Beyond The Headlines
2021 First Half Review
A Year Like No Other
When we discussed 2020, we emphasized the importance of patience and timing. We started 2020 with a cautious stance. Our patience paid off when in March 2020, we witnessed one of the fastest market corrections on record. We acted quickly and deployed capital buying securities available at multi-year low prices. It was a brief but hugely attractive window of opportunity for disciplined investors. We have been reaping benefits since.
In the last year and a half, the equity markets have recovered, so has the economy. We also have seen signs of inflation. With big vaccination programs in the US, Europe, and increasingly around the world, we saw a wave of more relaxed rules and restrictions, which sped up the business recovery.
This is not the whole story, though. International travel is still subdued, Delta variant fears are still looming, while a large portion of the population remains unvaccinated. At the same time, uncertainty remains elevated, and consumer confidence recovery took a pause.
Although we have seen some unexpected stock market heroes in the last year and a half, it has been one of the most challenging times to navigate. The path forward doesn’t look that obvious either. We are keeping a steady course, and as always, we aspire to be the least wrong. We remain prepared no matter which scenarios play out in the end.
Our long-term goal remains the same for all the assets we manage. We intend to both preserve and grow the capital over time. We seek to double our clients’ wealth every 5-15 years, which translates to a 5-15% annual rate of return over the long run, but we would like to accomplish it without exposing the portfolios to the risk of a permanent loss of capital.
Our strategy can be described as a long-term patient contrarian. All securities are selected through an in-house research process. Our investment horizon for each individual holding is usually 3-5 years.
We intend to hold between 30-60 stocks, mostly US equities, but we may invest in foreign securities as well. We don’t use any leverage; we don’t own any derivatives. We may supplement the strategy with exchange-traded funds.
We don’t have a predefined portfolio composition target. We may hold cash at times, but we prefer to own businesses, and when the opportunities abound and prices are right, we will likely be close to fully invested.
The first half of 2021
After a whirlwind of a year, the first half of 2021 could be seen as two distinct quarters. The first quarter or even the first five months showed some hesitation among the high-flying tech stocks, which had a great run in 2020. Their businesses proved to be less exposed to lockdowns than the more traditional economy. The rest of the equities had a chance to catch up, especially smaller companies and those considered value rather than growth. The latter months of the first half of the year gave Nasdaq, the tech index, an opportunity to catch up. The hare became the tortoise only to hop forward again.
As much as it is intriguing to watch the various segments of the market fall behind and play catch up, it’s been much more interesting for us to watch earnings as companies have reported more quarters of improvement and recovery. As investors, we pay attention to the fundamentals while we patiently wait to see the market appreciate promising trends. We believe that it is the fundamentals that matter in the end. On this front, we were happy to see that many of our holdings not only recovered but also exceeded the metrics from before the pandemic.
As much as we pay attention to the overall market trends, we like to look at our performance independently from the benchmark. As long as the businesses we own report improving fundamentals, and the market eventually prices them accordingly, we are happy.
The Fed came to the rescue… and never left!
Discussing 2020, we emphasized the unprecedented rescue that came from the Federal Reserve. The US stock market dropped some 30% in March 2020, which actually matched the lowest read in the economic activity during the pandemic. In other words, the market made a fairly accurate estimate of the impact of COVID lockdowns.
The policymakers didn’t stand still. The Fed added trillions to its balance sheet lowering the cost of borrowing and providing additional liquidity. It led to asset appreciation all around from stocks, real estate to even used cars. The Fed’s generous policy facilitated the numerous multi-trillion government spending plans. The shortage of yield in a near-zero rate environment fired up investors’ appetite for risk. It invited a record stock and debt issuance among US companies. It’s the most unusual phenomenon given that with higher risk, higher uncertainty, one would expect risk aversion, and caution.
As much as the Fed’s intervention in 2020 could be explained by an unprecedented economic debacle, it’s a lot harder to understand why a year and half later, the Fed is still keeping the proverbial pedal to the metal. The monthly asset purchases conducted by the Fed continue. Only now, we are hearing some signs of a possible shift in policy as the market distortions become more blatant and harder to ignore. The red-hot U.S. housing market has been one of the side effects of a low-rate environment.
Fiscal stimulus with trillion-dollar spending plans hasn’t slowed down either. At least for now, both monetary and fiscal policies seem to ignore the economic and market recovery and inflationary pressures.
