Portfolio Performance
My very unaudited portfolio performance in the fourth quarter of 2011 is approximately +6%. For the year ended December 31, 2011, the performance is approximately -13%.
You can read the Q3-2011 report here. The 2010 year-end review with 2011 commentary is here.
My historical performance is as follows:
2006: +3.0%
2007: +11.7%
2008: -9.2%
2009: +104.2%
2010: +28.0%
2011: -13.4%
My six-year performance, compounded annual growth rate, is +15.4%.
Portfolio Percentages
At December 31, 2011:
0% Equities
16% Income Equity
0% Short Term [0-5 yrs] Corporate Debt
9% Medium Term [5-9 yrs] Corporate Debt
75% Cash
(Note: “Income Equity” is the term I used to describe equity/units in companies that give out over 75% of their cash flows as dividends. This also includes preferred shares.).
USD exposure as a total of the portfolio: 19%
Portfolio Commentary
What a crappy year in terms of my own performance. Most of the damage was done in the third quarter, where I significantly underperformed the main indexes. The source of the bad decisions stems from two fundamentally bad trades. The rest of the trades were also sub-optimal, but they were a knee-jerk reaction to the carnage that had happened back in 2008 and a desire to not repeat what could have been a potential 40% reduction in capital. Instead, I was relatively unhappy to settle for a 13 percent haircut for this year. Most of my post-damage analysis was in my third quarter report and I will not repeat it here.
The total return for the S&P 500 this year (including dividends) was approximately 2%. The return for the TSX (excluding dividends) was -11%. The big winner in 2011, had you been clairvoyant, would have been to concentrate your entire portfolio into 30-year US treasury bonds, which would have netted you a 30% gain as yields crashed from 4.4% to 3.0% at year end. Hindsight is 20/20, and who would have ever thought that the trillion-dollar deficit producing US government, with all of its money-printing facilities going at red-line speeds, would have such demand for its own long-term debt. Strange how the world of economics works.
There was no way that I would be able to sustain the performance I had from 2006 onwards, but I hope that future years will not be as damaging as this one was. Although the loss of capital does hurt, I am reassured by virtue of my very high cash position that I am starting from a relatively “blank canvas” and can continue to hunt for various opportunities as they come up. Unfortunately, I have not been finding many.
Outlook and 2012 Predictions
Traditionally at New Years Day, my crystal ball is usually quite clear, but as I write this report, it is incredibly cloudy. To quote Star Wars, there is a disturbance in the force, but I can’t quite tell where these disturbances will take us.
On the broad market, I see a good portion of large-cap companies trading at relatively cheap valuations. For example, you see Dell trading at 7.5 times estimated future earnings, which looks ridiculously cheap and an “easy” earnings yield of 13%, but if the whole world is seeing this, why is the stock not trading higher? Something is wrong there. Why the risk aversion?
The same thing can be said for a whole host of other companies, including financials, resources and other sectors – the P/Es look low, especially with respect to the risk-free interest rate (in Canada, that would be 1.3% on 5-year money and 2% on 10-year money).
More often than not, experience has taught me that when markets are valuing well-known companies for relatively cheap valuations and that you don’t have an explanation for such cheap valuations, there is something else embedded in the price that is signalling that the earnings projections are some sort of illusion.
A classic example of this from my younger days as an investor (around the time of the internet bubble collapse, 2001 or so) was investing in Kemet Corporation (NYSE: KEM) which specialized in capacitor manufacturing. There was a shortage of capacitors and prices and margins for the three big players in the field were very high – high enough to the point where companies were trading at P/Es of 7-8, which made share valuations look very good. Of course, the inevitable happened and profits fell as the market normalized itself, and the P in P/E went down, as well as the E going down. I managed to get out with small losses before realizing my mistake and have carried this lesson forward.
Incidentially, Kemet is trading at a future P/E of 5, which makes you wonder whether history is repeating itself or not.
So in terms of the broad markets, while things look cheap and things seem poised for an increase, will it occur? I don’t know. I am not a large cap investor at heart so it does not make much of a difference to me, but if I was forced to either be in cash or be in the major indexes at present, I would choose a simple high-yield savings account.
Interest rates are another puzzle – will US Treasury Bond yields go lower? Is the deflation bet the safe bet? Probably when everybody has capitulated and bought into the 2% long-term yield thesis that treasury bonds will make a good short. I do not think the long-bond trade has crowded in enough, although it feels slightly bubbly. Again, something to watch, but not necessarily to participate in.
The same thing goes for commodities – gold and oil – even with all the geopolitical instability brewing (especially revolving around Iran and the Middle East, which has always occurred), I generally do not have a good read other than that if deflation and economic slowdown is in the future, it would suggest that prices for both commodities will head down rather than up. North American natural gas ended the year at $3/mmBtu, which is getting amazingly close to the $2.50/mmBtu that was seen in later 2009 – at these prices, natural gas producers simply cannot make money. Should I be investing in a gas or electric range? I don’t know.
On the Western Canada side of things, will the Vancouver Real Estate market finally go into a price recession? Will the influx of capital from Mainland China slow down? I don’t know.
As you can tell, “I don’t know” seems to be a common answer to what my crystal ball is telling me about most macroeconomic scenarios going on in the markets at present.
Probably the only thing I am certain of is that US presidential polling will be driving the 2012 markets to a degree, especially if there is no certainty on who the Republican candidate for President will be. I always thought that Romney had it in the bag simply because he is the picture boy for “getting American business back in shape”, especially contrasted with Obama’s anti-business image. That said, as 2008 will attest to, presidential election years are always volatile for the marketplace as they try to feed in implied assumptions on how the next four year regime will be shaping up to be.
When you have a high amount of cash in the portfolio, every market rally stings because there is a psychological perception that you missed out on something – it is kind of like looking at the Lotto 6/49 results and saying “gee, if I had just picked those six numbers, I would be a million dollars richer” – absurd, but a very human part of the investment process. The trick with high cash levels is that when you do not have convictions that you believe are market-beating, the safest and most prudent action you can take is to just park your money in cash and go fishing, read a book at the library, or do anything other than investing it in some mediocre instrument. Eventually opportunities will emerge. I just don’t see them right at present.