Steven Romick, President, FPA Crescent Fund, Q4 letter to investors
Our view, more concerned with their careers than their constituents. They generally lack the skills to protect us anyway. They might see themselves as saviors, but they are largely unschooled in either business or economics and lack practical (i.e., non-political) work experience. And yet they make big decisions whose implications might not be known for many years, long after most have left office. As the economist and columnist, Thomas Sowell, wonders, “It is hard to imagine a more stupid or more dangerous way of making decisions than by putting those decisions in the hands of people who pay no price for being wrong.”4
One of many unfortunate results is that the gap between the haves and have-nots has widened. The programs from our nation’s leaders have done little to help the poor while pushing the investment portfolios of the wealthy to new highs. Ninety percent of the population has a lower net worth today than they had before the recession.5 We are currently in the midst of the longest period on record where the top 10% had 45% or more of all income. In 2012, the top 10 percent of earners took home more than half of the country’s total income, the biggest share ever.
The Share of All Income in 2010 Going to the Top 10%
Even with unprecedented transfer payments, most people are still struggling. Unemployment, although lower, is still a high 6.7% and really a couple points higher than that if one assumes just as many people would like to work in 2013 as in 2007. In too many cases, those fortunate enough to have jobs earn lower wages than they did before the recession. I remember when I was in high school, the local McDonald’s was largely staffed with my peers looking for some pocket money. Now, I mostly see people who are trying to support a family. These individuals have neither received the jobs that were supposed to show up through infrastructure investments nor the educational improvements that were promised.
Distribution of Market Income, Transfers, and Federal Taxes, 2010
A recent Gallup poll suggests that just more than half of Americans own stocks, directly or through mutual funds.6,7 The rest have hardly benefited from low interest rates. And yet, people somehow manage to continue to live beyond their means, spending more than they earn.
Consumer Spending in Excess of Spendable Income ($ billion)
That can partially be explained by consumers draining savings and 401-k accounts or living rent free while banks wait to work home foreclosures through their system. Whatever the reason, it’s not viable on a long-term basis.
Frankly, all of this makes us feel like we are living amongst the Lotus-Eaters of The Odyssey, the island people addicted to the fruit of the lotus tree, a narcotic that left them in a stupor. Thousands of years later, our lotus tree bears easy money and many otherwise rational investors cannot resist its temptation, but we’re left wanting. At which at point in time do central banks capitulate? Or do they just keep inflating?
We admit inadequacy in even determining the outcome of the inflation/deflation tug of war. With deflationary forces offsetting monetary inflation, consensus expectations are that inflation remains muted. We don’t know which way the wind ultimately blows in the match-up between government debt accumulation, ZIRP8, QE9, and currency wars versus corporate and personal balance sheet deleveraging, banks not lending and productivity gains.
Greek mythology offers various parables to describe unintended consequences and the catastrophic chain reactions they can set into motion. Zeus tasked Prometheus with creating man, but he then stole fire from Zeus and gave it to man. As punishment, Zeus created the first woman, Pandora. We all know of the unexpected evil unleashed into the world as the result of Pandora opening her box. (I could go on but I think it might be tough to go home after our spouses read our commentary.) Although the unanticipated reaction of the market and its participants has revealed itself in numerous ways, we expect that there will be more surprises that will ricochet through the global economy as a result of the policy decisions of recent years.
Nonetheless, we understand our commitment to you is that we will work to prosper while the gods play, recognizing at the same time that complacent protagonists in Greek fables always got a comeuppance.
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
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.
Full PDF here 2013-q4-fpa-crescent-commentary