The following are quarterly investment letters sent to all clients, highlighting our macro outlook, investment strategies, and security holdings.
These investment letters are provided for reference purposes only and are not intended to provide any form of advice. The information contained therein is not a substitute for investment advice from qualified financial or investment advisors and should be verified with your financial and/or investment advisors prior to being relied upon by you.
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THE PLAIN FACTS (January 23, 2012) (View Summary)
Value investing, over a longer period, does work and we cannot emphasize enough how attractively cheap and prospective our portfolios are now, with a significant margin of safety from stocks trading far below their intrinsic values. Value investors are invariably contrarian. The value propositions are obviously most frequently in the least popular groups and names. We don’t buy indexes—they are likely not the best valuations. We seek to capitalize on market inefficiencies. To pay more attention to price and long-term value rather than short-term volatility. This is a time of unprecedented opportunity. It is all logical. And logic, and value, will out. That’s the plain fact.
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HOW TO SUCCEED AT AUCTIONS (October 21, 2011) (View Summary)
The public markets, worldwide, are the ultimate auction houses. Bids and asks, computerized, for instantaneous offerings of corporate equities, corporate and public debt and for many commodities. The mood and magnitude of the buyers and their wealth play a role in pricing as does the mood of the sellers and the magnitude of the offerings. Clearly, today’s fearful mood is creating an unsuccessful auction for stocks—bargains for buyers. As an asset class, equities are being valued near where they were at the March '09 bottom, notwithstanding the economic and corporate progress since then and the resultant lower economic and corporate risk. Valuations are 25% below their five-decade average and our appraisal of fair value. Although analysts are now downgrading their estimates for 12-month forward earnings based upon a top-down forecast for a slowing economy, in our view, the negatives have been discounted in the market.
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MATTER OVER MIND (July 14, 2011) (View Summary)
In our view the current investor mindset does not correspond with what should really matter to an investor. A mindset of fear and fear. We all know the mind can play tricks. But when perceived risk is so great it is typically reflected more than warranted in depressed share prices. It’s in the market. The news doesn’t have to be good, just not as bad as everyone believes. We think now is an extraordinarily good time to invest. The large-cap indexes are undervalued. Stocks today are, by far, the preferred asset class compared to bonds and cash. With earnings right back to their long-term trend line and at all-time highs, the S&P 500 is selling at a 15% discount to our Fair Market Value. Our TRAC™ and TRIM™ work are positive—a number of markets and sectors appear to have inflected up from key support levels. And, most important, risk-reward parameters for our individual holdings are so highly favourable.
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WARM MILK AND SWEET DREAMS (April 27, 2011) (View Summary)
You can occasionally make an outsized return by taking on high risk, but you can also suffer permanent losses. However, with securities, if you do enough basic research, and uncover situations possessing the desired optimal metrics, you can have the best of both worlds—lower risk and higher reward. As investment managers, our job is to turn over rocks, to sift through investment ideas until we find ones where risk of permanent loss is low (below average operational, financial and valuation risks)—where the stock is 'on sale,' a genuine bargain. Markets are frequently not rational, and, more so, individual stocks are often mispriced irrationally—unwanted from being misunderstood, unjustifiably shunned or just unknown. In our lingo it’s called 'inefficient.' It’s what you pay us to look for—to find undervalued, inefficiently mispriced investments. Low enough to minimize the risk and low enough to enjoy an enhanced reward.
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RIGHT BRAINS AND THE DISMAL SCIENCE (February 23, 2011) (View Summary)
As value investors we often need to be contrarian and always be skeptical. Both attitudes stem from the right brain, from intuition, because everyone can do the obvious left brain sums. So we're skeptical of the bearish outlook and intuitively believe growth will continue and markets will rise. Money will go where it's treated the best, and stocks are in the sweet spot compared to bonds and cash. A little more inflation will be the icing on the cake. We think in a couple of years we'll look back at today's sweet spot for stocks as having been a time of exceptional opportunity-no matter the current negativism of those bleak, dismal scientists.
