Monthly Archives: August 2024

August 1, 2024

By David Snowball

“It’s a sure sign of summer if the chair gets up when you do.” Walter Winchell

Walter who?  O tempora! O mores!  

At the height of his popularity, in the late 1930s, 50 million people—two-thirds of American adults—read Winchell’s syndicated column and listened to his 15-minute Sunday-night radio broadcast. He positioned himself as a champion of “Mr. and Mrs. America,” and was the most powerful – or, at least, most feared – person in American media. He remained a force through the 1950s. While he derided “presstitutes,” his fast-paced, gossip-driven, and politically charged style is the precursor to and model for the media madness that plagues us today.

On the upside, he got summer and rocked a mean fedora!

In the August issue of Mutual Fund Observer …

Each year MFO celebrates the insane heat of summer with its summer-light issue, which reflects the fact that both our readers and our contributors are scattered on beaches, benches, decks, and boats across the northern hemisphere. To which we say: good for you, guys!

Devesh peers over the rim of his pina colada to share “Summer Thoughts” on options-based funds (“just don’t”), asset allocation (“stay home”), good podcasts, and Berkshire Hathaway in the twilight of Buffett’s care (“stay the course”).

Lynn, who at 69 is about to roll into his prime, has decided to examine “The Wisdom of the Elders” – Warren, Chuck, Howard, and Gary – to see how they might help us prepare for 2025. Separately, he took a break from building houses for Habitat and traveling, to share “Bits and Pieces” of what he’s learned during his first year after leaving full-time work. Just a heads up, IRMAA is looking for you.

The Shadow went beyond his always excellent coverage of the industry’s twists and turns to highlight four new funds in the pipeline – Nordic bonds, anyone? – that likely deserves your attention.

And me? As I read Morningstar’s recent “best small cap funds” article, I had two strong reactions. (1) This is very non-Morningstar. Much more like Zacks and Yahoo. How weird. And (2) you can do hella better. In “Better than the Best,” we highlight 17 small cap funds that have beaten their peers at least 90% of the time over the past decade.

We also share three Launch Alerts for funds that have come online in the past few months: WPG Select Hedged (a long/short small-cap fund from Boston Partners), Otter Creek Focus ETF (a small- to mid-cap focused fund with an emphasis on quality businesses and a strong private record) and T. Rowe Price Intermediate Municipal Income ETF (an inexpensive way to access a very T. Rowe Price-y approach to tax-free investing, their first active ETF that doesn’t mimic an existing fund).

Things I’ve learned in summer …

“The first week of August hangs at the very top of summer, the top of the live-long year, like the highest seat of a Ferris wheel when it pauses in its turning. The weeks that come before are only a climb from balmy spring, and those that follow a drop to the chill of autumn, but the first week of August is motionless, and hot. It is curiously silent, too, with blank white dawns and glaring noons, and sunsets smeared with too much color.” Natalie Babbitt, the opening lines to “Tuck Everlasting” (2002)

  1. The Upper Peninsula of Michigan is cool, but it makes Maine look urban in comparison. Chip and I spent 1o days there, sampling whitefish and fudge, listening to “The Wreck of the Edmund Fitzgerald” (it’s omnipresent), meditating on the fact that every family owned at least one ATV/UTV, traveling the Soo Locks and clambering about lighthouses.

    Oh, right. Helicopter. Had I mentioned we went joyriding in a helicopter?

    Thanks to Catch22 for his trip recommendations, and to Andrew and Michelle Foster for the lovely wine that made relaxing in Adirondack chairs all the sweeter!

  2. Standpoint Multi-Asset Fund (REMIX/BLNDX) is on fire!

    Charles Boccadoro, the maestro of MFO Premium, started the discussion as he tracked performance and asset flows, a relatively new function for our Premium site. We profiled this all-weather, long-short, managed futures fund in January 2024, concluding

    Life is uncertain, and investing even more so. Standpoint is trying to offer an island of predictability that investors might use to complement and strengthen their core portfolios. With positive absolute returns each year, they have earned a place on any sensible investor’s due diligence list.

    Since then Standpoint has climbed steadily toward $1 billion AUM and its fifth consecutive year of top-tier returns.

    The MFO discussion board is all over the story. You should join them.

  3. Morningstar has 17 new prospects for you

    Morningstar maintains a sort of list of “Not Ready for Prime-Time” funds, and their Prospects. These are “up-and-coming or under-the-radar investment strategies” that they’re monitoring as candidates for analyst coverage. The newbies:

    • Alpha Architect 1-3 Month Box ETF BOXX uses a novel options strategy to deliver Treasury yields with favorable tax treatment.
    • American Century High Income’s AHIIX experienced and well-resourced team focuses its bottom-up approach on debt with strong financials.
    • American Funds Multi-Sector Income’s RMDUX experienced team employs a thoughtful approach within the multisector bond Morningstar Category.
    • Artisan International Explorer ARHBX brings the firm’s extensive international expertise to this concentrated foreign small-cap strategy.
    • Ashmore Emerging Markets Equity’s EMFIX well-resourced team uses a thorough and reasonable approach to investing in emerging-markets equities.
    • Capital Group Dividend Growers ETF CGDG actively picks dividend-paying, global market leaders.
    • Capital Group International Equity ETF’s CGIE veteran managers look for non-US companies with strong management, solid balance sheets, and steady dividends.
    • Dimensional Core Fixed Income ETF DFCF quantitatively selects bonds that tend to outperform according to Dimensional’s research.
    • Fidelity Fund FFIDX sports a rising star at the firm and is one to watch.
    • John Hancock Disciplined Value International Select ETF JDVI is a more concentrated version of distinguished John Hancock Disciplined Value International JDVIX.
    • Lazard US Systematic Small Cap LUSIX employs a highly differentiated systematic process using artificial intelligence.
    • Osterweis Opportunity’s OSTGX compact but experienced team takes a bold yet sensible approach to finding small-cap growth stocks.
    • North Square Dynamic Small Cap ORSIX benefits from an experienced team and a repeatable systematic approach.
    • Rowe Price Global Multi-Sector Bond’s PRSNX seasoned team has a unique approach to foreign currencies.
    • Voya Target Retirement 2040 VTRKX has strong underlying holdings and below-average fees.
    • WisdomTree US Value ETF WTV uses quality and shareholder yield to find sound businesses.

    Two notes. First, Morningstar seems especially smitten with four of the funds: Artisan International Explorer, T. Rowe Price Global Multi-Sector Bond Fund, Voya Target Retirement Funds/Trusts, and WisdomTree US Value.

    Second, MFO has already profiled two of the funds.

    Artisan International Explorer, which invests in high-quality, undervalued businesses with the potential for superior risk/reward outcomes. The portfolio is typically 25-50 holdings. We concluded: Artisan International Value Strategy works. Demonstrably, repeatedly, over time, and across market cycles. Mr. Samra and his colleagues have demonstrated that at the huge, closed Artisan International Value Fund since 2002. In Artisan International Explorer, you get exposure to what International Value was in its first years: a small, agile portfolio that can benefit from positions in small, obscure, badly mispriced stocks.

    Osterweis Opportunity, which pursues high quality, small- to mid-cap companies with the ability to generate rapid, sustainable revenue growth. The fund, formerly named Emerging Opportunity, is managed by Jim Callinan who began his career as an equity analyst in the mid-80s and was a small-cap growth portfolio manager by the mid-90s. He’s managed through four market crashes and two of the longest bull markets in American history.  He’s managed both private partnerships and public funds and has handled as much as $6.8 billion in assets. We concluded that small growth companies “are risky, though potentially rewarding. Our first recommendation is to rely on a manager who’s succeeded through both the good times and the hard ones. Our second recommendation is to add Osterweis Opportunity to the due-diligence list for investors and advisers looking for sustained, risk-conscious excellence.”

