By Jason Lesh, Managing Principal
These are clearly unprecedented times in nearly every respect. During times of massive change and unknown, it’s important to pause and take stock of ourselves and our guiding principles:
Health and safety is paramount for us and our clients. This includes washing our hands, practicing safe distancing, and paying equal attention to our mental health.
Stay calm and think clearly. Be informed & rational: knowledge is power. So is being intellectually honest and confident enough to freely admit what we don’t know so that we can address these areas of need. With these principals as a foundation, we can then make the necessary decisions.
Preserve and grow our client’s assets over the long-term. We make daily decisions with the end in mind.
Be unapologetically value focused. We aren’t in the business of speculation or guessing. Whether it is a bull or bear market, we buy companies with a solid business plan, proven leadership, strong balance sheets, and selling for a reasonable price. In time, the value of such investments is always recognized.
How does that translate to our client portfolios? Accounts are down, but as Nick writes in his commentary, we were quite well prepared. As you know from our countless writings, we were concerned that, barring a correction, future returns would be unacceptable and insufficient for us and our clients.
Pardon the poor metaphor, but in some respects, we feel a bit like Noah. We are neither righteous nor smart enough to have invented wine, but we were fairly well prepared. Cash levels were high, quality, short term bonds were held, and we even owned an alternative investment that would benefit should a black-swan event happen. This current positioning allows us to begin planting the seeds for future returns and we are very comfortable and confident in how we are managing your assets.
But while Noah was prepared for the floods, I doubt he was celebrating – the world was flooding. So, while we are incredibly grateful for all of our good fortune, it is not lost on us that many are less fortunate than us. As we continue to steward our clients’ portfolios, know that we also pray for ALL of those affected by these tragic events.
Please don’t hesitate to reach out to any of us if we may be of assistance. May we use our collective good health and good fortune to help our fellow neighbors, both near and far.
Warmest regards,
The Covid-19 virus has exposed an already fragile US economy. The stock market was one of the most expensive in terms of valuation and is still one of the most indebted. We have detailed this in the past, but the fact remains that many investors and their portfolios have been significantly impacted. I have heard from many clients that we are much better off than many investors. With some of the measures we instituted last year, large portions of the portfolio have done well. In some respects, you might say we were prepared for this. But nothing you can do during good times fully prepares one for crises like volatility.
Over the last year or so we have shared that expected returns over the next 10 years are not great. In order to achieve a reasonable return, we needed a correction and bigger is better. This would allow us to deploy capital at much lower prices and therefore achieve a better return going forward. Now, let us discuss how we invest from here.
When it comes to our investments, it is really difficult to operate under uncertainty and no one, no matter how smart or wise can prove or disprove the best or worst-case scenarios we can imagine. There is a lot of uncertainty in markets right now. In times like this when we are full of emotion around our health, livelihood, and that of our loved ones, our decision making is impacted.
As such, when emotions command greater mindshare, it is important to fall back on data and our preparations. Each crisis, including this one, is never the same. But most crises are very similar when you boil them down and may be more predictable than we think. We have briefly touched on this in the past, but Howard Marks has discussed this cycle in his memos to investors.
Dan Rasmussen and his team from Verdad Capital have written an extensive white paper evaluating the data from stock market returns during the eight crises since 1970. A crisis is defined by the rise in high yield bond spreads greater than 6.5%. In their work, they found that the Fama & French factors are 8x more predictive of returns during crises bear markets than in non-crises bull markets. The value factor which is defined by the cheapest decile of stocks, wins 90.6% of the time!
The cheapest stocks typically have very low expectations for growth built into the price. When it turns out that they are not as bad off as investors thought, they revalue higher. Conversely, the most expensive stocks have high growth expectations and when they disappoint, the stocks are revalued downward. With some great companies entering that cheapest decile, it’s a very good time to be investing. We are uniquely positioned to take advantage of this: we love buying the cheapest stocks, it’s in our DNA.
A couple final points:
We don’t know what the next few months hold for markets and their daily machinations, nor do we know where the bottom in.
We love our existing portfolio.
We will continue working very hard each day to evaluate new opportunities and will continue putting capital to work in cheaper stocks in a very measured and consistent way.
We will continue buying on the way down and on the way up. Our portfolios will be better off for it with a higher expected future return as a result.
We are extremely grateful and humbled by your trust in us and we are in great shape to sow the seeds for future returns.
Warmest regards,