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SHORT SKIRTS AND SECOND SHOES (November 26, 2010) (View Summary)
We are in an honest-to-goodness bull market which began at the Panic bottom in March '09 and we believe there is much more upside ahead. Tops are made in euphoria-as when the Fed decides to remove the punchbowl from the party-to tighten money and raise interest rates. With the evident despondency today the Fed continues to bring on the punch-more liquidity, to keep interest rates low and make credit readily available-for consumer spending, for government borrowings and for stocks. We'll be swimming in punch. At this moment, where many investors fear stocks, the relative opportunity to get significant free-cash yields from stocks compared to alternative investments is obvious. The advantage of stocks over other asset classes is particularly acute today.
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RISK VS. RISK (August 23, 2010) (View Summary)
A classic definition of investment risk is not just return on capital but return of capital, and clearly government bonds will return your capital on maturity. But, from current insignificant after-tax, inflation-adjusted returns, we submit that long-term government bonds could be classed as speculations not investments, no matter received wisdom. And, especially with the risk of even higher inflation, threatened by potential monetary accommodation as contemplated in the recent Fed minutes. And really especially, compared to the alternative in the excellent values currently afforded in equities, even blue-chip, safe dependable equities—almost all with earnings yields substantially higher than government bond yields, many with regular dividend yields higher than bond yields, and the potential for meaningful capital gains. Over the medium term, stocks are the place to be, the safest place, risk vs. risk, all things considered, and with the best potential, risk vs. reward.
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SEE THE TREES (June 4, 2010) (View Summary)
Investors are currently more focused on the top down factors—the “forest”—than the merits of individual stocks on a bottom-up basis—the “trees”. Different “experts” have extremely bifurcated opinions about the future of the economy, and therefore, the markets. But as the saying goes, there is a stock market and a market for stocks. The forest and the trees. Now is the time to focus on the latter. We believe that equity markets are healthier than the economy and that, as an asset class, equities are cheap and should be the most preferred. This is a time of unusual opportunity—a very good time to invest in very good cheap stocks.
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THE NEW NORMAL - IT'S THE OLD NORMAL (February 22, 2010) (View Summary)
We continue to read opinions of some economists and strategists that we should not expect a normal recovery. That we are entering a different kind of period. A new normal. We are not economists. Our task is merely to buy good, undervalued businesses and wait for them to be revalued to their normal Fair Market Values. And, importantly, we believe that the market is significantly undervalued, with earnings continuing to surprise on the upside as will the stock market. We believe that U.S. GDP growth will pale in comparison to corporate earnings growth from the favourable backdrop for individual companies and from the anticipated continuing growth globally. What investors need to realize is that all of the financial stimulus should have a much more material impact on stocks than on GDP. Markets that decline abnormally typically have above-normal recoveries.
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WORTH THE WAIT (October 30, 2009) (View Summary)
Value investing is usually about waiting—often for an unwarranted and trying period. For us, good values are the imperative. Value investors trade off risk for patience, often holding individual stocks with little return for lengthy periods, even as the business prospers, ultimately making a gain from some future market event. Economic recovery is underway and we believe we are in a new bull market. With historically low interest rates, equities remain the best asset class. The North American stock markets, and most sectors, remain undervalued and, importantly, “on buy” in our SVA™ work. Stocks are cheap—both small-caps and, unusually, many big-cap safe-dependables. Our kind of market.
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“I” IS FOR INEVITABLE (July 16, 2009) (View Summary)
We don’t think we’ve ever seen such extreme divergences among economists, strategists and analysts in their views for the economy or for stocks. All we know is that, as someone said, recessions die of old age. This one, at 18 months of age, is already the longest since the Great Depression and likely terminal. “I”, for the inevitable end of the recession and the bear market, the inevitable beginning of economic recovery and the inevitable birth of a new bull market. We believe the crisis is behind us, though there may be lingering effects and unintended consequences. But, for selective value-oriented stock pickers, we’re finding many cheap big, medium and small-caps. We are holding and adding companies trading far below their fair market values. They should reward us. Inevitably.
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FIELD OF DREAMS (April 20, 2009) (View Summary)
The analogy, not intending to be flippant, is that powerful remedial forces are at work, some administered, others natural, to repair and restore devastated economies, worldwide. The players are starting to return. A “Field of Dreams”. Since stocks are invariably the best asset class over time, but have been the worst since '96, regression theory suggests it will likely be, by far, the best asset class for some years to come. We believe that our value investing philosophy works, despite this anomalous year and a half, and that “regression to our mean” should give our clients a meaningful upward reward.