Supply, demand, inflation
Price stability or low inflation has been a goal of central bankers ever since the hyperinflation era in Europe of the 1920s. Then later the 1970s in the US brought renewed inflation headaches, which brought back monetary discipline. In the last fifty years, though, both in the US, and Western Europe, inflation has become an almost forgotten boogeyman. It was less the case for those who grew up in Eastern Europe or South America and witnessed the havoc wreaked by inflation in their economies, savings, and asset prices.
In the first half of 2021, the US recorded the highest levels of inflation in decades (with a 4.9% read). Prices rose, and in some cases, as in, for example, the used car market, they jumped so high that old cars were selling at the same prices as new cars. It’s impossible to analyze these renewed inflation fears without a context. Economics 101 teaches us about supply and demand and the level of prices. The last year and a half, and possibly more so 2021, have been a time of pandemic-related supply constraints, on one side, and demand propped up by monetary and fiscal policies and boosted by post-pandemic “you only live once” spending habits. With a lot of money chasing fewer goods, it was a matter of time when we saw prices rise.
We find it helpful to distinguish two sources of inflation. The first one might be indeed short-lived, but the bigger inflation tailwind might be here to stay. Once the supply and demand normalize, frenzied used cars and home buying calm down; we’ll see what a sustainable price level could be. The bigger issue is the overhang of the massive multi-trillion dollar spend and print policies of 2020-2021, which builds on earlier crisis responses from over a decade ago. If those never slow down, pause or reverse, there isn’t much that can help us escape inflation in the long run. That is just the nature of any print and spend policies ever tried by humanity since we embraced the concept of money and debt five millennia ago.
If policymakers experience a sudden change of heart, the Fed could slow down asset purchases or even clear its balance sheet, while the Federal government could normalize its spending. If that were to happen, it is not unlikely to even see some deflation.
We try to keep an open mind and remain flexible with our investment choices, watching the outcomes of these gargantuan policy moves.
The US economy is still the biggest, healthiest, most diversified in the world. Given its depth, size, and liquidity, the US stock market remains the most appealing home for the most innovative, new companies, even if they originated in Europe, Asia, Africa, Australia, or South America. At the same time, US companies are global and benefit from long-term growth and prosperity around the world. They operate under US laws, follow US disclosure requirements, and promote a shareholder-friendly culture, making them appealing investment choices. We are optimistic about the US, and the US business, while near-term, we remain cautious about the stock market as a whole. We are happy with our stock portfolio of selected, vetted, well-researched businesses.
What do we expect going forward? We build the portfolio for any possible scenario, and our goal always is to be the least wrong with our investment choices. Given the level of uncertainty from inflation, interest rates to new policies coming from the new US administration to ongoing COVID health, and economic risks, we’d be surprised to see no renewed volatility in the markets. We always welcome small and large shake-ups of that nature since they offer compelling buying opportunities.
What could we have done differently?
In a rising market, everyone wants to be fully invested; in a falling market, everyone hopes to be completely out of the market. We acted quickly in March, April 2020; we added a number of holdings since. It’s an impossible task but had we known that the monetary and fiscal response would be so big, and so long-lasting that we would experience the quickest economic and market recovery on record, we would have rather been 100% invested. With worldwide lockdowns, and no vaccine in sight, we operated with the visibility that we had, and it’s unlikely we would have been more aggressive at the time.
We have been happy with all the holdings we bought, and their performance shows that stock selection met or even exceeded our expectations.
We remain optimistic about the long-term growth prospects of the US and the world economy. 2020-2021 markets reminded us how challenging and unpredictable the markets could be. They convinced us further that patience and caution is the best way to forward.
The information provided in this article represents the opinions of Sicart Associates, LLC (“Sicart”) and is expressed as of the date hereof and is subject to change. Sicart assumes no obligation to update or otherwise revise our opinions or this article. The observations and views expressed herein may be changed by Sicart at any time without notice.
This article is not intended to be a client‐specific suitability analysis or recommendation, an offer to participate in any investment, or a recommendation to buy, hold or sell securities. Do not use this report as the sole basis for investment decisions. Do not select an asset class or investment product based on performance alone. Consider all relevant information, including your existing portfolio, investment objectives, risk tolerance, liquidity needs and investment time horizon. This report is for general informational purposes only and is not intended to predict or guarantee the future performance of any individual security, market sector or the markets generally.