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Patience is in short supply among today’s investors. Technology has accelerated most everything along with our attention spans. Large groups of investors now want almost immediate gratification. Some even use social media to guide them in gaming the latest hot target. Hedge funds are notoriously short-term oriented. Then there are high frequency traders that use computer algorithms to spot immediate buying or selling pressure and then jump ahead of it, profiting in small increments over microseconds.
Even private equity investors have developed a shorter and shorter focus. Originally, the expressed advantage of private investment was the ability to ignore the quarter-to-quarter management performance pressures to pursue better business strategies. However, increasingly investments are not even considered unless the payback horizon is relatively short.
Venture capitalists also are looking for quick hits. What concept can be accelerated, and then sold to the public or someone else quickly? Sometimes the concept has not even proved to be successful before this happens; pre- earnings or even pre-revenues is the jargon used to describe these situations. These, of course, are utter gambles. Venture wants to let someone else carry the longer-term risk; beware!
There are some investors still interested in long-term success. Remember, transactions have tax implications for many. Giving away a piece of each profit, but eating the losses is like betting against the house at a casino.
Yes, losses can be used to offset profits, but how do you get ahead if that is all you do. The best profits are the accumulation of gains without a taxable transaction, profits compound. There is nothing like compounding to produce real wealth.
There are many studies on the success rate of investment trading. Real success is rare, and losses are most common. At Riverplace Capital, we have patience. We want to have time on our side. Trying to second guess short-term trends, sector rotations, or macro events is a fool’s quest. We analyze companies, their prospects, and the environment they operate in to give us an edge. This is what has proven to be successful for many famous investors. We intend the same for our clients, Talk with Us.
Eventful, to say the least; a mob invasion of our Capitol, an inauguration of a new presidential administration, a ramp-up of Covid-19 immunizations, and accelerated economic reopening in some states among the most important. It will be interesting to see what comes next!
Despite interesting times, the stock market did amazingly well the first quarter. However, the character of the advance changed. It went from a fixation with growth to one of focusing on those companies that would benefit from a reopening of our economy. This was a radical shift. To a large degree, last year’s losers became this year’s winners and vice versa.
As economic optimism returned, interest rates began to climb. In very short order, the 10-year treasury bond rate went from under 1% to over 1.7%. This is a very big percentage change and alarmed equity investors. The underlying worry is that inflation may be accelerating, forcing ever higher interest rates. Higher rates pose increasing competition for investment dollars as well as reducing the multiple investors are willing to pay for earnings. Markets became volatile, not understanding how to assess the near future.
Covid-19 is receding into the background as a source of concern. Investors now believe we will be successful in subduing this threat. States are already reopening, some in stages and a few others completely. Investors expect that by mid-summer our lives will approach pre-pandemic conditions.
Bonds are now clearly in a bear market. After a 40-year bull market (a period of declining interest rates) the trend will now be for rising rates. Trends in fixed income securities are long-lived, decades as shown by past experience. There may be plenty of back and forth, but the underlying trend will be unmistakable.
How Riverplace Capital assesses these trends and how they help formulate our investment approach is described in the Forecast and Investment Strategy sections of this newsletter.
The economy is recovering, growing at perhaps a 7% rate. Many sectors are already in boom conditions. Some industrial companies are straining to keep up with demand. Certain materials are also now in short supply. At the same time, some sectors that require proximity of patrons like hospitality, restaurants, public transportation. and entertainment venues are now just beginning their recoveries. This is where the incremental growth in the economy will come from.
By mid-summer, most economists believe the hardest hit sectors will be much improved. All this is predicated on the assumption that our successful vaccine rollout continues and that it is not derailed by a new variant.
Money is the fuel for higher equity prices. Aggressive fiscal stimulus ($5 trillion dollars and counting) combined with very accommodative monetary policy (low interest rates) have been very good for stocks. This will not change anytime soon, so expect higher stock prices. No trend is a perfectly straight line. In fact, we may be in a period of consolidating the recent rise before investors gain confidence to add to their holdings. The eventual favorable outcome is, however, not much in doubt.
During the midst of the pandemic, it was the growth companies that benefited from the new work processes, shopping trends, and other ways of doing business that led the market averages. Then with an end in sight, leadership shifted to firms that would quickly recover once things began to normalize.
Now, markets are more mixed as investors sort out where there is further opportunity. Riverplace Capital believes there will be specific cases that do not fit into one category or another. However, opportunities abound. Stock picking will be key!
Interest rates will work irregularly higher. They may pause for a while, but there is no mistaking a rising rate trend. Rate trends are very long lived, so no need to try to predict a reversal. In fact, trends have lasted decades, not years.
The Federal Reserve will keep short-term rates down for quite some time yet, however, they have much less control over interest rates for longer dated instruments. Rates for these are climbing.
During the period of very low interest rates, some investors chased higher yields in lower quality instruments. Even junk rated bonds were accumulated bringing their rates closer and closer to high quality instruments such as U.S. Treasuries. Now that rates are climbing, the spread in rates from low high quality to low quality is increasing again. Since the price of fixed income goes down as rates rise, low quality bonds are losing value faster. Over time, expect more of the same.
Last fall, Riverplace Capital began reducing our normal bias toward growth companies by including more value names. We incrementally continued that during the first quarter. Portfolios now have a better balance between growth and value, but our bias is still toward growth. (After all, we are investing to grow portfolios over many years.) We expect little change from here although individual situations are constantly being monitored. Holdings are replaced for numerous reasons, among them, poor management performance, a marked change in business outlook, or when a much better opportunity presents itself.
Riverplace Capital has had little reason
to invest in longer dated fixed income securities. We always knew that rates, at some point soon, would be rising. That day has now come, and our bond portfolio maturities are quite short. We will maintain that posture as rates continue to rise. We buy fixed income securities that we intend to hold until maturity. Small fluctuations in value, in the meantime, are of no consequence.
Having maintained a balance among various investment categories, our asset allocation strategy is now benefiting from a broadening of performance. For most of last year, performance was centered on large-cap growth companies. Now many other categories have also been performing well. We anticipate little change in this strategy for the time being. We are pleased with the performance so far this year.
as of 9/30/2019
|Large Cap Stocks (S&P 500)||5.8%|
|Dow Jones Industrial Average||7.8%|
|Mid Cap Stocks (S&P 400)||13.1%|
|Small Cap Stocks (Russell 2000)||12.4%|
|Barclay Aggregated Credit Index||-4.58%|
“We don’t have to be smarter than the rest. We have to be more disciplined than the rest.”
— Warren Buffett