  4. Rich Guys Screwing Up, episode 1246: Bill Ackman’s “Fund for the masses”

    Hedge fund billionaire … and, really, we could probably stop there, shake our heads, and move on … Bill Ackman wanted to launch a fund for regular investors. Which he decided needed to be a closed-end fund. With a 2% annual management fee for himself. And a 1.5% sales fee. And the very real prospect that the fund would sell at a discount to NAV, at 80% of what closed-end vehicles do, which means that he might buy $100 worth of stock but only be able to sell them at 95% of their face value. None of which turned out to be wildly attractive. The estimable Jason Zweig chronicles the story in “What Ackman Got Wrong with his Bungled IPO” (WSJ.com, 8/3/24, respect their paywall!).

    As you might imagine, the folks on the MFO Discussion Board had a party.

  5. The number of families owning mutual funds has spiked!

    Working from Investment Company Institute data, the Financial Times reports that “the number of US households invested in mutual funds has grown, even as long-term mutual funds experienced outflows …In total, 68.7 million households, or just over half of US households, were invested in mutual funds in 2023, up from 58.7 million households in 2020” (“Number of US households that own mutual funds jumps,” 8/1/2024, and yes, they do know the difference between mutual funds and ETFs).

    Younger investors, however, are increasingly drawn to crypto.

  6. Ben Carlson has been wondering if you realize how rich you really are?

    Mr. Carlson manages money for Ritholtz Wealth Management LLC and publishes the extraordinary A Wealth of Commonsense blog. Mr. Carlson recently shared “seven questions I’m pondering” (7/30/2024), which include reflections on the happiness of younger Americans and the underappreciated delight of fireplaces.

    One fine question that he’s pondering is “Do Americans realize how rich they are?”

    He looked at recent data from dozens of countries and dozens of states before observing that “Mississippi has higher average wages than Germany.” He admits to the complexity of the comparisons but does highlight the paradox of one of the richest countries in the world convincing itself that it is poor and faltering.

  7. The S&P 500 has changed for the worse

    Derek Horstmeyer, a finance professor at George Mason, and his research associates have spent time looking at the evolution of the S&P 500 over the past 50 years. For folks seeking a diversified portfolio, the news is not good. The index is more concentrated than ever in tech and financials, which have high interest rate sensitivity and has tripled its historic correlation with other developed market equities.

    They conclude: “In all, the present-day S&P 500 is top-heavy on tech and highly correlated with other world indexes – with high sensitivity to rates and without the robust dividend of yore. This means that the 60-40 portfolio that worked in the 1970s to address diversification issues no longer works as well – and it will not long work to just add international stocks for diversification” (“The S&P 500 isn’t as diverse as it used to be. Here’s why that matters,” WSJ.com, 7/8/2024).

    His conclusion: you’re going to need to range further afield – into private assets, commodities, and elsewhere – if your core is an S&P 500 index.

  8. “Index fund” and “rational” aren’t the same thing

    One risk, in particular, is that the Russell indexes are laden with junk. The WSJ’s Spencer Jakab warns that “companies gaming the system, or just being of low quality, create an imperceptible drag that has cost investors hundreds of percentage points of gains over the years.” He points out that the S&P 600 small cap index has outperformed the Russell 2000 by 700 basis points, largely because the S&P index is more careful about who they let in. (“The Surprise in Index Funds,” WSJ, 7/27/2024).

    Go re-read “The Quality Anomaly” (MFO, 5/2024) before you invest. Both of these pieces support the argument we’ve been making: quality stocks are undervalued and overperform, year and year, decade after decade.

  9. Climate change is going to drive infrastructure investing.

    We’ve been toiling away, researching infrastructure investing, its drivers, and your options. One of our early suspicions was that we had delayed so long in trying to limit climate change that we’re now trapped spending trillions – often in unexpected places – trying to adapt to it. Research by the Wall Street Journal reaches the same sad conclusion:

    Efforts to address the cause of climate change have fallen short so far. That is leading to a big push to treat the symptoms. Government and private money is pouring into plans to control flooding, address extreme heat and shore up infrastructure to withstand more severe weather caused by climate change.

    “Adaptation has been the unpopular kid at the party for a long time. That is starting to change,” said Jay Koh, managing director at the Lightsmith Group, an investment firm with one of the few adaptation funds … The cost of adaptation is immense, particularly if mitigation efforts are delayed. The longer society waits to address climate change, the more it will spend to fend off the impact of hotter, wetter weather” (“Climate Cash Pivots to New Reality of a Hotter, Wetter Planet,” WSJ.com, 8/1/2024)

    More in September!

  10. Food at the Iowa State Fair is getting more … umm, wonderful every year.

    Iowa’s annual end-of-summer ritual runs this year from August 8-18 in Des Moines. It’s a gathering that celebrates the state’s agricultural heritage and economy … and it gives Iowans an opportunity to taste an ever-wider array of food-on-a-stick and other culinary innovations. Last’s years “People’s Choice Award” went to “Deep-Fried Bacon Brisket Mac-n-Cheese Grilled Cheese.”

    Yep: grilled cheese sandwich. Add mac & cheese. Add bacon brisket. Dip in batter. Deep-fry.

    This year sees the debut of no fewer than 84 new delights, including the Bacon Cheeseburger Egg Roll, Barbie Era Funnel Cake, Beer Belly Fries, and BLT on a Stick (drooling yet?) as well as Butter Beer Ice Cream, Deep Fried Bubble Gum, Deep Fried PB&J and the Maple Bacon Bliss Sundae.

    Tickers – and defibrillators – are still available!

Thanks, as ever …

To Frank from Delaware (it’s good to make your acquaintance, sir!) and our faithful monthly contributors Wilson, S&F Investment Advisors, Gregory, William, William, Stephen, Brian, David, and Doug.

And to the good folks at Mairs & Power. I entered a raffle for their primo “Made in Minnesota” gift basket while I was at Morningstar… and won!

They’re kind of like the T. Rowe Price of Minnesota. Quietly, consistently excellent. I’ll try to drop by the next time I’m visiting my son Will in the Twin Cities.

Performance since inception, through 07/2024

We ended our fiscal year modestly in the red, which is not fatal but isn’t a great model for the long run. If you’d like to make a tax-free contribution (I know, changes in the tax code have made that less compelling but it still makes a difference), check out how to Support Us!

We wish you peace in the month and season ahead. It’s hard, I know. The simplest recommendation that, as a scholar, I can make is “disconnect.” Our brains cannot accommodate the flood of effluvia flowing through our phones. Very rich people know how to become richer: get you to obsess and doom-scroll while they sell your personal life to other rich folks. Books are much safer, gardens better still, and time working with those you love, best of all.

Beyond that, a psychologist appearing on the WBUR program “Here and Now,” points out a fascinating finding: the more you learn about politics, the more stressed you are … unless you become involved. That is, the one best way to protect yourself from feelings of doom is to do something about it. Political parties of all stripes need you, want you, and can empower you. From being a poll worker to stuffing envelopes, your heart will thank you for simply getting up and putting your beliefs into action. (“How to cope with political anxiety this election season,” 8/1/2024).

For September, we’ll be looking at some interesting bond fund options: Nordic, disciplined, multi-sector, and otherwise. Also, we’re hoping to share our long-incubating work on infrastructure investing!

As ever,

david's signature

Small Cap Funds: Better than the best

By David Snowball

In July 2024, Morningstar.com published a promising but ultimately disappointing article entitled “The Best Small-Cap Funds” (7/18/2024). “Content development editor” Tori Brovet has been publishing a series of “The Best” articles (Energy Stocks, Value Funds, Bond ETFs). The article promises there are

They aren’t.

You can do better if you’re interested in small cap options.

