Jerry Jordan—Drilling Down
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which generally cancels out recession risk. They don’t cancel out deceleration risk, but cancel out recession risk.
So, you have a U.S. market that is decelerating rapidly, a European economy that is decelerating rapidly, and a Japanese economy that is probably in recession. But you’ve got South America, Russia, and all of Asia, still growing firmly. A lot of that is due to raw material production, because demand continues to be good. One thing to keep in mind is, amidst all the recessions we’ve had in the last 25 years in the United States, we have never had negative oil demand. So when it comes to commodities, demand continues to be there in developed economies.
Historically what you want to own are companies that have already priced in bad news, or where they’re not going to have any bad news. Or, let's say their expected earnings are $3.00 and they earn $2.95; but that’s OK because every one else is earning, say, $2.50 instead of $3.00. Basically what you want to own are companies that are going to continue to grow through deceleration, or where the valuations have come down so much that the news can’t get any worse, and therefore the news has potential to start getting better.
On Technology Holdings
They are part of my dilemma. Tech in aggregate is acting fine. The Nasdaq is acting great because of probably 10 stocks. The Nasdaq 100, which are the largest 100 non-financial stocks, are up 20% since the August low, and up 10% since the first of September. So it has been a terrific move. That being said, the semi-conductor index which is a big part of the Nasdaq is up 4% since the August low; and it is down in September. So what it tells you is, there is another basket of stocks that is leading the charge. However, past performance is not an indicator of future results.
A similar thing has been happening in biotech, which is another one of the big groups. What you’ve had is a coterie of stocks which have really pulled the index on, as opposed to a broad-based rally. And that always troubles me. Thankfully, we have owned enough other areas that have performed well, energy being one of them. The great risk is that the emerging markets that have gone nuts on the upside, and could have an ugly two or four weeks in here, and it hurts the S&P, but it kills the energy stocks. That’s the risk.
Looking Forward
I think energy has just started its next big leg-up. Energy is a big portion of our portfolio. I’m taking a little bit of money off the table in a few names, but it is more to add to other names instead.
I am not adding to the area in which everyone is ga-ga over. I haven’t been adding to, or reducing, the tech area that everyone’s excited about. I’ve lightened a little bit on energy but that’s because solar stocks have gotten pounded in the last two weeks. In aggregate the Funds energy weighting isn’t changing any, and I just see it as sort of an opportunity here for the Fund. And, although I’m being somewhat contrarian, because if you look at most of the reports filed by institutional investment managers showing sales, a couple of the big money managers in town have reduced their energy holdings in the third quarter.
If you look at sentiment surveys, everyone is bearish on oil so I think liking energy and not being wild about tech is actually a fairly contrarian idea. And you know, I don’t like being very contrarian. I think that doesn’t help you. So, I am not necessarily bearish on technology. I don’t think that tech stocks necessarily have to go down a lot, but I think what they could do, is go much like they have in the last four or five years, where you have these little spurts, then go into hibernation for six months, while the rest of the market does well. And people who jumped on the band-wagon are sitting there eight weeks later, saying, "why is it that I’m starting to trail the benchmark again?" It’s because they held onto those stocks, and they jumped on too late and the trends are ephemeral. …whereas the Fund holds other stocks, and I think the valuations are fantastic...where I think there is real potential for opportunity.
Multiple Expansion vs. Earnings
You know, many investors will tell you about how they buy growth and earnings. Hypothetically, if a company can grow earnings, 20% a year, the price of the stock could double, that’s true. But if you look at the history of most money managers' returns, in many instances the biggest money has been made in the multiple-expansion mode. Because it’s easier to take a price/earnings multiple from 20 to 30 times, than it is to take earnings growth from 40% growth to 90% growth, and keep the multiple flat. And I think we have got panoply of stocks in the portfolio where the multiples could see increases.
On Sector Weightings
Everybody fights the last war, in terms of sector weightings. It was the fourth quarter a year ago, where you should have sold all your energy stocks, and should have bought consumer and tech. I think people are trying to fight the same war as last year. Last year tech was great in the fourth quarter, and energy went down, because as we know, oil always goes down in the fourth quarter. So everyone’s making that bet, except, I don’t think that’s how it’s going to work this year.
The Sports Analogy: If NY Yankees' manager Joe Torre was a fund manager, would you hire him back?
Oh, gosh yeah. The problem is that Steinbrenner (NY Yankees owner) is making the analogy that the only thing that matters is winning the World Series, as opposed to the view that as long as they are a competitive team, the stadium will be filled, the cable contract will be re-upped, and jersey sales will be strong.
So from a money-management perspective, what matters is having money managers that continue to perform well over time but not necessarily being the top manger in a class, year after year. Which by definition is impossible, let alone unrealistic. It’s like hitting home runs versus batting average. Theoretically in the money-management industry, for an investor in mutual funds, what you want is someone with a high batting average. But not necessarily someone always hitting home runs. It’d be great if they could do both, but it is historically not true.
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The views in this report were those of the Fund manager as of September 30, 2007, and may not reflect his views on the date this report is first published or anytime thereafter. These views are intended to assist shareholders in understanding their investments in the Fund and do not constitute investment advice.
The S&P 500 Index is a broad based unmanaged index representing the performance of 500 widely held common stocks. The Dow Jones Industrial Average consists of 30 stocks that are considered to be major factors in their industries. One cannot invest directly in an index or an average. Price to earnings ratio (multiple) is the value of a company’s stock price relative to company earnings.