19 Dec Grinch Go Home!
On October 4th I sent out a note expressing my concerns about the stock market due to the price declines in certain key industries (housing & auto’s) along with the number of stocks trading below their 6 month moving averages. The suggestion was to take legendary investor Howard Marks advice and proceed with caution. Well we did that by increasing our cash position and only adding small increments to some existing holdings. Unfortunately that has not helped much. The stock market has declined 15% since then and small caps, foreign stocks and commodities have fared even worse. Oil has declined roughly 40% during this time!
What the heck is going on? Well, the world is slowing down, tariffs are increasing purchasing costs, the Fed is increasing rates and the public is losing confidence. As you know, the market and stock prices have a tendency to move much more quickly both positively and negatively than the both the actual economy and business itself. The pendulum usually swings too far one way and then back the other. Reality is usually somewhere in between – as it probably is now.
Short term interest rates are now at 2% – up from virtually 0% for the past many years. One of the negative consequences of such low rates has been the borrowing binge corporate America has been on. Much of this low-cost money has gone towards raising dividends and repurchasing expensive shares (most of which are underwater). The problem is debt and interest have to be paid and if the economy slows there is not as much flexibility to grow the business, raise dividends or buyback cheaper shares.
The market price of numerous stocks are now down 30%-50% from their 2018 highs. An overreaction likely due to the previously mentioned fears of higher interest rates, trade wars, slowing economy, downward earnings revisions and plain ole fear. In most cases these prices will recover as each concern eventually resolves itself and managements adjust to the changing landscape. So in the meantime don’t panic! We obviously do not know where this market will bottom but a strategy of holding a reasonable amount in short term bonds (for liquidity, comfort and rebalancing), some gold in case of the unforeseen and chipping away at some oversold shares makes sense.
This is not the first difficult market most of you have experienced nor will it be the last, but in every case the market eventually recovered and went on to new highs. I have no reason to think that this one will be any different – it just takes time.
A few quick comments regarding stocks in the portfolio:
- Berkshire Hathaway ($195 B’shares) is down due to the market decline in its $200 billion dollar stock portfolio and slowing of its economically sensitive businesses. The company has recently bought back shares under $200 and would likely be an aggressive buyer under $175.
- Apple ($154) is down due to concerns over slowing iPhone sales and exposure to China. At 12x earnings and a significant discount to the market the shares are a bargain.
- JP Morgan ($96) Wells Fargo ($46) & Citigroup ($51) have all declined over worries of a slowdown in trading profits and flattening of the interest rate curve. With strong capital cushions, growing dividends, share repurchases and valuations of 10x earnings I believe they are too cheap.
- Facebook ($127) continues to step on its toes but at 17x earnings (ex-cash $14/share) and not a competitor in sight the stock is a worth buying here.
- Exxon ($69) is down near its 2015 lows. Last year the company set a goal of doubling earnings by 2025. With a 4.7% dividend it’s certainly worth the wait.
- Schlumberger ($36) is getting murdered thanks to the plummet in oil prices. The stock is slightly above its 2009 lows which were unimaginable when I first starting buying. At the current price the dividend yield is greater than 5%! Either the company is going to slash its dividend or we’re going to look back and wonder why we didn’t back up the truck. I definitely have concerns about the sustainability of the dividend but the company can adapt to a slowdown in exploration and right size the business. I’m hoping for a recovery on this one but I bought to early.
- Whirlpool ($108) is a company we have previously discussed. I’m staying put because I believe millennials are going to keep the housing market growing and the company will be a beneficiary. If the company can turn Europe and Asia around, with a 4% dividend and trading at less than 10x earnings we should be fine.
- FedEx ($157) Wow! Like Schlumberger I never expected to see the stock at the current price. Just this past June the company increased earnings estimates and the CEO said he has never been more optimistic. Last week they lowered 2019 earnings estimates (Europe and Asia again) and the stock got destroyed. I have full confidence in FedEx and CEO Fred Smith (the founder and largest shareholder). FedEx will continue growing thanks to e-commerce and at 13x depressed earnings it is too cheap. In the last few years the company has acquired over 18% of their outstanding shares at the current price – I’m a buyer also.
I want to thank all of you for the opportunity and responsibility you have given me. I absolutely hate to see your accounts lose value and I will do everything I can to turn this negative year around. As we have discussed, the goal has always been to #1) not lose money and #2) earn a satisfactory rate of return. I expect to have difficult years but I also expect to recover from them. That has not changed. Please call if you have questions and I look forward to working with you in 2019.
I wish you all a Merry Christmas and Happy Holiday,