The essay has three problems. (1) It claims a short-term payoff (“for 2024”) for what should be a long-term investment. (2) It has no criteria for inclusion other than “our analysts say these are Gold.” There’s no analysis of the individual funds, no distinction between them, no discussion of what makes them Gold. In short, Morningstar has entered the Age of the Clickbait Listicle. Finally, (3) the listed funds aren’t particularly compelling.

A “Gold” rating means that Morningstar’s analysts (or algorithms) have concluded that the fund has a strong probability of outperforming its peers in the years ahead. That’s perfectly sane but it also raises the question, “How have they done so far?” Our answer is: not uniformly well. Sorry.

Here’s the data. We entered all 18 in the MFO Premium multiscreener and pulled up the fund’s 10-year record. We looked at three sets of results:

  1. Raw returns: how much did they make, how did it compare to their Lipper peer group and how did it compare to their best-fit benchmark?
  2. Risk and risk-adjusted returns: which include MFO and FundAlarm ratings, and volatility ratings (standard deviation, downside deviation)
  3. Consistency of performance: if an investor held each fund for three years, what are the chances they have would beat their peers’ raw returns? The consistency measures we’re using here (though the MFO Premium screener offers others) is the Reamer Ratio which looks at the performance of an investment in every rolling three-year period. January 2020 to December 2022 is one three-year period, then February 2020 to January 2023 is the next, and so on. Over 10 years you get 85 rolling three-year periods.

You can simplify your scan with this rule: you want to see lots of blue and green (much above average and above average score), you can live with some yellow (more or less mediocre) but really need to question any orange or red (below average and much below average).

Here’s the resulting picture.

10-year performance of Morningstar’s Gold, sorted by Reamer Ratio

Complete data or metric definitions are publicly available at MFO Premium.

How do you read the chart? Take the Vanguard Small-Cap Growth Index for an illustration. It had 85 opportunities to outperform its peers but managed above-average results only 8.2% of the time. It returned 7.7% annually which trailed its average peer (by 0.9% a year) but beat its Lipper benchmark index. It had average volatility (all those yellows) but ended up as a below-average performer.

By those measures, Morningstar identified three exceptional funds – Victory Sycamore Small Cap Opportunity, Wasatch Core Growth, and Boston Trust Walden Small Cap – plus three substantially disappointing funds and twelve that have been … mostly okay-ish?

You can do better.

We can help.

We asked the MFO Premium multiscreener to look at all small cap funds and ETFs and to identify those with the highest Reamer Ratio. That is, we looked for funds that would consistently win if you were willing to hold them for at least three years. All of the columns and color-coding rules are the same: happy investors have blue boxes!

10-year performance of the most consistently successful small cap funds, sorted by Reamer Ratio

What do you see?

First, only two Morningstar “Gold” funds make the cut:

Boston Trust Walden Small Cap (BOSOX): the managers are quality-at-a-reasonable-price investors, the fund holds 70 stocks, has an incredibly high active share (99), a slowly evolving management team with substantial insider investment, and an ESG-sensitivity. Good guys who are offered a covert endorsement of the Red Sox.

Wasatch Core Growth (WGROX): the managers are quality-at-a-reasonable-price investors (“defensible business models and great management teams” at “the most valuation sensitive Wasatch growth fund”) who shop for both small and midcap stocks with the latter representing 20% of its 56-stock portfolio, has a very high active share (93), a slowly evolving management team with huge insider investment.

Second, folks who wished Morningstar’s LSV Small Cap Value performed better have a great alternative, FullerThaler Behavioral Small Cap Equity. Both funds are run by behavioral finance PhDs, guys who are fairly sure that the best way to add value is to understand the predictable irrationality of other investors, and profit from it. Both groups are famous; Fuller Thuler, though, nearly doubles the returns of LSV.

FullerThaler Behavioral Small Cap Equity (FTHSX) “aims to capitalize on behavioral biases that may cause the market to overreact to historical, negative information or under-react to new, positive information. Looks for companies with one or both of:

      • significant insider buying or stock repurchases (over-reaction)
      • large earnings surprises (under-reaction)”

The fund owns 120 stocks, about 70% of which are classified as small caps. Turnover is 35%, the active share is very high (92) and the managers have each invested over $1 million in the fund.

Third, bloated small caps rarely make the list.

A third of Morningstar’s “Gold” funds weigh in at $10 billion-plus. All are index or smart-beta funds. None are great. And no bloated active fund made it. Among the consistent winners, only one – again, an index fund – made the top 17.

Fourth, two remarkable micro-cap funds make the cut.

Oberweis Micro-Cap (OBMCX): firmwide, Oberweis has committed to a variation of the behavioral finance strategy used by FullerThaler and LSV: they’re into “uncovering and capitalizing on the persistent and recurring stock pricing inefficiencies in global equities caused by a lag in investor response to new information.” The team has 80% of the 80-stock portfolio in microcaps. It has a moderately high active share (84) and is managed by a team led by James Oberweis and Keith Farsalas who are both heavily invested.

Aegis Value (AVALX) is, frankly one of our favorite small cap funds because it just keeps beating prejudices, peers, and expectations. It starts with the same fundamental insight: most small cap investors don’t know what the hell they’re getting into, and we can work with that. “Equity markets are inherently emotional and often overreact to events. This creates exploitable dislocations that offer excess return opportunity for contrarian, long-term-oriented investors. Small-cap stocks can experience larger dislocations. Lack of analyst attention, less transparency, and lower liquidity all magnify the impacts of emotional investor behavior.” The manager since inception is Scott Barbee, who Devesh designates “a legend,” who owns the firm and has over $1 million in the fund. He owns about 70 stocks with equal exposure to small- and mid-caps, a microscopic turnover ratio of 2%, and an astronomical active share (99.2). The high volatility scores reflect the exceptional commitment to incredibly small, out-of-favor stocks.

Finally, three funds earned Great Owl designations. “Great Owls” represent our attempt to identify those funds whose risk-adjusted returns, conservatively calculated, at always in the top tier over a variety of measurement periods: 3-, 5-, 10- and 20-year periods, based on the age of the fund.

FullerThaler Behavioral Small Cap Equity, profiled in point two, above.

Virtus KAR Small-Cap Core (PKSAX): they call it “core,” Morningstar and Lipper see “mid-cap growth” and “small-cap growth,” respectively. In any case, the fund closed to new investors in July 2018. Sorry.

Invesco S&P Mid Cap Momentum ETF (XMMO): the fund replicates the S&P Midcap 400 Momentum Index. Its investable universe is the S&P 400 mid-cap stocks, and it invests in the 80 stocks with the higher momentum scores, computed by measuring the upward price movements compared to the rest of the S&P Midcap 400. It’s rebalanced every six months and has a turnover ratio of 132%.

Bottom Line

There is no such thing as “a best fund.” There’s only “the best fund, given your particular needs and concerns, from what we can see just now.” That is, as it turns out, not click-baitable.

In assessing funds, MFO typically looks for two things first: (1) managers who have gotten it consistently right across time and markets and (2) funds that have exceptional downside controls. As Research Affiliates recently noted, “Investors seek only to avoid downside volatility while they are pleased to benefit from upside volatility.” This essay stresses one measure of consistent success: the Reamer ratio and its focus on performance over three-year periods. Using it, we identified three funds that have been their peers in 85 consecutive periods and 14 more that have won 90% of the time.

Our recommendations: (1) know yourself. Think about what you value in a partner, how patient you are, how anxious volatility has made you in the past, and so on. (2) Start with the numbers, but don’t end with them. Every investment, as with every relationship, is going to have periods of stress and disappointment. The key is whether you’re able to see past the short-term noise and focus on the long-term value.

Launch Alert: Otter Creek Focus Strategy ETF

By David Snowball

On May 17, 2024, Otter Creek Advisors launched the Otter Creek Focus Strategy ETF (OCFS). In doing so, they are providing an existing separately managed account strategy which launched on May 29, 2020, as an ETF. Otter Creek was founded in 1991 to manage a long/short hedge fund and, in 2013, launched a long/short mutual fund. That four-star fund remains their only other public offering.

