The Bull or the Horn? September Newsletter Excerpt

Economically, 2021 has been surprising and mostly in good ways. For many of our portfolios, in general, we experienced a sharp performance increase up through March. This was largely because of our emphasis on small cap stocks along with some apt individual stock choices. The following months we experienced a bit of a plateau as the broader stock market caught up. In August, we enjoyed a robust uptick in many of our portfolios, reversing the trend toward our favor.

We entered into 2021 with a bullish projection. Granted, our expectations were muted – we expected an ease of gains rather than erase of returns. We felt that it was probable that declines would be resilient and short lived.

As we got bad news such as the Delta variant or inflation concerns, we were respectfully not worried about this from an economic perspective. Clearly, companies have learned how to make money through these enormous challenges. Now that are 2/3rds into the year, we can say that the stock market has outpaced our bullishness. This is obviously wonderful news. When we look down the road, we remain bullish.

With any bull market, it’s natural to question, “How long can this go on?” Many of you have asked the same question about the real estate market.

It’s very important to activity identify our harmful biases. As humans, we tend to expect things to work in a linear Newtonian manner.

• Linear, meaning the flawed assumption that if something is going in a direction, it will keep going in that same direction in a straight path (rather than change direction or actually be an exponential path).
• Newtonian, meaning the flawed assumption that non-physical things behave like physical things. For example, if something goes up (in price), it must go down and that it’s just a matter of when.

Economics and the stock market do not behave in a linear Newtonian manner. Bull markets never die of old age. All of us should feel slightly annoyed when people see prices like a ball that’s been throw in the air. You may hear people say, “The stock market is going to fall because it’s gone up a bunch.” This statement has no logic to it, let alone real world experience.

Stock prices and real estate prices are determined by many moving parts, least of which is how the price has changed recently or for how long is has been going up. When you see the price go up, it is a reaction to all those other moving parts. With stocks, among the most important moving parts are interest rates, earnings, and profits.

We feel optimistic that stock prices will be sustained for the following reasons:

• Interest rates have remained stunningly low.
• During the stock market rise, corporate earnings have generally kept up with stock prices. Not all bull markets can say the same thing.
• We also got economy-wide corporate profits for Q2 and they were outstanding, up 9.2% from Q1 and up 15.8% from the pre-COVID peak in late 2019.

When we look down the road, a correction and even a bear market are inevitable. But acknowledging this is hardly prophetic – you can always say that at any point in time and you will always eventually be right. We like to joke that pessimists are always right … eventually. When the market pulls back, the usual suspects may gloat, “See I told you it was over-valued!” But ignore that they missed out on all the growth holding onto this view too early and too long.

The bull market will eventually end, as all do. Based on the past, some sort of correction is overdue, but we think the general trend remains up and optimistic investors are likely to be rewarded.