Friday, January 24, 2014

Steve Romick's Q4 Commentary

Forgive us if we bring you up to date this year, in part, through the lens of the distant past. 
We can’t help but think that the creators of Greek tragedies – those of the ancient variety, not the ongoing, modern ones – would have relished watching the Fed and the stock market the past couple of years and envisioned all kinds of morals to the story. 
For instance, it was another year of single-digit earnings growth but double-digit gains in multiples. What’s more, our oracles – we call them economists now – failed at the beginning of 2013 to accurately predict what would occur for that year: The U.S. economy grew more slowly than expected and S&P 500 earnings were lower than anticipated and yet the stock market rocketed to its best showing since 1997. 
Overseas, things weren’t that different. Our increasingly global view includes the performance of foreign stock markets, which generally didn’t fare quite as well as the U.S., with the exception of Japan. The U.S. stock market’s relatively strong showing speaks to the Federal Reserve’s continued aggressively dovish policy stance and that our economy missed estimates by less than most other developed economies. 
Like those mythological Greek characters, we live in a windy world but we’re in the habit of leaning into it. We tend to buy with the wind in our face, and sell with it at our backs. Right now, there’s more of the latter so, as you’d expect, our equity exposure declined during 2013. The favorable market allowed us to sell sixteen long equity positions during the year, at an average gain of 64% from cost, with just one generating a loss. We initiated nine new positions. The byproduct of this – unfortunate if the market continues to rally – is that our net equity exposure declined to 51.8%, down from 61.3% a year ago. We will let valuation and risk/reward guide our exposure, not the stock market. If the market gives us tomorrow’s prices today and the risk/reward becomes unattractive, then we are unsurprisingly net sellers. 
Things aren’t cheap. Equity values, as a percentage of GDP, are near their peaks. The only time they were higher was at the apex of the dot com bubble. 
And, on a Price/Earnings ratio basis, public securities are far from on sale. 
We see ideas thrown at us every day but, like a baseball batter, we’re particular to the pace, movement, and location before we swing. Right now, we’re seeing too many ideas coming at us with a lot of speed and then curving high and outside – in other words, generally not priced to our satisfaction with some questions as to business quality. While we wait, though, we keep adding companies to our library that, at some point, we expect to check out, update and invest in.