OCFS is an actively managed ETF led by Corey Reed and Tyler Walling. Messrs. Reed and Walling are principals of the firm and are also responsible for the four-star Otter Creek Long/Short Opportunity Fund. The duo manages $2.6 billion across 13 accounts.

What the fund does: the strategy targets 20-25 high-quality small- to midcap US stocks. In particular, they target firms with “higher profitability, more attractive growth profiles, and high levels of free cash flow” than the average firm in the Russell Midcap Index benchmark. They’re looking for aggregate growth rates and profitability each 400-500 bps above the benchmark. The managers note, “We focus on investing in strong businesses with competitive advantages run by competent management teams. We are opportunistic from time to time, investing in corporate transformation and special situations.” They describe a three-step portfolio process:

First, companies across the small and midcap space get screened on competitive advantage, secular growth, a proven management team, and an above-average financial profile.

Second, remaining securities get thinned out to prioritize long-term earnings growth, cash flow, and return on capital, among other factors. That shortlist is typically 30-50 names.

Finally, the shortlist is narrowed based on growth outlook and internal rates of return to 20-23 names.

The most recent statistics for their Midcap Focus strategy bear out their success at reaching that goal. Somewhat smaller stocks with substantially higher quality and lower valuations than the index.

  Otter Creek Russell Midcap
Average market cap $19B $25B
P/E ratio 18X 20X
Operating earnings 16% 9%
Long-term earnings growth 16% 9%
Return on equity 18% 12%

The strategy has an Active Share of about 95, indicating a very high degree of independence from its benchmark. They anticipate a turnover rate of 25%.

Why it might be interesting: At least on a total return basis, the strategy has been pretty consistently successful.

Comparison of Lifetime Performance (06/2020-06/2024)

  Focus Strategy Russell Midcap Index
2024, through 6/30 13.92% 4.96%
1 Year Annualized 23.18% 12.85%
3 Year Annualized 5.93% 2.35%
Since inception Annualized 17.72% 12.89%

We’re pursuing the volatility metrics now.

Administrative details: the fund charges 0.85% on assets of just over $5 million. We do not have reports on personal investments in the new ETF but both managers and four of the five members of the board of trustees have personal investments in the Long/Short Opportunities fund.

The Otter Creek Advisors homepage and, separately, the Otter Creek Focus Strategy ETF page.

The Wisdom of the Elders

By Charles Lynn Bolin

I celebrated my 69th birthday last month and will just be reaching my prime next year. I volunteer at Habitat For Humanity two days per week building homes for those that might not otherwise be able to afford them. I have been greatly influenced by the wisdom of the now elders in finance. My friend Dave Hogle and I used to take a three-hour drive to the nearest Costco and discuss every topic under the sun. Nearly two decades ago, Dave loaned me The Four Pillars of Investing: Lessons for Building a Winning Portfolio (2d edition, 2023) by William J. Bernstein (1948- ) who laid out the foundations of investing:

  • Theory: Risk and return go hand in hand—you can’t make money without risk
  • History: Understand past markets to understand today’s markets
  • Psychology: Avoid the most common behavioral mistakes that tank portfolios
  • Business: The cost of investment services can be high—unreasonably high

I earned my MBA in 1988 and have read dozens of investing books popular at the time, but it wasn’t until I was established in my career and began accumulating savings that books like The Four Pillars of Investing had a major impact. Charles Schwab (1937 – ) is another financial elder who greatly influenced me by showing that investing is more than buying and selling stocks with Charles Schwab’s New Guide to Financial Independence (2004):

“Put bluntly, do all you can to ‘teach your wife to be a widow’-or, if you, as the wife, are in charge of the finances, ‘teach your husband to be a widower’. Take the saying metaphorically: Don’t let yourself, or anyone in your family, be indispensable in terms of understanding family finances.”

My investing experience can loosely be divided into a diversified buy-and-hold strategy of funds with low fees exemplified by Vanguard and one that invests according to the business cycle as exemplified by Fidelity. I use advisory services by both Fidelity and Vanguard for a portion of my investments. The Vanguard approach is described well by Charles D. Ellis (86) author of Inside Vanguard (2022) and Winning the Loser’s Game: Timeless Strategies for Successful Investing. Howard Marks (79) is the co-founder and co-chairman of Oaktree Capital Management and is famous for following market cycles.  Mr. Marks wrote Mastering the Market Cycle: Getting the Odds on Your Side (2021).

In this article, I review the philosophies of Warren Buffett, A. Gary Shilling, and Howard Marks for insights into how to invest in 2025.

Warren Buffett

Warren Buffett (93) is the CEO of Berkshire Hathaway which I wrote about in the July MFO newsletter. The “Buffett Rule” was part of the tax plan proposed by President Barack Obama in 2011 (Investopedia). It was named after Mr. Buffett who believed in a tax structure that did not favor the wealthy. The Buffett Indicator is the ratio of stock market capitalization to gross national product. In Figure #1, I show the Buffett Indicator along with the Tobin Q Ratio, and Market Capitalization to Profits. All three methods indicate high stock valuations currently which imply lower secular returns.

Figure #1: Buffett Indicator Stock Market Valuation

Source: Author Using St. Louis Federal Reserve (FRED)

All valuation methods contain shortcomings and they are better long-term indicators of secular returns than short-term trading tools. Figure #2 contains my composite of valuation methods that address inflation, interest rates, and cyclically adjusted returns where a positive one is very positive for secular returns and a minus one is very negative. I believe the stock market is highly valued and secular returns are likely to be below average.

Figure #2: Author’s Composite of Valuation Methods

Source: Author

A. Gary Shilling

I read The Age of Deleveraging by A. Gary Shilling (87), who expected slow growth and deflation following the financial crisis. Growth was slow and inflation low, but massive stimulus dampened the impact. I have paid attention to the insights of Dr. Shilling, especially on bonds.

Dinah Wisenberg Brin wrote, “Gary Shilling: Investment Climate ‘Unhealthy’ for Stocks” for ThinkAdvisor. Dr. Shilling said in his monthly Insights newsletter, “The current investment climate is unhealthy. Economic growth has slowed, stocks are expensive, the Fed is unlikely to cut interest rates in the near term and speculation is still rampant and begging to be slashed.” He expresses concerns over the inverted yield curve, weakening labor market, and slowing consumer spending. He likes Treasury Bonds and cash and recommends avoiding speculative stocks.

Figure #3 shows that the 10-year Treasury to 3-Month Treasury maturity Yield Curve is still strongly inverted. Investors expect a decline in longer-term interest rates. Recessions usually follow periods of pronounced yield curve inversions and often occur shortly after the yield curve has been uninverted.

Figure #3: Ten-Year Maturity Minus 3-Month Treasury Yield Curve

For the next one to three years, I expect bonds to outperform stocks because when interest rates fall, bond values rise. In addition, stock valuations are high which implies lower returns. The Federal Reserve has kept interest rates high to slow the economy and lower inflation.

Howard Marks

I identify with the philosophy of Howard Marks (79), co-founder of Oaktree Capital Management, who wrote in Mastering the Market Cycle: Getting the Odds on your Side:

“In my view, the greatest way to optimize the positioning of a portfolio at a given point in time is through deciding what balance it should strike between aggressiveness/defensiveness. And I believe the aggressiveness/ defensiveness should be adjusted over time in response to changes in the state of the investment environment and where a number of elements stand in their cycles.”

Mr. Howards wrote “Market Outlook: The Definition of Insanity” as part of The Roundup: Top Takeaways from Oaktree Conference 2024.

