Value Investing

Ken Heebner Mis-fires, Now Has Huge UST Long Position

Ken Heebner did well but seems to have bad timing on his USTs– he seems to have built a big long stake right before yields surge (which has returns in Q2 and not reflected in Q1 returns here) after getting killed on the UST short. Below is his Q1 letter to investors.

Ken Heebner’s CGM Mutual Fund letter to shareholders for the first quarter ended March 31, 2015.

To Our Shareholders:

CGM Mutual Fund increased 3.6% during the first quarter of 2015 compared to a return of 1.0% for the Standard and Poor’s 500 Index (S&P 500 Index) and 1.7% for the Bank of America Merrill Lynch U.S. Corporate, Government and Mortgage Bond Index.

The year began with the S&P 500 Index dropping 2.7% by January 6 on news of sluggish global growth, falling oil prices and a strengthening dollar. With overseas economies slowing down and thereby consuming less crude oil and OPEC unwilling to cut its production, there was concern that an oil surplus in the market would slow down the U.S. economy. However, positive business indicators continued to emerge as well. Falling fuel prices and low interest rates made 2014 the best year for U.S. auto sales since 2006, with a 5.9% increase in sales and 16.5 million automobiles sold. On January 21 the Commerce Department reported that December 2014 housing starts rose 4.4% from the previous month to an annual rate of 1.089 million. In late January, the S&P 500 Index increased 1.5% on the news that the European Central Bank would begin a quantitative easing bond buying program in March that would inject more than $1.14 trillion into the Eurozone economy.

Ken Heebner's CGM Mutual Fund

In February, the Institute for Supply Management released its manufacturing index for January, which fell 1.6 points to 53.5, suggesting continued expansion but at a slower pace. The Conference Board Consumer Confidence Index dropped from 103.8 in January to 96.4 in February, indicating consumers believe that current economic conditions remain positive but that short term expectations had weakened. February reports of prior month U.S. auto sales pointed to continued growth with a 14% overall increase and a 19.3% increase for higher priced light trucks and SUVs. The Commerce Department reported that the pace for the sale of new homes in January remained near its six year high, indicating strong demand in the housing market, which is impressive considering the harsh winter weather in much of the country, tight credit conditions and price increases over the past year. Jobs reports were also positive, showing that the U.S. added an additional 257,000 to the workforce in January. In late February, European creditors agreed to extend their bailout provisions to Greece, preventing a possible defection of Greece from the Eurozone and pushing U.S. stocks up on the news. The S&P 500 Index increased by 5.75% for the month.

With the commencement of the European Central Bank’s bond buying program, the euro dropped 1.4% against the dollar on March 10 to its lowest level in twelve years. A March Federal Reserve report showed U.S. industrial production up 3.5% and capacity utilization up 3.1% over a year earlier, indicating that the long term outlook continues to point to moderate economic growth. But continued expectations of an interest rate increase by the Federal Reserve weighed the market down in March, pushed bond yields higher and contributed to the rising value of the dollar against the euro. On March 18 the Federal Reserve dropped its long-standing assurance that it would remain “patient” before acting to increase interest rates. While this may indicate a rate increase at the Fed’s June meeting, Chairman Yellen stated the Fed would move cautiously, which may suggest that any rate hike will occur later. The S&P 500 Index increased 1.2% on the announcement. The Consumer Price Index for February increased for the first time in four months, rising 0.2%. Additionally, the Commerce Department reported that sales of newly built homes increased by 8% in February to an annual rate of 539,000. Both pieces of news indicate that, after a rocky beginning to the year, the U.S. economy is strengthening.

CGM Mutual Fund: Drop in U.S. Treasury securities yield

The yield on ten-year U.S. Treasury securities was 2.14% at the beginning of the quarter, dropped to 1.73% on January 28 and finished the quarter at 1.92%. Bond yields remained low and were largely impacted by falling oil prices, fears of a slowdown in global growth, and questions on the Fed’s interest rate position. We believe that these numbers are poised to move up with continued positive U.S. employment numbers, indications of continued moderate growth in the U.S. economy and improving conditions in Europe. With bond yields at this low range, as of March 31, 2015 the S&P 500 Index was priced at 17.23 times projected earnings for the year, which is not excessively high.

On March 31, 2015, CGM Mutual Fund was 26.3% invested in U.S. Treasury securities. The three largest industry positions in the equity portion of the portfolio were in housing and building materials, money center banks and vehicle assembly. The Fund’s three largest equity holdings were the Lennar Corporation, D.R. Horton, Inc. and Toll Brothers, Inc., (all housing and building materials).

After a distinguished career in the investment industry and at the helm of CGM Funds, Bob Kemp retired on February 28, 2015. I am honored by your Fund trustees’ decision to name me the new president of the funds and look forward to serving CGM shareholders for many years to come.

David C. Fietze

President

See full PDF below.