January 14, 2014
Fourth Quarter Letter
2013 was an exceptional year in the stock market as demonstrated by the total return of the S&P 500 Index of 32.4% for the year. Your portfolio advanced by a similar amount. In fact, 2013 was the fifth year in a row in which the stock market had positive results. We all know that such a stretch is relatively rare. This was the fourth such streak of at least five consecutive years of positive S&P 500 returns since 1965, so enjoy it. Throughout the year, we continued to hold a reasonable level of cash in your portfolio (the cash level varies by each account’s special circumstances). This cash holding is characterized in our minds as a combination of prudence and opportunity reserve. It will continue to fluctuate based largely on available opportunities as we understand them.
You know from experience with us that we don’t always understand the opportunities as presented. For example, you would have been substantially better off had we gone “all in” at the last of March 2009. You know well that we did not. Importantly, however, your overall portfolio has likely had an experience since that dark time which is above average, inclusive of cash holdings.
You may recall that for all the assets we manage, including your account, we state plainly that our goal is to generate “an above average rate of return, while incurring a below average level of risk.” While our cash levels discussed above might suggest that this cash is the primary element of our “below average risk” strategy, we believe the greater component of risk management is the strength of the businesses owned in your account. We frequently say this group of businesses has more growth, higher returns on capital, stronger balance sheets, and frequently lower valuations (at least at purchase) than the market, hence, the “below average level of risk.”
We spend considerable time trying to help you understand the work we do to identify these outstanding businesses. We also believe it is important for you to reflect on just how logical this approach is. It just seems intuitive that if one wants above average results, then the logical thing to do is to own above average businesses. Indirectly, this highlights just how important the individual security selection is. We would suggest that this process is critical to achieving above average results. We also believe it is very important that you understand this approach and its inherent conservatism.
Contrasted with our methodology is the more widely practiced approach of watching CNBC or similar programs and thinking this will prepare you sufficiently to “beat the market.” Historical data makes clear that this is a fool’s game.
You also know from past communications that we have NO view on where the market is headed (see our comments above about early 2009). In fact, we believe it is actually foolish to spend any time in that pursuit. In letters past, we have opined on particular economic observations, including suggestions about related behavior. If you have kept track, you would see that we have no expertise in predicting either economic or market outcomes. So we don’t try!
However, you can expect that we will remain rather fully invested in your account because we continue to believe that you own, at attractive valuations, some of the very best businesses in existence which collectively will continue to have profitable opportunities in years ahead, without regard to the gyrations of the economy or the market.
We often remind you to keep us fully apprised of your circumstances, so that we position your account accordingly. We are always happy to hear from you, so call or come visit us.
Akre Capital Management, LLC