…I believe fixed income investing may be better positioned today in risk/return terms than equity investing. Liquid credit instruments currently offer yields in the high single digits, and the yields on private credit are in the low double digits. These yields are highly competitive with the excellent historical returns on equities… These yields also exceed most investors’ required returns and are considerably less uncertain than the returns on equity and other ownership strategies. In other words, they have a high probability of delivering what they promise.

Mr. Howards also wrote The Folly of Certainty on July 17th to remind us that we don’t know what we don’t know and that political and market outcomes are uncertain. He concludes, “So, if anything, it reinforces my bottom line: making predictions is largely a loser’s game.”

Charles D. Ellis

Charles Ellis (86) is the author of Winning the Loser’s Game where he has the following to say about beating the market and the difficulty that individuals have in general.

Unhappily, the basic assumption that most institutional investors can outperform the market is false. Today, the institutions are the market. Institutions do over 95 percent of all exchange trades and an even higher percentage of off-board and derivatives trades. It is precisely because investing institutions are so numerous and capable and determined to do well for their clients that investment has become a loser’s game. Talented and hardworking as they are, professional investors cannot, as a group, outperform themselves. In fact, given the cost of active management—fees, commissions, market impact of big transactions, and so forth—investment managers have and will continue to underperform the overall market…

Holding onto a sound policy through thick and thin is both extraordinarily difficult and extraordinarily important work. This is why investors can benefit from developing and sticking with sound investment policies and practices. The cost of infidelity to your own commitments can be very high.

How to Prepare for 2025

From the comments by the wise financial elders, we see stocks are highly valued, opportunities lie in fixed income, and individual investors should not try to time the markets. I advocate for individual investors to consult with a Financial Advisor. I also advocate using the Bucket Approach. The Bucket Approach allows me to be ultra-conservative in Bucket #1 for short-term withdrawal needs, conservative in Bucket #2 for intermediate needs, and aggressive in Bucket #3 for legacy investing. There is a psychological advantage to understanding that the volatility is mostly occurring in investments that I won’t need for many years.

To prepare for 2025, there are things that we can do as part of a long-term strategy. I topped up our Bucket #1 for short-term living expenses. We rebalanced Bucket #2 to reduce risk assets and to increase fixed income to meet withdrawal needs for the next several years. We consulted with our Financial Advisor and adjusted our plan to be more tax-efficient. Fidelity manages a portion of my Bucket #3 legacy assets according to the business cycle and for tax-smart strategies, and their Third Quarter Outlook can be found here.

I own several funds in the Bucket #2 accounts that I manage to dampen downturns, for diversification, or to adjust allocations according to the market cycles. David Snowball wrote Standpoint Multi-Asset Fund: Forcing Me to Reconsider, and I wrote One of a Kind: American Century Avantis All Equity Markets ETF (AVGE). Information about the Thermostat Fund (COTZX/CTFAX) can be found at the Columbia Thermostat website and Morningstar. Columbia Thermostat adjusts allocations to stocks and bonds based on market conditions and valuations. As can be seen in Table #1, they have been lowering allocations to stocks from 50% in May to 35% in July. This fund is most appropriate to be held in a tax-advantaged account. This is consistent with the findings in this article.

Table #1: Columbia Thermostat Rebalancing Allocations.

Christine Benz describes withdrawal strategies and taxes in “Get a Tax-Smart Plan for In-Retirement Withdrawals” where she says, “it’s usually best to hold on to the accounts with the most generous tax treatment while spending down less tax-efficient assets.” She provides some examples of tax-deferred and tax-efficient portfolios for savers and retirees in “Our Best Investment Portfolio Examples for Savers and Retirees”.

Closing

As I write this closing, Real Gross Domestic Product for the second quarter was just released and is 2.8% annualized. The economy has remained surprisingly resilient for the past two years. Personal Consumption Expenditures: Chain-type Price Index shows that inflation has declined for over two years to about 2.6%. My strategy is not dependent on the timing of interest rate cuts; however, I expect at least two interest rate cuts this year.

 

Launch Alert: WPG Partners Select Hedged Fund

By David Snowball

I love a good mystery. WPG Partners Select Hedged is one. It is live, tracked by Morningstar, and available through Schwab, but appears on neither the Boston Partners nor WPG websites. Here’s what to know.

On May 31, 2024, Boston Partners launched WPG Partners Select Hedged, a long/short small-cap fund from its WPG Partners subsidiary. Boston Partners manages about $101 billion in assets through 18 strategies, including three long/short strategies. Weiss, Peck & Greer (WPG Partners) was founded in 1970, sold to  Robeco in 1998, and merged with Boston Partners in 2002. WPG Partners invests about $1.5 billion in US microcap and small-cap value stocks. The fund is managed by Eric Gandhi, CAF, who also manages the WPG Select Small Cap Value strategy. He joined WPG in 2012 and is a portfolio manager on the WPG Partners Small and Micro Cap Value team.

What the fund does: they invest in undervalued small-cap stocks, then short overvalued ones. It appears that they hold 40-80 short positions and 30-50 long ones, which implies that the short positions are small on average. According to their latest portfolio report filed with the SEC, their largest long positions are Perella Weinberg Partner, a New York M&A firm with a microcap stock, and PagSeguro Digital, a small-cap Brazilian fintech firm. Together those appear to account for about 1.6% of the portfolio, the same weight as their largest short position, the small-cap, Terex Corp. It appears that they have 117 holdings, long or short, in the initial portfolio.

Why it might be interesting: Two reasons. First, Mr. Gandhi and WPG have been crushing their peers with their long portfolios, which are embodied in both the Select Small Cap Value Fund and the longer-running strategy.

Comparison of Lifetime Performance (01/2022-06/2024)

  Annual return Maximum drawdown Ulcer
Index		 Sharpe
Ratio
WPG Partners Select Small Cap Value Fund 11.4 -18.8 6.9 0.37
Lipper Small Core Category -0.1 -22.9 11.8 -0.18

For the strategy, which has been offered in separate accounts since December 2018, the average annual return since inception is 18.13% versus 6.26% for its benchmark.

Second, most small-cap stocks are sort of junk. By Glenmede’s calculation, 40% of all Russell 2000 stocks have negative earnings as do 60% of all new listings. Northern Trust calculates that such stocks have about an 80% probability of trailing the small-cap universe as a whole, often by 600 basis points or more, over any given three-year period. In short, there’s a lot to like about shorting there.

The question is whether WPG’s excellent performance with long portfolios will carry over to shorting. Boston Partners, of course, manages three solid long/short funds which offer some reasons for hope. If so, there are some intriguing possibilities here. If not, WPG Partners Select Small Cap Value is coming up on its three-year anniversary and, independently, has a splendid record.

Administrative details: the fund charges 1.51% on assets of just over $50 million. Nominally the minimum initial investment is $100,000 but Schwab provides access for $2,500 plus a $50 transaction fee. WPG’s website is worth scanning.

WPG Partners homepage.  And WPG Partners Select Small Cap Value Fund at Boston Partners.

Bits and Pieces

By Charles Lynn Bolin

“Bits and Pieces” is a collection of things that I have learned over the past few months. David Snowball suggested that I write articles about transitioning into retirement. This “Bits and Pieces” article contains a few recent insights resulting from these articles.

This article is divided into the following sections:

BERKSHIRE HATHAWAY as a mutual fund

I wrote an article about Berkshire Hathaway stock last month in the Mutual Fund Observer newsletter, “If Berkshire Hathaway was a mutual fund, what would it be?” Charles Boccadoro informed me of the risk and performance for BRK.A is available in the MFO Multi-Screen tool. He points out that Berkshire Hathaway has the advantage of not having an expense ratio like funds, and can hold large amounts of cash, but more importantly in my opinion, is that it has no taxable distributions until you sell it which can defer income and proceeds from sales will be taxed at the lower capital gains rates if you hold it for more than a year. Charles adds that there are 443 funds that hold BRK.A or BRK.B share classes.