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THE GOOD, THE BAD AND THE UGLY—THE SEQUEL (January 6, 2009) (View Summary)
We are all inundated by the media with the Bad and the Ugly. The Good is obscure. Principally because it is less obvious and its benefits will only be revealed prospectively. But the Good is nonetheless real and we, as investors, need to be positioned to capitalize on it. Stocks are as cheap today as they’ve been since '74 and '82, or, maybe ever. The earnings yield on the S&P 500 at 9% is as huge a premium to U.S. 10-year treasuries as has existed, maybe ever. The S&P 500 enjoys a 3.1% dividend yield, the highest premium to the meager 2.5% on 10-year treasuries since the late '50s. And the S&P 500 trades at just over book value—as beautiful as it gets. A value investor’s grab bag.
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VALUE TRUMPS FEAR( October 21, 2008) (View Summary)
We think the market is bottoming or has likely bottomed because the mood was so pessimistic, because the fear was so acute, because there’s a record amount of cash waiting on the sidelines. But most important the market is bottoming because stocks are cheap. We believe Canadian and U.S. stocks have rarely, if ever, been cheaper relative to their potential returns. Panic begets opportunity and according to many pundits we respect, this is a screaming time to buy. As the greatest investor of our time, Warren Buffett, says, “value trumps fear.” One strategist we respect notes, “it is ALWAYS valuation that stops these totally irrational, emotional panics”, and points out that the average stock is being valued at levels similar to the two best times to buy in the last 40 years—1974 and 1982.
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THE WRITING IS ON THE WALL (July 25, 2008) (View Summary)
For our portfolios, this has been a period of violent but temporary fluctuations as stock prices (but not the underlying company values) have suffered. We don’t know where markets will be in a day, a week, or even a month. But the market’s appetite for stocks and for small cap stocks will return and we’re very confident that within a year, investors who hold and buy cheap and good businesses today will be rewarded. While no bell goes off at market bottoms, contrary indicators are reflecting severe pessimism, indicating that the fear is “in the market” and supporting a bottoming market. The put/call ratio is high, short interest at record highs, record new lows, investment advisory services are net bearish, and record cash on the sidelines. Stay fully invested in good cheap stocks and go lie on a beach.
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BIRTH PAINS (May 1, 2008) (View Summary)
Stock investing may be painful periodically, but the end result is clearly better than any other asset class, especially on an after-tax basis, and especially in an inflationary environment. As we have reminded clients, stocks today are as cheap as they’ve been since WWII. Conception is often done passionately, sometimes irrationally. We believe our portfolios are thoughtfully conceived and, in due course, should engender the returns we expect. We can see the head of the emerging bull. Breathe deeply and push.
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ACCENTUATE THE POSITIVE (February 29, 2008) (View Summary)
It’s a well known phenomenon that humans suffer roughly twice as much from losses as they receive pleasure from comparable gains. And because fear is a more powerful emotion than greed, most investors tend to believe the worst and disbelieve the best. Yes, the global economy is slowing and the US may be in a recession. But, investing in an evident slowdown, though contrarian, makes sense. The stock market generally discounts future events, and bottoms well before the economic downturn has ended. The ensuing market recovery can be rapid. There is considerable evidence that the market has already bottomed, so we need to be “in the game”, owning good businesses when they are as cheap as they’ve gotten. This is a time of opportunity, not a time to be feared.
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FEAR OF FLYING (November 12, 2007) (View Summary)
At Trapeze, we try not to speculate. We’re not psychologists. We’re pilots. We invest. And we do attempt to limit the volatility in our portfolios—the short-term risk. There will always be misperceptions regarding risk, but for us, preventing permanent impairment is more important for overall capital preservation. As value investors, we maintain a long-term horizon in a short-term investment world.
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DANCE CONTEST (August 20, 2007) (View Summary)
The market for us is, indeed, like a perpetual dance contest. We always want to be in step with the music, whatever the tempo. This means adapting to the changing rhythms and making sure we don’t get tapped on the shoulder, a loser, forced to retire to the sidelines. The market has recently been a frenzied dance affair. Yet we believe this is just a correction in an ongoing bull, not the onset of a full-fledged 20% decline type bear market. This is a time of opportunity. This ugly period will pass, and we’ll soon be doing the quickstep again.
