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Smead Capital Management is a registered investment advisor headquartered in Seattle, WA; founded in 2007. The company was formed to allow investors to benefit from long-term ownership of common stocks meeting the firm’s eight proprietary investment criteria. The firm manages a US Large Cap... More
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  • A Rodney Dangerfield Market

    Printable Version

    Dear Fellow Investors:

    I love to watch the biographies on CNBC and on the A&E Channel. Rodney Dangerfield’s biography was on last week. Born Jacob Cohen, Rodney worked as a comedian for years as Jack Roy. He floundered a long time, but he worked hard perfecting his jokes. He ultimately broke through nationally by appearing on the “Tonight Show” and on “The Ed Sullivan Show”. His agent gave him the name, Rodney Dangerfield, after a character in one of Jack Benny’s old shows. His career exploded when he came up with his trademark introduction, “I get no respect”. Most of his jokes were attached to less than great things which went on in his life whether real or fiction.

    At Smead Capital Management (SCM), we go through phases when we feel a little like Rodney. We are a large cap value firm with a series of eight criteria. These criteria seek to guide us to companies which have demonstrated: 1) success in the past, 2) have strong balance sheets, 3) have wide moats to protect the duration of their profitability, 4) generate high levels of free cash flow and, 5) are available at below market PE multiples or are available for purchase at 30 to 50% below intrinsic value.

    When we go for an extended period of time with markets not recognizing the merits of our portfolio we can feel a little sick. Rodney went to the doctor because he felt a little sick. The doctor told him, “Rodney you are sick.” He says, “Can I get a second opinion?” The doctor replies, “Yes, you are ugly too.” We believe to make above-average returns in an expense minimizing and tax efficient way, you need long duration investments. Low turnover promotes low trading costs and lays the groundwork for the kind of wealth creation that only comes from having a significant part of a portfolio invested in stocks which garner long-term dividend growth and trade at many times original investment ten to twenty years later. Can we at SCM pursue anything more contrary to the conventional wisdom and popular investment approaches of today? Holding periods on the New York Stock Exchange are the shortest ever recorded in recent years and portfolio turnover among large cap equity mutual fund managers is close to all-time highs.

    Even if you have a reason to believe that you own superior companies and are patient enough to hold many of them for years to receive the long term benefits, you can temporarily feel ugly too. One day you come in and the market is down because of the fear of our economy collapsing. The next day investors are chasing the hot commodity or ETF of the day. Rodney would say, “It’s tough out there.” Based on trailing and consensus estimates of non-GAAP earnings, our companies trade at sizable PE discounts to the S&P 500 Index. This is despite having superior ten-year records of revenue and earnings growth in comparison to the S&P 500 Index. Rodney said, “I get no respect. I play hide-and-seek, and they wouldn't even look for me." Individual and institutional investors rarely seek out a portfolio when its style is out of favor and the most future success is available near the lowest prices.

    We believe difficult markets are a great time to hone your craft and patiently wait for the benefits of buying and holding well-chosen common stocks. They were many times when Rodney felt like giving up, but ultimately he attained wealth and fame at the highest levels of the entertainment industry. His on-stage persona and trademark lines differentiated him from other comedians and caused him to bond with a large group of fans covering three generations. We believe that many of our portfolio holdings could have very bright long-term futures, even though at the moment, they are a little short on respect.

    Best Wishes,

    William Smead

    The information contained in this missive represents SCM's opinions, and should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results. Some of the securities identified and described in this missive are a sample of issuers being currently recommended for suitable clients as of the date stated in this missive and do not represent all of the securities purchased or recommended for our clients. It should not be assumed that investing in these securities was or will be profitable. A list of all recommendations made by Smead Capital Management with in the past twelve month period is available upon request.






    Disclosure: No Positions
    Aug 10 3:58 PM | Link | Comment!
  • God of Carnage

    Printable Version


    Dear Fellow Investors:

    As a reward for executing a hectic east coast business trip, we went to a play called “God of Carnage”. Jeff Daniels and Lucy Liu starred in this four-actor, one-act play about two couples seeking to deal with a fight between their two 11-year old sons. The 90 minutes of conversation originally centered around how to deal with Lucy’s son punching the other boy and breaking two teeth. It was amicable at first, but then ultimately descended into arguments. The conversation exposed most of the individual flaws of all four parents and definitely exposed all the cracks in each marriage. It was very humorous.

    Lucy’s husband played the part of an attorney who represented a drug company. He was on the cell phone constantly dealing with a crisis related to the side effects of one pharmaceutical product. His dishonest attitude and lack of ethics were on display as he interrupted the discussion on how to deal with the consequences of the fight between the two boys. Since art is a reflection of the culture of the day, the inherent evil of this man and the company which he represented were one of the main centerpieces of the play.