I created Table #1 using the MFO Compare Tool to show the performance of Berkshire Hathaway to the S&P 500 over Full Market Cycles, Down Cycles, and Up Cycles. My first observation from the Full Market Cycle section is that BRKA outperformed the S&P 500 by 7 to 10 percentage points annually from 1987 until 2007, but underperformed by less than one percentage point from 2007 to 2019. My interpretation of the recent modest underperformance is that easy monetary policy and Quantitative Easing lowered interest rates and inflated some equity prices while government spending during the financial crisis and pandemic prevented or reduced the severity of recessions. Mr. Buffett is a value investor.

My observation from the Down and Up Cycle sections is that Berkshire Hathaway outperforms the S&P 500 during Down Cycles but underperforms during Up Cycles. Holding cash to buy at lower valuations is a key part of Berkshire Hathaway’s strategy. Secondly, when interest rates are higher, as they are now, the holding costs of cash equivalents are lower.

Table #1: Berkshire Hathaway (BRKA) Performance

Source: Author Using MFO Premium Compare Tool

While writing this article, on Wednesday, July 24th, the S&P 500 fell 2.3%. BRK.B fell only 0.28%. Berkshire Hathaway is on my “Watchlist to Buy” next year. I want to own it in a tax-efficient brokerage account. The reason that I am waiting to buy is that selling other funds to buy it will generate taxable income for this year.

TAXES ON SOCIAL SECURITY

When I was working full-time, taxes were annoying but pretty straightforward. As a retiree, I was appalled to discover that they’re now annoying and complicated.

One change going from being employed and having taxes withheld automatically to being a retiree is that I have to make estimated tax payments to avoid penalties and interest on amounts underpaid on Federal and state taxes. Last year was my first full year of retirement, and working internationally the prior year along with deferred compensation had a modest unexpected increase on my Federal and state taxes owed along with a potential Medicare income-related monthly adjustment amount (an “IRMAA,” which is a surcharge added to your monthly Medicare Part B and Part D premiums, based on your yearly income) that I want to avoid.

This year, I started taking Social Security Pension Benefits. Federal income taxes may be owed if your combined income exceeds $25,000 per year filing individually or $32,000 per year filing jointly. For more information, I refer you to, “IRS Reminds Taxpayers Their Social Security Benefits May Be Taxable”.

My plans include continuing to do Roth conversions gradually over the next three years before the required minimum distributions start. This avoids higher tax brackets and large increases in the Medicare IRMAA.

I am overweight in tax-deferred assets because of the types of accounts available during my accumulation stages. I switched to investing in Roth IRAs around 2007. Having assets spread across after-tax accounts, tax-deferred accounts like Traditional IRAs, and tax-exempt accounts like Roth IRAs allows an investor the flexibility to withdraw from the most advantageous account considering market fluctuations and evolving tax rules. It also allows flexibility in locating investments to be most tax-efficient.

IRS Form W-4V is a Voluntary Withholding Request which can be filled out and sent to the IRS to have 7%, 10%, 12%, or 22% withheld from Social Security Benefits. I like simple and put my withdrawals on autopilot.

FIDELITY PERSONAL ADVISORY SERVICES

At a Big Picture level, I follow a pretty simple investing plan (three distinct “buckets,” one for each of my major objectives). Lately, I’ve been using Fidelity services to handle some of the finetuning for me. Here’s a word about how that’s been working.

I follow the Bucket Approach with Bucket #1 for short-term living expenses, Bucket #2 mostly for covering expenses for the next ten years, and Bucket #3 which is largely for money that may be passed on to heirs (legacy). Complicating this simple concept are after-tax accounts (brokerage), tax-deferred accounts (Traditional IRAs), and tax-exempt accounts (Roth IRAs). I am overweight in tax-deferred assets and wish to have more in tax-exempt and tax-efficient after-tax accounts.

Fidelity Go is a Robo Advisor service with fees that range from 0% to 0.35%. Fidelity Wealth Management fees range from 1.5% to 0.5% for amounts ranging from $500,000 to $2 million so there is an incentive to have them manage more of our money. For $2 million managed through Fidelity, they offer the Fidelity Private Wealth Management. Fidelity describes advisory fees for Fidelity Wealth Management as:

The advisory fee does not cover charges resulting from trades effected with or through broker-dealers other than Fidelity Investment affiliates, mark-ups or mark-downs by broker-dealers, transfer taxes, exchange fees, regulatory fees, odd-lot differentials, handling charges, electronic fund and wire transfer fees, or any other charges imposed by law or otherwise applicable to your account. You will also incur underlying expenses associated with the investment vehicles selected.

Earlier this year, Fidelity ran an optimizer to determine asset allocations for multiple goals for my accounts to achieve retirement goals and accounts to achieve legacy goals. The end result was that I increased allocations to stock in accounts included in the legacy goals that will be passed on to heirs. More recently, it was a small step to enroll in the Personalized Portfolios services which manages assets across accounts to reduce the impact of taxes. Some of the accounts included in the Personalized Portfolios are self-managed where I save on management fees.

Fidelity created a personal plan (360-degree) plan with both retirement and legacy goals. Fidelity classifies my retirement asset allocation as “Conservative”. Our accounts with legacy goals are classified as “Aggressive Growth”. The major change was to switch from single account management to “Household Tax-Smart Strategies”. Fidelity provided us with a list of funds and allocations that they will be transitioning us to. One recommendation was to increase allocations to short-term fixed-income investments which I did as part of annual rebalancing.

PORTFOLIO FEES AND PERFORMANCE

It’s a good practice to review asset allocations, performance, and fees annually with spot checks quarterly. This year we asked ourselves why we were paying over 1% in management fees for a special purpose account with a balanced allocation when we could incorporate it into our overall portfolio and invest it in a single equity fund, saving management fees. We transferred it to Vanguard and are transitioning it to a tax-efficient equity fund.

We use wealth management services at both Fidelity and Vanguard. In June of last year, I wrote, “Helping a Friend Get Started with Financial Planning” about helping a friend by the pseudonym “Carol” select a Financial Advisor. She asked me recently, why I responded to her question of whether Fidelity or Vanguard was better with, “I don’t know and will tell you in about a year.” Fidelity fees are around 1% for my selection of services and assets managed while fees at Vanguard for their Personal Advisor Select are 0.3%. We have no advisory fees on investments that I manage which collectively are the more conservative.

There are several advantages to using advisory services. I gain from their expertise in asset allocation. They perform asset rebalancing. Some funds with lower fees or active management are only available to clients of advisory services. As we age, we will have cognitive decline and may need assistance. We may not have the time, expertise, or interest in managing investments or may just prefer assistance. Having a Financial Advisor may help us stick to a plan during stressful downturns. Finally, it is important to have financial advice and plans in place for our loved ones in case of our passing.

We have invested at both Fidelity and Vanguard throughout our careers and upon retirement chose to leave assets at both companies and to use the advisory services at both. We get the low-cost buy-and-hold strategy of Vanguard along with the more active business cycle approach of Fidelity along with higher fees. We keep fees low by managing a portion of the assets ourselves. After-tax performance for similar allocations is the other side of the equation. I am pleased with advisory services from both Fidelity and Vanguard but have not been with either long enough to make a reasonable comparison. We may decide to consolidate at some point.

Carol has been with Vanguard for almost a year now. I spent some time showing her how to evaluate her funds, allocations, and performance. Vanguard also manages assets across accounts as one portfolio. She was very pleased with how much she had made in the past year. I also helped her prepare a list of questions for her meeting with her advisor. She was also pleased with his responses and has a follow-up meeting.

Closing

The decline in “Defined Benefit Pensions” and the rise of tax-advantaged accounts shifted more of the financial responsibility to employees. “Financial Literacy” is important for people to know how to manage their money. Having an advisor is no substitute for “Financial Literacy” but it does ease the burden.

