Y H & C Investments June 2023 Update- Edition 177
Investors flee to safety, meaning the megacaps-
Index April 2023 Return May 2023 Return Year-to Date Return
Dow Jones
32, 908.27 +5.48% -1.51% -.72%
S& P 500
4179.83 +1.46% +2.18% +8.86%
Nasdaq
12, 935.29 .04% +7.57% +23.59%
Russell 2000
1749.65 -1.86% +.60% -.66%
Oil- 72.13
(Brent) -5.30% -.82% -16.07%
Gold-1982.70 -.56% -.52% +8.25%
Silver-
23.64 +4.96% -6.46% -2.34%
10 Yr. Treasuries-
Yield- 3.647% +3.9 bp100BP=1% +30.4 bp -23.3 bp
WSJ/US Dollar Index
96.38% .93% +2.44% +1.52%
Bitcoin
27, 099 +39.32% -6.17% +63.54%
Y H & C GARP Portfolio (Returns not GIPS Certified)
+2.7% -8.4% -6.3%
Y H & C Concentrated GARP Portfolio (Returns not GIPS Certified)
0.0% -17.8% -18.3%
U.S Economic & Financial Markets Outlook-As the Economy Slows, Powell Keeps Tightening So Investors Flee to Safety! (Return figures in this section come from the May 31, 2023, edition of the Wall St. Journal. Y H & C Investments may have positions in companies mentioned in this newsletter. It is the responsibility of each investor to research the investments mentioned so they can decide on the appropriateness and suitability of the investments consistent with their risk tolerance, risk constraints, and return objectives)
In May, the Dow Jones Industrial Average lost 1.51%, the S&P 500 rose 2.18%, and the Nasdaq increased 7.57 %. In the first quarter of 2023, the United States economy produced GDP growth of 1.1%. The figure represented a slowing from fourth quarter 2022 (2.6%), and third quarter of 2022 (3.2%). According to the official numbers, the most interesting tidbit is that consumer spending grew at 3.7%, the fastest rate in two years. Outlays for goods were the reason as they rose at their quickest pace since the second quarter of 2021. What caused GDP to slow materially if consumer spending was elevated? A greater than expected slowdown of business inventory spending, subtracting 2.3% off anticipated growth. Inventory purchases are usually slashed when companies believe a slowdown is imminent.
Much of the fear is related to the change in borrowing costs over the last year. With the yield curve inverted and steepening, short-term money offers higher returns than longer-duration debt. The 10-yr Treasury trades at a yield of 3.81% while the 1-month Treasury bill is at 5.6% (for comparison, the one-year Treasury bill is only 5.267%). Hypothetically, an investor could borrow for ten years, invest the capital for one year, and earn a spread of over one percent. The risk factor is obviously inflation, which remains the priority of the Federal Reserve Board. It is why the current policy is communicated as being committed to fighting inflation. The most recent reading on the big bad i-word came out at an annualized rate of 4.9%. Powell and his Fed heads must see inflation move lower than the 10-year Treasury yield before any relief is given on the interest rate front.
Meanwhile, interest rate-sensitive industries remain under pressure. Housing, real estate, and the automobile sector are all reliant on financing terms for buyers. While the first two areas have been under pressure for the last few years, auto sales saw a strong first quarter of unit volume sales with 2023 numbers projected to improve by over 6% to a seasonally adjusted 15 million units. It highlights the strength in consumer spending.
As for the financial markets, investors were frightened about the debt ceiling negotiations and the continued hawkish policy of our inflation-fighting Fed. Consequently, capital flowed into the perceived safety trade. Investors piled into the highest profile technology names (the usual suspects apply- Apple, MSFT, META, etc.). If one looks at the difference between the valuations of the leading technology firms and the disparity between the rest of the market, it is at an all-time high. It is a sign of an unhealthy market. It means there are plenty of securities that may be mispriced, but this situation has been in place for nearly a decade. You either own the winners or your portfolio performance suffers.
