Asset Management Letter Archive

3Q 2011 Asset Management Letter

October 18, 2011   ·   By   ·   Comments Off   ·   Posted in Asset Management Letter Archive

The roller coaster ride of the market against the backdrop of harsh global news coverage makes us happy to say “goodbye” to the third quarter of this year, which posted the worst third quarter S&P 500 loss since 2002. The S&P 500 was down 14.33% for the quarter and is down 8.68% for the year. Foreign stocks fared worse than the S&P 500 as the MSCI EAFE Index was down 14.98% for the quarter and 19.01% for the year. Even worse than the S&P 500 and the foreign market, the Russell 2000 Small Cap Index was down 21.9% and is down 17% for the year. Fixed income was the saving grace as the Barclays Aggregate Bond Index was up 3.82% for the quarter and is up 6.65% for the year. That being said, it is hard to get excited about the long term prospects of a ten year Treasury yielding less than 2%. From a safety and total return standpoint the Treasury trade has worked out over the short term but we are frankly confused by the attraction of an investment that ties up capital at 2% for the next ten years and this is part of the reason we continue to drift towards equities (many with debt levels at 20 year lows and substantial cash flow to boot).

On that note, we decided to take a different tactic with the quarterly commentary this month. Since we have been beholden to continued temporizing from policymakers on both sides of the Atlantic whether it be Greek Gotcha, slowing economies, double dips, credit spreads, commodity crashes or class warfare, we decided to not spend as much time ruminating on the fickle winds of change and instead spend time clarifying our philosophy of asset management. It is common knowledge that we drill into cash flow and retirement planning to hone in on risk tolerance and return expectations to then design an asset allocation. What bears repeating, in our mind, is the process by which we construct a portfolio and the foundation upon which we rest our beliefs and expectations.

Many years ago we designed portfolios based on the normal parameters of modern portfolio theory which called for low cost mutual funds with better than average performance over the long haul with the one and three year track record carrying far less weight than the five and ten year. The reason for this, to reference Davis Advisors, is that 93% of top quartile performing large cap money managers spent at least one three year period in the bottom half of the group; 62% spent at least one three year period in the bottom quartile and 31% spent at least one three year period in the bottom decile. However, though each of the managers in the study delivered excellent long-term returns, they almost all suffered through a difficult period at some point in time. In addition, we sought out a strong organizational framework that fostered performance, such as personal investment, long tenure and employee-ownership. Morningstar has since deemed this quality “stewardship” and quantified it for investors. We call it the “eat their own cooking rule”. Historically, we searched for managers that had a clear investment discipline and stuck to it. This is not as simple as, “Are they value managers as defined by Morningstar?” but it is something that we get a feel for by listening to conference calls, corresponding with fund managers, reading/watching their actions. In retrospect this method worked very well starting from low valuations in the 1980’s or over a long enough time frame per the Jeremy Siegel “Stocks for the long run” model but over shorter and more volatile time periods it proved less dynamic than we wanted.

Thus, several years ago we began adapting more of an endowment model. Borrowing from the Yale, Harvard and Virginia models, we began to add more flexible managers that were focused on absolute return rather than relative return. Instead of blindly accepting the Efficient Market Hypothesis without question, we added a behavioral finance perspective to our investing by asking ourselves if a mob mentality could push stocks to irrational points both at the top and the bottom of the market. Our conclusion was that this could happen and we needed to add managers that could adapt to this volatility via hedging or buying other asset classes. Of course, this type of investment had been dominated by the unregulated world of hedge funds for many years but over the past ten to fifteen years some very attractive options have become available in the regulated mutual fund arena. We continue to add to those funds instead of the unregulated hedge fund arena since we view the unregulated market as more of a compensation scheme masquerading as an asset class. In addition, the lack of liquidity and transparency of hedge funds stand in stark contrast to our commitment to manage your assets with prudence and caution.