Summer thoughts

By Devesh Shah

“Rest is not idleness, and to lie sometimes on the grass under trees on a summer’s day, listening to the murmur of the water, or watching the clouds float across the sky, is by no means a waste of time.” John Lubbock, The Use Of Life (1896)

I’ve let my brain disconnect from the urgent events of the day (month, season, year …) a bit, and gave it rein to go where it wished on sultry summer afternoons. Bit and pieces of what it reported back to me follow!

Opting out of Options ETFs

Assets for options-based ETFs are growing fast. Innovation has come from new entrants as well as traditional ETF issuers. I’ve written two articles on options-based funds. Sometimes, I am afraid of opining too strongly and prefer to let the data talk between the lines. But I am going to pull the Band-Aid off: Don’t be caught up by the skin-deep beauty of these new products.

These products are complex, incur significant bid-offer costs for the ETF providers, and they are all passed on to the end buyer in one form or another. If you must own stocks and are afraid of a stock market crash, reduce your stock allocation.

Not into long bondage

I do not understand the fascination of owning longer-term bonds (10-year Treasuries at 4.1%). There is no desire to impose fiscal discipline at the Federal government level. The political dialogue is depressing from both parties.

I do understand owning T-Bills to balance out equity risk or owning short-duration credit funds which are proven to be well managed.

Celebrating exceptional fixed-income managers

One of the better-performing funds this year comes from the Holbrook families. I’ve looked into those funds, and they may be interesting for some investors. Scott Carmack is grateful to the Mutual Fund Observer for helping kick off his mutual fund AUM in 2017. We spent a lot of time talking two months ago to understand what they do in the Holbrook Income Fund (HOBIX) and Holbrook Structured Income Fund (HOSIX). My understanding of the credit bond universe is not deep enough for me to write with confidence and authenticity about these funds. For the smarter bond investors, they bear further investigation to make your own decisions.

I prefer the steady hand of Sherman and the crew at the CrossingBridge funds. For a little more duration, perhaps the Artisan High Income Fund and the Osterweis funds.

Not heading overseas this summer

At least not in my portfolio.

I also do not feel any need to increase allocation to international equities or emerging market equities. Both asset classes feel depressing. I travel a lot and try and observe business productivity and efficiency closely in foreign places. Despite all of America’s shortcomings, being a customer here is a pleasure once you’ve worked with the slow pokes elsewhere. Sure, there are good businesses abroad and one must own them through a few select active funds. Artisan International Value and Moerus Global Value make sense to me.

India still seems to be growing strong and is within hair’s distance of beng the biggest weight in MSCI Emerging Markets, taking over China. That will happen.

I wonder about Hong Kong Equities as an area to research further. iShares MSCI Hong Kong ETF (EWH) has a dividend yield of over 5%, trades 45% below its 2021 high, and has seen nothing but outflows. It’s interesting. Isn’t that a time to buy assets? Maybe early. I don’t know enough but I’ll be doing more work.

Wondering if the wheels are coming off, or if it’s just the sound of gears shifting

The US equity markets continue to be the only game in town worth watching and being involved in. But the wheels are turning here. I am not clued too deeply into growth companies or value companies and can’t recommend the twists and turns, but here’s Bill Gross on Value vs Growth suggesting value’s place in his portfolio and how value will probably outperform unless AI leads to a serious increase in productivity.

Celebrating lifelong learning, with a summer of podcasts

I liked listening to these podcasts moderated by Nicolai Tangen, CIO of Norges Bank Investment Management, the largest sovereign wealth fund with $1.5 Trillion in assets.

Dario Amodei CEO of Anthropic: Claude, new models, AI safety and economic impact

Jensen Huang – CEO of NVIDIA

I would recommend spending time listening to these two. So much is changing in our world with AI. I don’t know anything about revenues or earnings from AI, but I know we are going to live differently in just ten years as AI makes its way through every single field of knowledge. Don’t write off AI as a blip. Listen to these participants.

I also listen to Columbia University’s Value Investing with Legends podcast.

Listening to a balance of people who represent growth companies as well as value Investors makes me slow down before I get too bullish or bearish. There is a lot happening we don’t understand and it’s better to listen to smart people than fondle my biases.

Wishing you a restful, languid end to summer!

A bet on Berkshire being more than Buffett

For my portfolio, I’ve felt most confident in sticking with Berkshire Hathaway. It’s not the fastest growing company in the world but I am a fan of the natural barbell exposure to T-Bills and American businesses. I’ve been warned that people die of old age. More than any one individual, I believe in institutional strength. Some organizations have it. Most don’t. Berkshire Hathaway does.

Briefly Noted

By TheShadow

Updates

As of July 19, 2024, the Amplify High Income ETF went from passively tracking an index of the top 45 US closed-end funds to tracking the top 60.

Briefly Noted . . .

The US Securities and Exchange Commission reserves the right to study any proposed fund offering for 70 days before the adviser is permitted to offer the fund for sale to the public. During that time, (a) the SEC might require substantive or editorial changes to the fund’s prospectus and (b) the adviser is permitted to say nothing about the fund beyond “please read the applicable SEC filings.” Advisers can open up only after passing the 70-day deadline for the SEC to object.

MFO routinely tracks funds in the pipeline to give readers a heads-up about opportunities to learn more and to invest. This month saw an array of interesting, and occasionally fascinating, filings.  Among the funds that caught our eye:

The Bridgeway Global Opportunities Fund will be a global long/short equity fund. Bridgeway is a dedicated quant shop, and the long portfolio here will be a global collection of growth-at-a-reasonable-price stocks. The short portfolio will be … hmmm, stocks that have some combination of weak growth and high prices. (They’re surprisingly common.) The managers will seek to create a market-neutral portfolio, which they oddly call “dollar neutral,” so that the overall performance of the fund depends on the net performance of its long and short positions. They will not hedge their currency exposure, which might materially affect performance. There will be four portfolio managers, Jacob Pozharny, PhD, John Montgomery, Christine L. Wang, and Elena Khoziaeva. Expenses will be 6.17% after the fee waiver, of which 4.5% are dividend and interest expenses on the short portfolio. As hurdles go, 6.17% looks a lot like the Great Wall of China.

Brookmont Catastrophic Bond ETF (ROAR) will invest at least 80% of its net assets (plus the amount of borrowings, if any) in catastrophe bonds. The insurance industry defines “catastrophes” as events that cause $25 million or more in insured property losses, 10 deaths, 50 injuries, and/or 2000+ insurance claims. The number of natural catastrophes is soaring (the average year used to see $30 million in losses, the past three years have averaged $100 million with all those numbers adjusted for inflation) and is unpredictable year-to-year. In the long term, insurance companies deal with catastrophes by raising rates and cutting coverage. In the short term, they hedge their risks by issuing catastrophe bonds. Catastrophe bonds, also known as event-linked or insurance-linked bonds, are structured securities whereby insurers or reinsurers transfer specific risks, typically those associated with severe events such as catastrophes or natural disasters, to capital market investors. These investments also may cover risks such as mortality, longevity, and operational risks. Ethan Powell will be the portfolio manager. Expenses have not yet been disclosed.

Calamos Laddered S&P 500® Structured Alt Protection ETF will provide a US large-cap equity market while attempting to limit downside risk through a laddered portfolio of twelve Calamos S&P 500 Structured Alt Protection ETFs. The term “laddered portfolio” refers to the fund’s investment in multiple buffered funds that have target outcome period expiration dates which occur on a rolling basis. In theory, the “laddered” nature of the investments in the ETFs creates diversification of the investment time period which is intended to mitigate the risk of failing to benefit from the downside protection of a single ETF due to the timing problems. Eli Pars, Jason Hill, David O’Donohue, Jimmy Young, and Anthony Vecchiolla will be the co-portfolio managers.  Expenses have not been disclosed.

