Giverny Capital annual letter to partners for the year ended December 31, 2015.
It has been more than two decades since I discovered the writings of Warren Buffett, Benjamin Graham, John Templeton, Philip Fisher and Peter Lynch. I then decided to begin managing a family portfolio based on an investment approach synthesized from these great money managers. By the end of 1998, after five years of satisfactory results, I decided to launch an investment management firm offering asset management services aligned with my own investment philosophy. Giverny Capital Inc. came into existence.
In 2002, Giverny Capital hired its first employee: Jean-Philippe Bouchard (JP for those who know him well). A few years later, JP became a partner and participates actively in the investment selection process for the Giverny Capital portfolio. In 2005, two new persons joined the firm who eventually became partners: Nicolas L’Écuyer and Karine Primeau. Finally, in 2009, we launched a US office in Princeton, New Jersey. The director of our Princeton office, Patrick Léger, shares in the culture and long-term time horizon inherent to Giverny Capital.
We are Partners!
From the very first days of Giverny Capital, the cornerstone of our portfolio management philosophy was to manage client portfolios in the same way that I was managing my own money. Thus, the family portfolio I’ve managed since 1993 (the “Rochon Global Portfolio”) serves as a model for our client accounts. It is crucial to me that clients of Giverny Capital and its portfolio managers are in the same boat! That is why we call our clients “partners”.
The Purpose of our Annual Letter
The primary objective of this annual letter is to discuss the results of our portfolio companies over the course of the prior year. But even more importantly, our goal is to explain in detail the long-term investment philosophy behind the selection process for the companies in our portfolio. Our wish is for our partners to fully understand the nature of our investment process since long-term portfolio returns are the fruits of this philosophy. Over the short term, the stock market is irrational and unpredictable (though some may think otherwise). Over the long term, however, the market adequately reflects the intrinsic value of companies. If the stock selection process is sound and rational, investment returns will eventually follow. Through this letter, we give you the information required to understand this process. You will hopefully notice that we are transparent and comprehensive in our discussion. The reason for this is very simple: we treat you the way we would want to be treated if our roles were reversed.
The Artwork on Our 2015 Letter
Since 2004, we have illustrated the cover of our letters with a copy of artwork from our corporate collection. This year we selected a detail of a sculptural installation by the Quebec artist David Altmejd entitled “The Flux and the Puddle”. After a summer at the Musée d’art contemporain de Montréal, this work by Mr. Altmejd was exhibited at the Louisiana Museum in Denmark last Fall and will be on exhibit for the next 10 years at the Musée National des Beaux-Arts du Quebec beginning on June 24, 2016.
For the year ending December 31st 2015, the return for the Rochon Global Portfolio was 20.2% versus 13.4% for our benchmark, which represents an outperformance of 6.8%. The return of the Rochon Global Portfolio and the one of our benchmark include a gain of approximately 16.3% due to fluctuations in the Canadian currency.
Since its inception on July 1st 1993, the compounded annual return of the Global Rochon Portoflio has been 16.3% versus 9.0% for our weighted benchmark, representing an annualized outperformance of 7.3% over this period. Our ambitious long-term objective is to maintain an annual return that is 5% higher than our benchmark.
The Rochon US Portfolio
We have been publishing the returns of the Rochon US Portfolio, which is entirely denominated in US dollars, since 2003. The Rochon US Portfolio corresponds to the American portion of the Rochon Global Portfolio. In 2015, it realized a return of 1.7% compared to 1.4% for our benchmark, the S&P 500. The Rochon US Portfolio therefore outperformed our benchmark by 0.4%
Since its inception in 1993, the Rochon US Portfolio has returned 2294%, or 15.2% on an annualized basis. During this same period, the S&P 500 has returned 606%, or 9.1% on an annualized basis. Our added value has therefore been 6.1% annually.
We outperformed the S&P 500 for an eighth consecutive year (just barely). Our objective is to outperform the S&P 500 over the long term.
You will notice that over the 22 years of its track record, our US portfolio has underperformed the S&P 500 on six occasions (or 27% of the time). This is in line with our “Rule of Three” which stipulates that we accept to underperform the index one year out of three on average. This average, if we can maintain it, would be far superior to the overall performance of portfolio managers. It is a difficult task to maintain outperforming the S&P 500 but it is our mission.
We must accept the fact that we will sometimes underperform the index over the short term when our investment style or specific companies are out of favor with mainstream thinking. And we try to welcome rewarding periods of portfolio outperformance with humility.
While it is not always easy, we try to remain impervious to short term results, both good and bad.
Rochon Canada Portfolio
We introduced a portfolio that is 100% focused on Canadian equities in 2007. This corresponds roughly to the Canadian portion of the Rochon Global Portfolio. In 2014, the Rochon Canada Portfolio returned 16.0% versus -8.3% for the S&P/TSX, therefore outperforming the index by 24.3%.
Since 2007, the Rochon Canada Portfolio has returned 331%, or 17.6% on an annualized basis. During this same period, our Canadian benchmark had a gain of 31%, or 3.0% on an annualized basis. Our annual added value is therefore 14.6%.
Our main Canadian holdings performed very well in 2015 and the all-star in our portfolio was Constellation Software which rose 67%. Dollarama also performed well, rising 35%. Of course, the stock dominating the headlines in Canada in 2015 was Valeant Pharmaceuticals (the stock decreased by 15%). We’ll come back to that story later on.
For eight out of the last nine years, the Rochon Canada Portfolio outperformed the TSX. It is also worth repeating that our Canadian portfolio is highly concentrated and has little correlation to the TSX. So the relative performance, whether positive or negative, will therefore often be high.
2015 was a difficult year for investors in the stock market. The dramatic drop in oil prices weakened the economy of many countries from East to West. In fact, nearly all industries linked to natural resources experienced a disastrous year. Consequently, many companies with revenue streams tied to these industries also had a portion of their revenue affected.
Additionally, the strength of the US dollar also had a negative effect on the profitability of many US companies doing business abroad. The combination of these factors created a stagnation in profits