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TRADEOFFS (May 11, 2007) (View Summary)
In most worthwhile things in life, there is typically a tradeoff. As multi-cap value managers, we tend to invest where our clients' money will be treated the best. Though we do prefer the liquidity and theoretical staying power of larger companies, we find it difficult to resist small companies when the values are truly compelling. We often invest against popular wisdom, including certain consultants who cite the illiquid nature of small cap securities or the risk of concentrating in a particular security or industry. We don’t assume these risks lightly. But we very often trade off value for a modicum of calculated risk.
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TRAPEZA (Feburary 27, 2007) (View Summary)
We believe the economy is slowing and it’s a time to be cautious. Despite the economic slowdown and the recent market decline, we don’t think the market correction will be prolonged or severe. Though the US and Canadian markets remain undervalued in our work based on anticipated earnings and interest rates, we continue to be highly selective and to focus on companies that are cheap, growing and can seemingly withstand a downturn or have already declined sufficiently to discount the impact of the downturn. Market corrections also offer up opportunities and, if there are attractive values, you know we’ll be ready to pounce. You can take that to the trapeza.
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ABOVE THE CROWD (November 24, 2006) (View Summary)
As we continue to rationalize our still fresh and somewhat controversial corporate name, being on the Trapeze is suggestive of having a top down view, which allows for a perspective on investment opportunities and pitfalls that might otherwise be myopically obscured. As dyed-in-the-wool value investors, bottom up stock picking for us is the paramount fundamental. But investors always have to be astute to overriding macro influences that can affect certain groups or the market as a whole. While we’re above the crowd and want, as themes, to emphasize oils and golds and quality blue chips and be defensive for the short run, there’s always opportunity for a “no theme”, easy, bottom up stock pick.
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VALUE IS OUR SAFETY NET (August 28, 2006) (View Summary)
Although, ostensibly, our new name “Trapeze” might imply risk taking, we think, as it applies to disciplined value investors, it suggests a cautious and skillful conduct of the money management process. And, after asset allocation, the most important aspect of that process is to look for values, for cheap stocks, reasoning that if those stocks are already low in price, the risk of loss is minimized.
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HIGHER PERSPECTIVES (June 5, 2006) (View Summary)
As our new firm name and the title to this letter imply (albeit somewhat pretentiously), from our lofty perch at Trapeze, we have a superior view -- a superior ability to discern reality from perception in the investment world. Despite the name Trapeze, we try to be sensible, not daring. We always take more account of risk than reward. To do otherwise would be speculating, not investing. As contrarians, we often buy when others are selling and when the wall of worry is obviously high. We know that free markets work and allow for constant adjustments to changing realities.
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TRAPEZE ACT (Feburary 28, 2006) (View Summary)
Managers of investment portfolios need to be like trapeze artists—trained, disciplined, agile, proficient, well balanced and, needless to say, aware of what can happen if they misstep. Which is why we say we always look down first. Why we buy what’s already low, to maximize returns, but first and foremost, to minimize a potential fall—the downside risk. Value is our safety net, even if normal market fluctuations may cause temporary dips.
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LOOKING FOR THE PONY (November 23, 2005) (View Summary)
We’re from the school that believes there’s always a “bull market” somewhere. That doesn’t make us optimists necessarily, but it does make us unabashed opportunists. Opportunists prefer when the market is going up, but can take advantage of the downs, buying cheap stocks even cheaper and profiting from short selling. While there’s opportunity in asset allocation among stocks, bonds, cash and short sales, and also among different groups, such as the oils and the golds that we now favour, in the end, the ultimate pony is good, old-fashioned, bottom up stock picking.
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A PENNY EARNED IS A PENNY SAVED (August 24, 2005) (View Summary)
Risk means different things to different people. Business texts define risk as volatility—typically short-term fluctuations—“standard deviation”. Though we’re conscious of short-term volatility, so as not to make the clients unduly anxious, this is not how we view risk. We think we’re professionals that have a thoughtful appreciation of risk. And reward.
