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Adrian Larson
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Adrian is a co-founder of Pathlight Investors, where he endeavors—along with the firm’s other founders—to serve clients not just as a portfolio manager and fiduciary, but to be their advocate within the investment marketplace. He is a member of the investment committee, working to have... More
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  • Pathlight Investors 3Q10 Review Part 2 0 comments
    Nov 2, 2010 12:08 PM | about stocks: ACGY, MMM, CL, MCD, KO, VZ, NVS, BLK, BAC, HSH, GVA, MOO, EWZ, VWO, SH, RWM, PSCF

    Market & Investment Review

    Third Quarter 2010


    Portfolio Positioning

     

    Market movement, economic data, and expectations are all major drivers of market direction and must be carefully considered; however, in an environment that sends mixed messages, it is important to have a time-tested discipline and framework from which to make decisions.  Pathlight’s investment committee relies heavily on history, common sense, independent thought, and debate before making portfolio decisions. This approach served us well during Q3 as we were reminded that the short-sighted nature of both Wall Street and the media can provide good opportunity for investors.

     

    It is no secret that the engine of global economic growth is revving in places like China, Brazil, and India.  This has been the case for the better part of the decade.  Historically, investing in these countries and other emerging markets required investors to assume significant political risk.


    For that reason, our preference was to own quality businesses domiciled in developed countries with a strong presence in emerging markets.  We believed owning companies with long operating histories, trustworthy reporting, and a global expertise was preferential to investing directly into local companies.  Many well-known multinational corporations fit that description and count a large percentage of sales and much of their growth from newer economies (see chart below).

     

     

    Company

    2009 Emerging Market

    % Revenue Exposure

    Colgate

    42%

    Coca Cola

    33%

    3M

    33%

    McDonald’s

    24%

    Source: Company Annual Reports

     

     

    This quarter, our emerging growth strategy was enhanced with the addition of Vanguard’s Emerging Markets ETF (symbol VWO) to the Quality Growth portfolio.  Our purchase of the VWO is an indication of an increased confidence for investing directly in companies domiciled throughout emerging economies.  We believe the growth opportunities are substantial for indigenous companies; they understand the markets better than outsiders, they are likely to partner with established firms when necessary, and direct investments provide some protection against a depreciating dollar.  Our intention is to increase emerging markets exposure at opportune times, remain flexible in our thinking, but steadfast to our discipline.

     

    In the Global Macro portfolio we were buyers in the face of growing investor pessimism.  In our opinion, investor sentiment had become too negative during the quarter as reality was being overshadowed by the new cottage industry of predicting bubbles, depressions, and currency collapses. During the quarter, we sold all inverse positions (removing the downside protection) and added to sectors that were under the most pressure, namely agriculture and financial services.  The agricultural addition, through the Market Vectors ETF (symbol MOO), was most beneficial, gaining 34.4% since July 6, when we added to the original position.  Our Global Macro strategy seeks to capitalize on short-term market inefficiencies and in the third quarter our timing was beneficial.

    Positive and Negative Contributors

     

    Each quarter we highlight positions in the Quality Growth and Global Macro model portfolios that had the most significant (positive and negative) price movement.

     

    Below are tables highlighting the top and bottom five performing positions during the third quarter of 2010 for the Quality Growth model portfolio.[i]

     

    Quality Growth Top 5

     

    Position

    Q3 % Return

    Acergy – ACGY

    +24.7%

    Verizon – VZ

    +24.5%

    Novartis – NVS

    +19.4%

    Blackrock – BLK

    +18.7%

    Coca Cola – KO

    +16.8%

     

    Quality Growth Bottom 5

     

    Position

    Q3 % Return

    Bank of America – BAC

    -8.8%

    Sara Lee – SLE

    -4.8%

    Granite Construction - GVA

    -3.6%

    Colgate - CL

    -2.4%

    Roche – RHHBY

    -0.5%

     

    Below are tables highlighting the top and bottom three performing positions during the third quarter of 2010 for the Global Macro model portfolio.[ii]

     

    Global Macro Top 3

     

    Position

    Q3 % Return

    Market Vectors Agribusiness – MOO

    +26.6%

    iShares MSCI Brazil - EWZ

    +24.4%

    Vanguard Emerging Markets - VWO

    +19.7%

     


     

    Global Macro Bottom 3

     

    Position

    Q3 % Return

    Proshares Short S&P 500 - SH

    -3.7%

    Proshares Short Russell 2000 - RWM

    -0.5%

    SPDR Financials – XLF

    +3.8%

     

     

    Where do we go from here?

