Our preferences will become more certain as this crisis evolves and eventually fades. In the meantime, please rest assured that we will look to balance the need to preserve value, where we can, while seeking new areas of potential profitability. This may involve a fair deal of portfolio adjustment, which may result in less timely day to day dealing notices, but a greater attempt at helpful commentary as changes occur.  

Important Information

Opinions constitute our judgement as of this date and are subject to change without warning Neither CS Managers Ltd, CS Investment Managers nor any connected company accepts responsibility for any direct or indirect or consequential loss suffered by you or any other person as a result of your acting, or deciding not to act, in reliance upon any information contained in this document. CS Investment Managers is a trade name of CS Managers Ltd, 43 Charlotte Square, Edinburgh EH2 4HQ. CS Managers Ltd is authorised and regulated by the Financial Conduct Authority.

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