We are spending such a great deal of time on this matter because our confidence in these “go anywhere” managers allows us not to feel the need to panic and move in and out of the market due to their ability to seek less portfolio volatility over time. Ten to fifteen years ago when everyone was “long-only” and wanted more and more risk because their friends were making money off of “dot.com” holdings while watching CNBC, we were skeptical. Now with approximately 52% of S&P 500 stocks yielding more than the 10 year Treasury bond and 50%+ sporting P/E ratios under 12x earnings as noted by investment analyst Jeffrey Saut, we are not as concerned. To wit, one of our recommended fund managers at FPA Crescent framed it as, “Our favorite investments are those that are so cheap that we feel we really can’t lose much money.” Of course, this could still happen over a short time frame but the point is that we are employing managers that are able to mitigate downside risk during a time frame when a 30 yr Treasury is yielding 3%, gold is near an all-time high, and markets are shaky with uncertainty.

We realize this is a break from our normal quarterly commentary but felt it was warranted in today’s headline driven market. Most already are fully aware of the problems in the world due to the inundation of 24 hour news. We worry that mentioning debt ceiling debate, Eurozone defaults, Operation Twist, and double-dip recession borders on tedium in today’s environment. We can certainly talk about these issues if you would like to call and chat. However, we think one of our recommended fund managers recently articulated our worldview about as well as we could when he quoted A.C. Piqou’s Industrial Fluctuations, “Prosperity ends in a crisis. The error of optimism dies in the crisis, but in dying it gives birth to an error of pessimism. This new error is born, not an infant, but a giant”. Our experience tells us things are never as bad as they seem or as good as they seem and the fund managers we hire work to find value in all types of markets. Please let us know if you have any questions as we are always here for you.

General Compliance Disclosures

Statements made via this letter are the opinions of Creative Financial Group (“CFG”) and its advisors, and are not to be construed as guarantees, warranties or predictions of future events, portfolio allocations, portfolio results, investment returns, or other outcomes. None of the information contained is intended as a solicitation or offer to purchase or sell a specific security, mutual fund, bond, or any other investment. Readers should not assume that the considerations, suggestions, or recommendations will be profitable, suitable to their circumstances or that future investment and/or portfolio performance will be profitable or favorable. Past performance of indices, mutual funds, or actual portfolios does not guarantee future results. Future results may differ significantly from the past due to materially different economic and market conditions; investments in securities or other financial products involve risk and the possibility of loss, including a permanent loss of principal. Investments are not FDIC insured and have no bank guarantee.

The U.S Securities and Exchange Commission adopted new oversight rules designed to help and protect all investors.  These rules generally reflect a reaction to the Madoff and custody scandals, but they do require that we, like all investment firms, adopt new policies and procedures related to verification of your accounts.  As such, we request that you take time to compare your account balances and statements from NFS and to contact us if you do not receive those quarterly statements and/or that the values are materially different.

Use of Indexes

The investment return and style information and comparisons employ a variety of popular indices, and the index contents and strategies are the property of their respective companies (e.g., Dow Jones, Standard & Poor’s, Morningstar, Barclay Capital, Russell, Morningstar). Although the data is believed to be reliable, CFG makes no warranty with respect to the contents, accuracy, completeness, timeliness, suitability, or reliability of the information, which is represented here for informational use only and should not be considered investment advice or recommendation. None of the indices can be invested directly, and the return figures for these various securities indices are reported without management fees, trading costs, or other expenses subtracted from the returns, and are shown on a total return basis that assumes reinvestment of applicable capital gains and dividends. Components of indices may change over time.


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Creative Financial Group (“CFG”) is a division of Synovus Securities, Inc (“SSI”), member FINRA/SIPC. Prior to January 1, 2011, CFG was a separate registered investment adviser affiliate of SSI. Investment products and services are not FDIC insured, are not deposits of or other obligations of Synovus Bank, are not guaranteed by Synovus Bank and involve investment risk, including possible loss of principal amount invested. Synovus Securities, Inc. is a subsidiary of Synovus Financial Corp and an affiliate of Synovus Bank. You can obtain more information about Synovus Securities, Inc. and its Registered Representatives by accessing BrokerCheck