Third Quarter 2019 Update

Dear Clients,
Once again, we are pleased to report that this quarter has been positive for us in both absolute performance terms, as well as in relative performance terms (our portfolio vs the market overall). So far during 2019 we have been fortunate to have witnessed unusually positive overall market returns (combined with our healthy outperformance) and whilst this is a pleasant situation to be in, we do feel it is prudent to issue some caution at this stage.

As you know, we stay well away from ever involving ourselves in any sort of market timing- market movements in the short term (certainly less than a year) are entirely random and driven by sentimental forces led by news flow which would be impossible to predict. However, we do find it useful to objectively put short term returns into their historical context. To that end, the following yardsticks may be of use:

• So far this year the S&P 500 index is +19%
• On average US equities have historically delivered 8-9% per year.
• On average in each calendar year there will be a 14% peak to trough sell-off at some point

Let us be clear, we are not suggesting that there will or will not be a 14% correction during the remaining part of this year, we are merely putting short term returns into their historic context. However, if there was to be a 14% drawdown during the latter part of this year, it would be entirely within historic norms. Our strict adherence to a long- term approach ensures that we will not be whip-sawed by trying to ‘time’ any sort of correction (which is inevitable and will be caused by reasons we yet do not know).

One of the reasons we stay well clear of trying to time such market movements is that investors who do the opposite and try to time market tops to avoid downturns then also typically miss out on the subsequent rallies. Think of those investors who sold out during 2008 then missed out on 2009, which was the best single-year return in decades, or the many others who sold out more recently given weakness in 2018 and then missed out on the +19% we’ve seen so far this year. The implications for this are even greater over the longer term. If you missed out on just the ten best days over the last twenty years, you would have cut your total return in half.

Peter Lynch put it best when he said, “Far more money has been lost by investors preparing for corrections, or trying to anticipate corrections, than has been lost in corrections themselves.”

Instead, what we do is continue to ensure that we own a concentrated number of high- quality companies, and where opportunities arise, we will recycle some capital from what we regard as expensive stocks, into cheaper ones.

For example, during the quarter you would have seen us taking some profits in names like CarMax and adding to some still undervalued names like UPS. This is as close as you will ever see us get to any sort of timing- and it is in fact a stock specific decision- we have an understanding of what we think a business’s intrinsic value is, and if the stock price is above that, then we may look to deploy that capital in other places where we see more opportunity.

As per last quarter, we shall refrain from commenting on any rhetoric surrounding trade talks between the US and China, outside of saying that the whipsaws back and forth on no actual news or change to policy continue to be entirely unhelpful. The market would be functioning a lot better if every single participant had simply ignored the trade talks since the beginning of the year. We have a similar view when it comes to the upcoming presidential election cycle- there is no possible way of us having any ‘edge’ in predicting an outcome and even if we could, we still wouldn’t be able to predict the market’s reaction to that outcome. Our time is better spent ensuring that the companies we own are continuing to perform operationally as we expect and that valuations remain in a place where we can generate good returns.

One final point of note: you may all have noticed a message from TD Ameritrade confirming that they are removing trading commissions on US listed stocks and options. This is an incremental positive for each of you, as even though our strategy is inherently low turnover, we obviously do still incur some commissions which will now cease. Please note, other trading commissions such as those on mutual funds or non- US listed equities will remain.

In closing, as part of our continued goal of sharing more of our research with you, please find linked a recent article we wrote which is particularly pertinent given the market’s performance this year: ‘Why a great company can be a bad investment’.

As always, please get in touch with any questions that you may have.