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A View From Here April 2017

April 5, 2017 • Print This Article

Knowing the Knowable

Despite recent weakness, the overall strength of worldwide stock markets has many investors anxious due to its ascension. With so many distrustful of the new U.S. president how could the markets move higher in what has been dubbed the 'Trump' rally? Outside of a perceived 'pro-business' culture in the White House, perhaps this strength has less to do with politics and more to do with the actual fundamentals. Market volatility at all-time highs creates the kind of contrarian thought that we've reached too high, too far and too soon, so we're best to sell positions and ride out the pending sell-off. Market 'watchers' claim that this current bull market which now extends over eight years is the second longest in history. Surely something has to give? When I broached this subject with a market analyst whose publication we subscribe to, he reminded me that records are broken all the time and that's the stock market.

The reality is that we don't have to know the market's future to be good investors. There is a great belief that the macro (overall economy) rules the markets so we should figure out things like when the Fed is going to stop stimulating the economy and raise interest rates or what's going to happen in Europe or China and invest accordingly. These are the things that move markets so isn't that where we should spend our time? The interesting conundrum is that in the short run they are the things that will move the market, however, these things are unknowable and as such, a waste of our time to pursue. Instead we should know the knowable which is to have an advantage over other investors with regards to companies, industries and securities. These are the things that pay off with hard work and skill...and maybe a little luck as well.

The Professor

One of my first clients was a professor who became adamantly negative on the markets in 2002 after reading a book on the pending economic apocalypse. After a few discussions he instructed me to sell all of our positions and in its place, purchase 'put' options that would profit when the market collapsed and concurrently, buy shares in gold producers. The thinking was that he would not only profit when the market collapsed but his returns would be further enhanced by the anticipatory increase of the price of gold. The concept of owning gold is pretty archaic as it assumes that paper money will have little or no value in an economic collapse, suggesting that we will buy goods and services with gold. That's how people purchased things in the markets along the Nile River before time began, I think. In my professional career (or lifetime for that matter), nothing has come of it, but hey, anything can happen and there's a never ending list of people who have been warning me my whole career. Haven't met a wealthy one though...and I think that's a very important fact.

Shortly after the professor sold his holdings and repositioned his account, the markets sold off heavily throughout the fall of 2002 and into 2003. In fact, I found it to be the most challenging time for our investment accounts in my career. While his repositioning had a profitable outcome, it was a far more modest increase than he expected. But when markets (and by extension, our investments) began to recover in the spring of 2003, he couldn't let go of his apocalyptic view that the other shoe would soon drop. As such, he remained averse to making future investment commitments and his account never achieved much growth. The professor didn't participate in and never saw the returns the rest of us were achieving. He ultimately moved his account to a discount platform, which made sense if you weren't following my advice. I've often thought about what he missed out on in the years that followed and his story remains a lesson that pessimism is a luxury that few can afford.

Market sell-offs have an adverse effect on investment accounts in the short-term, but offer a tremendous recovery potential. Nothing becomes more true than the adage - 'what doesn't kill you makes you stronger' than having the fortitude to augment a stake in a business when few want to. In what is now being dubbed as 'The Great Recession', the consolidation of values in excess of 50% from the peak in October 2007 to its trough in February 2009 (16 months) during the worst sell-off - ever presented tremendous opportunities that most of us took advantage of. By November 2010, our accounts had again reached new all-time highs and have continued to do so over the next seven years despite the occasional setback (specifically, 2011 and 2015). We all want the instant gratification of performance, but unfortunately, it just doesn't work that way.

In the end, I think it is important to recognize that there is little we can do to protect ourselves from what we don't know is going to happen. The best thing we can do is to understand the inherent value of each investment we hold. That way we can calmly make decisions based on a fundamental view rather than an emotional one. Understanding adversity is a significant part of investment management. Things are rarely on an easy path and a change in valuation that will lead to a profitable exit, doesn't necessarily follow our expected time frame.

Joel Greenblatt, (one of my investment gurus) who teaches at Columbia University Business School, said; "I make two guarantees to my students on the first day of class; first guarantee is this - if they do good valuation work, the market will agree with them, I just don't tell them when. The corollary to that is this - and it's very powerful; I tell them that in 90% of the cases for an individual stock, two or three years is enough time for the market to recognize the value they see, if they've done good work. When you put together a group of companies, this can actually happen a lot faster. Both of those are very powerful and it says that good work will be rewarded."

A change in market sentiment doesn't guarantee that investments act in a certain matter. While it's true that during a panic such as 2007-2009 and even broad sell-offs in 2015, our investments for the most part are affected but they generally move by their own merits. Who can really say why Colliers and FirstService which augmented returns in our accounts so well in 2015, sold off in 2016 only to achieve all-time highs in early 2017? I'm just glad we had the fortitude to add to existing positions at lower prices. These are things that you just can't predict, in the short-term, but if we know why we own a business and the inherent value, then it becomes more reasonable to believe that they will be worth more in the future.

With the first quarter of 2017 in the books, I'm happy that our accounts have extended the returns beyond the strong 2016 we witnessed.

Thanks for taking a look and as always,

All Good Things,

Adam Hennick
Mackie Research Capital
Tel: 416 860-6848 Toll Free: 1-877 860-6848

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The opinions, estimates and projections contained herein are those of the author as of the date hereof and are subject to change without notice and may not reflect those of Mackie Research Capital Corporation ("MRCC"). The information and opinions contained herein have been compiled and derived from sources believed to be reliable, but no representation or warranty, expressed or implied, is made as to their accuracy or completeness. Neither the author nor MRCC accepts liability whatsoever for any loss arising from any use of this report or its contents. Information may be available to MRCC which is not reflected herein. This report is not to be construed as an offer to sell or a solicitation for an offer to buy any securities. Member-Canadian Investor Protection Fund / member-fonds canadien de protection des ├ępargnants.

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