CrossingBridge Nordic High Income Bond Fund will invest in … ummm, high-yield bonds issued, originated, or underwritten out of the Nordic Countries (look to the right if you’re fuzzy on the team). Those securities might include corporate, governmental, and quasi-governmental bonds. The corporate category will include fixed or floating-rate bonds, zero-coupon bonds, and convertible bonds.

Two primary risks are default and currency. The managers control default risk by selecting securities of issuers that they believe will pay interest and principal regardless of their credit rating. They might even buy securities from firms in bankruptcy if the liquidation value of the corporation exceeds its total debt. And the managers will typically hedge their currency exposure. David Sherman and Spencer Rolfe are serving as the portfolio managers. Expenses have not been stated.

Virtus KAR Mid-Cap ETF will invest mostly in US mid-cap stocks that “have a sustainable competitive advantage, strong management and low financial risk and to be able to grow over market cycles.” The goal is risk-managed capital appreciation. Jon Christensen, CFA, and Craig Stone, both employees of the subadviser, Kayne Anderson Rudnick Investment Management, LLC, will be the portfolio managers. The same duo manages the five-star Mid-Cap Core and four-star Small-Mid Cap Core funds. Expenses have not been stated.

Small Wins for Investors

Brown Capital Management has eliminated the 2% fee on its International All Company and International Small Company funds effective July 25.

The investment minimum on the AAA and Advisor classes of Gabelli ABC Fund has dropped from $10,000 to $1,000.

Morningstar celebrates “3 Great Funds That Just Reopened to New Investors” (7/30/2024). Russel Kinnel, their director of manager research, describes himself “As a contrarian, [who] likes to buy funds when they reopen because it usually means they invest in an out-of-favor area and their capacity challenges have diminished.” The three funds he commends to your attention are:

  1. Vanguard Primecap VPMAX
  2. Vanguard Primecap Core VPCCX
  3. T. Rowe Price New Horizons PRNHX

Both Primecap funds have risk-adjusted performance in the top tier of their Lipper peer groups for the past decade, with Primecap Core earning the Great Owl designation for top-tier performance across all trailing measurement periods. New Horizons has been a laggard, while still returning over 10% annually for the past decade.

Closings (and related inconveniences)

Hmmm …

Old Wine, New Bottles

Effective September 1, 2024, Baron New Asia Fund becomes Baron India Fund. Indian stocks occupy half of New Asia’s portfolio, approximately three times as much as its peers hold. The fund launched in July 2021 and has been underwater since inception despite returning 20% YTD returns (through 7/5/2024).

Gabelli Financial Services Opportunities ETF is transitioning from a semi-transparent or non-transparent ETF into a transparent ETF that will disclose its portfolio holdings daily. The “non-transparent” designation is used by managers who are fearful of front-running; that is, larger funds often need to buy or sell holdings slowly in order to avoid disrupting the market for those shares. If, on Monday, it becomes clear that a certain fund will be buying shares for the next two or three days, hedge funds will swoop in and buy them ahead of the ETF purchases. The ETF is forced to buy somewhat more expensive shares because of the front-running, and their purchases temporarily drive up the share price further. The hedge funds then cut and run, pocketing a profit at the expense of the fund shareholders. The non-transparent structure is a bit of a headache and imposes a bit of overhead, so funds increasingly sacrifice whatever protection it offers them.

The “Mainstay” funds name will not be a “mainstay” anymore.  The Mainstay name will be changed to NYLI for New York Life Investments on or about August 28. The name change will affect numerous equity and bond funds. A list of the funds involved in changing its names are posted on the board.

Off to the Dustbin of History

BBH Partner Small Cap Fund Equity will be liquidated on or about September 30.

The Destra Granahan Small Cap Advantage Fund will be liquidated on or about August 6.

DriveWealth NYSE 100 Index ETF is expected to take its last drive on or about July 29, 2024.

Guinness Atkinson Renminbi Yuan & Bond Fund will be liquidated on or about August 20.

iMGP DBi Hedge Strategy ETF, which in a simpler world might have been called a Litman Gregory Fund or a Masters fund, will be liquidated on or about September 20, 2024.

Janus Henderson International Sustainable Equity ETF will be liquidated on or about October 16. Metropolitan West Floating Rate Income,  Metropolitan West Investment Grade Credit, and  TCW High Yield Bond Funds will be reorganized into TCW Senior Loan ETF, TCW Investment Grade Credit ETF, and TCW High Yield Bond ETF, respectively. The reorganization will occur on or about late third quarter or fourth quarter of 2024, but each reorganization may be delayed.

Templeton China World Fund will be merged into Templeton Developing Markets Trust on or about October 25, 2024.

Xtrackers MSCI All World ex US High Dividend Yield Equity ETF was liquidated on July 22, 2024.

Launch Alert: T. Rowe Price Intermediate Municipal Income ETF

By David Snowball

On July 10, 2024 – T. Rowe Price launched T. Rowe Price Intermediate Municipal Income ETF (TAXE), an actively managed ETF. Price has 16 other ETFs, including semi-transparent and transparent equity and income funds but this is the first that does not directly mirror an existing fund.

The fund is co-managed by James Lynch and Charlie Hill, who collectively have 53 years of investment experience, and have served in portfolio management roles for other T. Rowe Price intermediate-term municipal bond strategies. Mr. Hill had managed the three-star $5.4 billion T. Rowe Price Summit Municipal Intermediate Fund (PRSMX) since 1993. Morningstar celebrates its “standout team and compelling and repeatable process [which] make it a strong pick.” Mr. Lynch was named a co-manager of the fund in June 2024.

What the fund does: The fund seeks the highest level of income exempt from federal income taxes consistent with moderate price fluctuation. The plan is to invest primarily in investment-grade municipal securities rated in one of the four highest rating categories assigned by a major credit rating agency. That said, they reserve the right to buy high-yield bonds. In general, the weighted average effective maturity will be four to twelve years.

Why it might: The Wall Street Journal offers this teaser for the asset class: “Want to get a tax-free return on your money? Put sewers and subway systems in your portfolio. The municipal bonds that state and local governments sell to pay for unsexy-sounding infrastructure projects are offering their highest yields in more than a decade” (“Earn 4.5% With No Taxes? How to Invest in Municipal Bonds,” WSJ.com, 10/19/2023). Some argue that muni bonds are systemically underpriced because few investors understand that 3.5% tax-free can be a lot better than 4.5% taxable.

Three reasons to consider this ETF, each related to Summit Municipal Intermediate. First, the Summit fund does a useful thing in a quintessentially T. Rowe Price way. Over the course of the 21st century, the fund has delivered marginally above-average returns with consistently below-average volatility. Morningstar notes, “The team has a track record of navigating a variety of markets well. The fund’s shorter duration and strong security selection helped it beat more than two-thirds of rivals in mid-2013 when muni yields spiked. The same helped cushion the blow in 2020’s market selloff.” Measured by the Sharpe ratio, it’s a top-five choice over the past 25 years. Second, the Summit Fund has a $25,000 minimum initial investment. The ETF weighs in at $1. Third, the Summit Fund charges 0.51%. The ETF is less than half of that, at 0.24%. That puts it in the cheapest 20% of all funds and ETFs in its peer group.

Price is very clear that the ETF is not a clone of the fund: “This ETF is a new strategy, the first of the firm’s fixed income active ETFs that is distinct from existing T. Rowe Price mutual funds.” That said, the team is the same and the words used to describe the investment strategy are the same.

I wouldn’t expect magic. Muni managers can add a little bit to total returns, but not much. Over the past 25 years, the intermediate municipal group has returned 3.5% annually, and 28 of the existing 30 funds fell within 0.3% of that average. One high-vol fund made much more than the group, one low-vol fund made much less, and everyone else clustered.

The administrative details: the ETF charges 0.24% on assets of $50 million. T. Rowe Price Intermediate Municipal Income ETF homepage.