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GOOD STRESS (May 19, 2005) (View Summary)
Any stress now should be regarded as good stress – after all, it derives from a lower risk portfolio with much better potential for gain when the correction inevitably ends.
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REALITY SHOW (Feburary 15, 2005) (View Summary)
As value money managers, we always need to measure reality against perception, recognizing that, in the short term, perception may be the vogue, resulting in temporary, ignominious “drawdowns” in our portfolio values. Ultimately, reality will prevail and so will our clients. Short-term pain for long-term gain. Survival for us means intelligently managing our clients’ portfolios, so we never have to hear those words immortalized by Donald Trump: “You’re fired!”
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POUND WISE PENNY FOOLISH (November 12, 2004) (View Summary)
At Trapeze, we’re dyed-in-the-wool opportunists, not conventional modern portfolio theory adherents. Theory be damned, we go where we think the money will be treated the best. Where superior value may reside from time to time. We don’t agonize about defining our style and don’t want to be pigeonholed in any restrictive mode. Bottom line, we are alpha investment managers. We seek positive returns even if the general market is down.
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FOREST FOR THE TREES (August 9, 2004) (View Summary)
As value based portfolio managers, we focus on the enduring market drivers rather than short term indicators. Value is driven by earnings, interest rates, leverage, returns on capital and the implied multiples – and in our SVA™ work, those drivers indicate the market is undervalued by 35%. In hindsight, the market correction will have been a mere tree. The forest will be the confirmation of an ongoing bull market in which the recent pullback will be seen to have been a buying opportunity.
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ROLL WITH THE PUNCHES (May 20, 2004) (View Summary)
For us, the market fight is a continuum with an unlimited number of rounds. Because we’re able to roll with the punches, we think we’ll continue to win more rounds than we lose and stay ahead on points. That’s what active money management is about.
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MAYA'S TAKE (Feburary 24, 2004) (View Summary)
As portfolio managers, our objective is not to make relative, but to make “absolute”, or positive returns for our clients, regardless of the direction of the market. In a risk averse way. With reasoned diversification. Without undue leverage. Or undue speculative positions. Thoughtfully. Patiently.
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HIGH WIRE ACT (November 24, 2003) (View Summary)
The recent strength in the economy may be illusory, so we continue to be worried about the macro-economy. We are walking a ‘tightrope’ trying to balance capital preservation and capital appreciation. Portfolio Managers must continue looking down before looking up – studying and worrying about the downside before calculating the upside. Risk avoidance is what we think about first and foremost. Caution, value investing and the SVA™ work continue to guide our investments.
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PUNCHBOWLS AND UNCONVENTIONAL TIMES (August 11, 2003) (View Summary)
We tend to be “bottom-up” stock pickers believing “value will out.” Nonetheless, we continue to contemplate and remain concerned about the macro-environment. These are unconventional times, which warrant an unusual amount of attention to the big picture. As money managers, this is a time to be more careful than ever.
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THE GOOD, THE BAD AND THE UGLY (May 7, 2003) (View Summary)
Professional and experienced Money Management is required to differentiate the good from the bad. This has been an unusually tricky period for Investment Managers, characterized by what may be anomalous and unsustainable investor behaviour. But if we stay with the tried and true fundamentals, buying what’s cheap and selling what’s expensive, and use our SVA™ timing work effectively, our clients will continue to make money.
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WINNERS AND LOSERS (Feburary 13, 2003) (View Summary)
Corporate earnings improvements driven by cost cutting will position the companies that survive -- the “winners” -- to enjoy super earnings improvements whenever “top lines” start to improve. As Investment Managers we need to continuously select the odds-on winners and avoid losers, since the weak players will fail and the survivors will benefit. Our value investing and contrarian philosophy, along with our SVA™ methodology keep us well positioned to do so.
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ELEMENTARY PHYSICS (November 1, 2002) (View Summary)
For every action, there is an equal and opposite reaction. The opportunity in this for investors is that while the public focuses on the headline economic and political problems -- the “actions” -- it is not taking much account of the forces at work to counter those problems -- the “reactions”. Going forward, we think we will be in a stock picker’s market where some stocks will go up, but lots will go down. Selectivity is the watchword..