Global Economic & Financial Markets Outlook-Inflation Continues to Pressure Countries Across the Globe as Leaders Target Central Bankers! (All country index data provided by Bloomberg, May 30, 2023,)
It is a consistent and recurring theme of politicians blaming others for their own deficiencies. Why look at your own misguided actions when there is always an obvious scapegoat, especially if it’s a political rival? Across the globe, rising prices have pressured central banks to raise interest rates. Some countries have been more aggressive than others, and irrespective of the rate and pace of the increase, access to credit has been tightening, and will probably continue to do so. As such, different lending conditions will affect growth rates and create a related set of issues for consumers and businesses to navigate. Credit-sensitive industries, including residential and commercial real estate, credit cards and commercial lending, and nearly any industry with leasing and financing arrangements, will probably see lower transaction volumes with persistently high-interest rates.
The inflation issue has a few key factors, including energy, food sourcing, and supply chain availability. The first two areas will probably see little change in the immediate future because of the ongoing Russia- Ukraine conflict. Clearing supply chain bottlenecks and sourcing should improve with weakening consumer demand. Looking ahead, the most high-profile leaders who have targeted their own central banks have been recently elected Lula in Brazil, and the newly reelected strongman of Turkey, Mr. Erdogan. Erdogan has essentially conducted his own central banking policy for a considerable time (he replaced the head of the central bank to put in his own person who would do what he wanted- lower interest rate policy). The dovish monetary policy has resulted in a significant loss of value of the Turkish Lira. Over the last decade, it has lost 90% versus most major currencies. It is a good example of why fighting inflation should not be trusted to politicians. Of course, you could argue that that is all the central bankers are, too.
The Art of Contrarian Thinking-Reading the Racing Form: Making Sure the Horse Knows How to Win the Race! (YH & C Investments may have positions in companies mentioned in this newsletter. It is the responsibility of each investor to research the investments mentioned so they can decide on the appropriateness and suitability of the investments consistent with their risk tolerance, risk constraints, and return objectives)
It bears repeating investing is an exceedingly difficult activity. It is even more challenging from a statistical perspective if you are an active investor (trying to pick individual securities which outperform the market). You know that, though. So, given the challenges, how do we find ways to succeed, or put a different way, give ourselves the best probability of purchasing and owning wealth generating equities?
One strategy is to find and invest with management teams who have a proven long-term record of creating tremendous value for shareholders. Let’s define long term as at least ten years. As an example, imagine there was a CEO named Mr. B (for Billions). Mr. B currently runs a company that is out of favor and minimally valued by the marketplace. It is an industry that is hated, and there is a great deal of uncertainty with competition. Over the last twenty years, Mr. B has made billions of dollars for investors and himself. He started with a relatively small amount of capital, let’s call it twenty million dollars. The total today is in excess of $100 billion, including borrowings. The original twenty tripled in eighteen months in an environment more difficult but similar to the existing one. Mr. B earned about a billion dollars hedging interest rate and currency risk over the last year. Remember, he is not Mr. B because he does not know how to protect the downside. Mr. B’s company currently has billions of dollars of liquidity available in the event the market continues to dislocate. Even better, Mr. B has a division in his company that is poised to benefit if interest rates continue to rise and cause defaults to increase across the lending spectrum. Mr. B is somebody you would strongly consider for investment: a proven wealth creator poised to profit in nearly any economic environment.
Y H & C Investments- May Update
As the summer approached, we spent time learning and improving our knowledge base with a course by Heath Waters of the Waters Institute. It is a comprehensive look at tax efficiency and the tactics and strategies which are effective in managing future obligations related to different classes of income (usually at higher levels). Typically, it is useful in situations where there is meaningful tax liability. If you have a potential tax situation that you might need some different options to consider, please reach out to me at information@y-hc.com.
The other noteworthy event I want to comment on is the recent death of Sam Zell, the legendary CEO of the Equity Office REIT and really the man most instrumental in creating the whole REIT industry. You might consider him the Warren Buffett of real estate (his nickname was the Grave Dancer). My clients benefited from Mr. Zell, and I learned quite a bit from him without knowing him personally. The most pertinent has to do with the laws of supply and demand, and especially the challenge of competition. These are timeless business principles that must be considered when allocating capital to any situation. You might consider his book, Am I Being to Subtle?, it is well worth the time.
Thanks for reading the newsletter this month, and if you think it is worthy, recommending it to a friend or family member would be greatly appreciated.
(Y H & C Investments may have positions in companies mentioned in this newsletter. It is the responsibility of each investor to research the investments mentioned so they can decide on the appropriateness and suitability of the investments consistent with their risk tolerance, risk constraints, and return objectives)