     

    We believe that equity markets have found their footing as the negative storylines—slowing growth, high unemployment, poor housing data, sovereign debt issues, and austerity—are well-known and not likely to worsen.  Stocks, and more specifically, reasonably valued, high quality dividend-paying equities, have sufficient support to guard against a significant retrenchment. We believe volatility will likely continue, but our more optimistic views remain and are predicated on the following assumptions:

     

    1.      Earnings will be good enough to at least maintain current 2010 and 2011 estimates. Our view is against the consensus which has strategists and research analysts lowering their earnings expectations based on double dip recession fears.

    2.      Investors that have moved into money markets and government bonds will not perpetually accept near-zero returns on investment.  Investors will gradually assume more risk and become comfortable owning equities again.  These investors will seek growth and income thus gravitating toward reasonably valued dividend stocks.

    3.      Mutual funds and hedge funds will continue to be forced to chase performance by covering short positions and buying more into rising equity markets.

    4.      Mid-term elections in November will shift some power away from a party and administration that is perceived to be anti-business and pro-tax.  This will boost business and investor confidence.

    For better or worse, we are in a period of uncertainty, but that is nothing new.  The fact is that we have faced an enormous de-leveraging of private sector balance sheets and still struggle with high unemployment and a lack of confidence.  Unfortunately, debt is now burdening federal, state, and local governments, forcing deficit spending as tax revenues remain weak.  While we have serious concerns about the sustainability of debt-fueled government spending, we do not believe it puts the economy in near-term danger.  Rather like the predecessors before them, another congress and administration will likely have to deal with the ramifications from decades of overconsumption, poor decisions, and lack of political will.



    [i] Pricing data is compiled from Thompson Reuters and considers only changes in the price of the named security.  It does not include the contribution from dividends or interest received.  For holdings that were not in the portfolio the entire quarter, the price change is representative of the time period for which it was held in the Quality Growth discretionary model portfolio.

     

    [ii] Pricing data is compiled from Thompson Reuters and considers only changes in the price of the named security.  It does not include the contribution from dividends or interest received.  For holdings that were not in the portfolio the entire quarter, the price change is representative of the time period for which it was held in the Global Macro discretionary model portfolio.

     

    This newsletter is limited to the dissemination of general information pertaining to Pathlight Investors, LLC’s (“Pathlight Investors”) investment advisory services and general economic market conditions.  The information contained herein should not be construed as personalized investment advice and should not be considered as a solicitation to buy or sell any security or engage in a particular investment strategy.  Past performance is no guarantee of future results, and there is no guarantee that the views and opinions expressed in this newsletter will come to pass.  Investing in the stock market involves gains and losses and may not be suitable for all investors. 

    Pathlight Investors is an SEC-registered investment adviser with its principal place of business in Arizona.  Pathlight Investors and its representatives are in compliance with the current registration and notice filing requirements imposed upon registered investment advisers by those states in which Pathlight Investors maintains clients. 

     

    Pathlight Investors may only transact business in those states in which it is notice filed, or qualifies for an exemption or exclusion from notice filing requirements.  Any subsequent, direct communication by Pathlight Investors with a prospective client shall be conducted by a representative that is either registered or qualifies for an exemption or exclusion from registration in the state where the prospective client resides.  For information pertaining to the registration status of Pathlight Investors, please contact Pathlight Investors or refer to the Investment Adviser Public Disclosure web site (www.adviserinfo.sec.gov).

     

     A list of all recommendations made by Pathlight Investors within the immediately preceding one year is available upon request at no charge.  Not all clients own the holdings listed in the charts above.  Clients may own different securities based upon their individual needs and investment strategies.





    Disclosure: long acgy, MMM, CL, mcd, ko, vz, nvs, blk, bac, sle, gva, rhhby, moo, ewz, vwo, sh, rwm, xlf
    Themes: equities, dividends, etf Stocks: ACGY, MMM, CL, MCD, KO, VZ, NVS, BLK, BAC, HSH, GVA, MOO, EWZ, VWO, SH, RWM, PSCF
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