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THE GLASS IS HALF FULL (July 26, 2002) (View Summary)
Bear markets end when the selling is finally exhausted, bad news is fully discounted, and value asserts itself, regardless of any temporary negative outlook. Corporate America is restructuring, cutting costs and lowering breakevens. As portfolio managers, it is now time to focus on bottom-up value investing, while being discriminating and continuing to diversify.
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DEJA VU ALL OVER AGAIN (May 7, 2002) (View Summary)
Something suggests that we are in a peculiar period when investors need to consider a lot more than mere cheapness. While we do not anticipate the severity or duration of a 1930s-style downturn, the effect of the economy on investments could be profound, prolonged and warrant caution. The paramount focus within our Portfolios is preservation of capital.
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MILLENNIUM HANGOVER (January 29, 2002) (View Summary)
We continue to be highly selective and look for value stocks, including some smaller capitalization Canadian names, which should outperform the broad market. There does not appear to be a lot out there to buy and we’re probably in for an abnormally volatile and generally weak market. What we did last year certainly worked for our portfolios, even in an ugly bear market. We think we can do it again in 2002.
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LOOKING THROUGH THE VALLEY (October 29, 2001) (View Summary)
Our Wealth Management vocation requires us to make judgments between what is a real risk and what is a perceived but less than real risk. We look for the opportunities to capitalize on the misperceptions. That is how mispriced assets, “bargains”, are created. Value investing is about exploiting misperceptions. We have been able to achieve superior returns in a bear market by picking good stocks, and we hope to continue to do so.
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THE MARKET IS THE MESSAGE (August 7, 2001) (View Summary)
Normally, as value investors, we want to find good, cheap stocks and hold them for the long run. But in the current financial environment, we are nervous holders and we have had to adapt to the precarious and volatile market environment by trading more. Utilizing our powerful SVA™ tools that assist us in recognizing good points to buy and to sell, we are able to make short-term profits or cut losses if we have to.
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STICK TO WHAT YOU KNOW (May 14, 2001) (View Summary)
We have been bearish for some time and have believed the recent debacle was inevitable. But, like in all cycles, even though the news may get uglier, each day brings us closer to the inevitable recovery. We’re not in the forecasting business - our objective as Portfolio Managers is to stick to what we know. We’ve continued to perform well throughout a very poor market by not "playing the market", but by buying value. It’s not just about potential reward; it’s about the attendant risk too.
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CAB DRIVERS, OLDSMOBILES AND A BOUNCE (January 19, 2001) (View Summary)
Rather than employing an economist, whose views are generally based on “historical” data, we tend to pay attention to the views of cab drivers, bellhops, retail salespersons and general advertising. They tell us the economy is a bummer as it hits. But when it appears the bleakest is when we, as professional wealth mangers, we’ll be seeing the great bargains -- longer-term investments for the next inevitable bull market and economic upturn. In the meantime, capital preservation for our Managed Accounts is paramount.
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GOLDILOCKS AND THE BEAR (October 25, 2000) (View Summary)
It now appears obvious - though not yet to all investors and money managers - that a full-fledged bear market decline, not merely a short-lived "correction" is upon us. Despite our pessimism, we have been outperforming the market and hope to be able to continue to do so by being careful and occasionally opportunistic. This phase will pass, but we think things will get worse before they're better.
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ANATOMY OF A BEAR (July 25, 2000) (View Summary)
Different bear markets have different durations and degrees of severity. We want to position our portfolios to weather the storm, and even to capitalize on it by picking up bargains. We’re not gold bugs, but as value money managers, we are clearly contrarian and tend to gravitate to the bargains that are out of favour. Gold is clearly out of favour and our SVA™ work shows that the gold stocks are at historic lows and are buys. As important, we believe they are hedges against a falling stock market.
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RIDING OUT THE STORM (April 24, 2000) (View Summary)
We believe corporate earnings for this cycle are peaking and that the red hot economy will indeed soon show evidence of slowing. Rising interest rates, rising inflation, an overvalued dollar and peaking earnings and growth rates are not healthy for a grossly overvalued market. Our main goal is to preserve capital within our managed accounts. So we hold some cash, some stocks unrelated to the direction of the overall market, some cheap stocks that have had their bear markets and gold stocks, as a hedge.