    At Smead Capital Management (SCM), we are especially interested in what John Templeton called “the point of maximum pessimism”. To understand pessimism you have to look to the media, to the arts and to what we call “the well-known fact”. This is a body of economic information which is known to all participants and has been pretty much acted on by anyone who would care to act. As the City College of New York professor told former Intel CEO Andy Grove, “When everybody knows that something is so, it means nobody knows nothing.” Our politicians, media and artists know that “Drug” companies are evil. Investors know to stay away from them. The major pharmaceutical companies all trade in the lowest Price/Earning (PE) ratio quintile in the S&P 500 Index, and are the cheapest compared to the other sectors of the US stock market as we have seen in 20 years. Drug stocks haven’t been this small a part of the S&P 500 Index since 1984.

    This reminds us of the documentary in 2003 about McDonald’s called “Supersize Me”. A young man ate three meals a day at McDonald’s for six weeks and agreed that he would supersize his meal every time an employee asked him if he would like to. He gained a great deal of weight, saw his cholesterol shoot through the sky and was well on his way to killing himself through food over the longer haul. The “well-known fact” in 2003 was that McDonald’s sells unhealthy, high fat foods and doesn’t care whether they are going to kill you in the process. Investors were sure that there would be a big backlash and McDonald’s business would be damaged for years. The stock bottomed out around $15 per share, way down from prices above $30 per share just a few years before.

    Pharmaceutical companies make vaccines, treatments and cures by manufacturing medicine. They seek to profit from improving the health of human beings and extending the quality and duration of life. The barriers to entry in their industry are very high because it costs about $1 billion to produce a blockbuster drug. They receive patent protection because many of the medicines they attempt to create never make it to the market and only end up creating expenses. These companies maintain fortress-like balance sheets and earn very high returns on unleveraged capital. In the process, they generate massive levels of free cash flow and pay generous dividends.

    The point of maximum pessimism associated with the makers of medicine is tied to four main beliefs. First, they are an easy punching bag for politicians (including the President of the US). Most studies put pharmaceutical sales at around 10% of what we spend on healthcare in the US. Second, they’ve been feasted on by litigators. The Vioxx settlement shows that whatever downside risk there is associated with a medicine will get exploited to the maximum until we get tort reform. Third, the FDA is scared to approve new medicines at the expense of thousands of people who lives might be hugely impacted by use of a drug not yet approved for sale. Lastly, a number of major existing blockbusters are losing their patent in the next four years and investors can’t visualize where these once admired companies will get future revenue growth.

    Today, McDonald’s is around $70 per share and has been one of the best large cap performers in the S&P 500 Index since the documentary was released nationwide in theatres. They have added healthier choices to their menu, but they still make most of their money selling clean, inexpensive, high-fat content food all over the world.

    At SCM, we believe the makers of medicine have very little downside risk as the result of the attitudes exhibited by the play “God of Carnage”. As we drive up to the New York Stock Exchange window to order our common stocks, we ask for pharmaceutical manufacturers and say, “Supersize Me”.

    Best Wishes,

    William Smead

    The information contained in this missive represents SCM's opinions, and should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results. Some of the securities identified and described in this missive are a sample of issuers being currently recommended for suitable clients as of the date stated in this missive and do not represent all of the securities purchased or recommended for our clients. It should not be assumed that investing in these securities was or will be profitable. A list of all recommendations made by Smead Capital Management with in the past twelve month period is available upon request.




    Disclosure: Long MCD


    Disclosure: Long: MCD
    May 18 1:16 PM | Link | Comment!
  • Dislodged

    Printable Version


    Dear Fellow Investors:

    When I was 5 years old I got a life saver stuck in my throat while grocery shopping with my parents. My Dad grabbed me by the ankles and turned me upside down. He shook me a couple of times until the sweet lozenge dislodged. We just did the same thing in the US stock market in the last week.

    We at Smead Capital Management believe that the market has an uninterrupted BRIC trade lozenge stuck in its throat. This lozenge causes the US stock market to choke on over-priced oil, basic materials and industrial shares. While we are seeing a textbook economic recovery, we are using much less gasoline than a year ago. We are also embarking into the world of electric cars. Why is the price of a commodity going up when its best customer is using less?

    In our opinion, the answer is that the capital market participants believe as deeply in uninterrupted growth in China as I believed in the good flavor of orange and cherry flavored life savers at age five. The only way to get it out of me was to shake me and the only way to change the investment trend is to shake it with high volatility. The Chinese stock market, as represented by the Shanghai Composite, fell 1.9% last night in overseas trading. That’s a decline of 20% in the last nine months, qualifying for bear market territory. Stock markets have a tendency to look out one year on economic activity.

    Ignore the noise and enjoy owning America's fine companies in areas like consumer, banking and healthcare. When we get this BRIC trade out of our throats, we believe under-priced non-cyclicals will take over market leadership.

    Best Wishes,

    William Smead

    The information contained in this missive represents SCM's opinions, and should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results. Some of the securities identified and described in this missive are a sample of issuers being currently recommended for suitable clients as of the date stated in this missive and do not represent all of the securities purchased or recommended for our clients. It should not be assumed that investing in these securities was or will be profitable. A list of all recommendations made by Smead Capital Management with in the past twelve month period is available upon request.




    Disclosure:

    Disclosure: No positions

    Disclosure: No positIons
    May 11 5:41 PM | Link | Comment!
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