Quarterly Investment Letter second QUARTER 2012

Transcription

1 Quarterly Investment Letter second QUARTER 2012 July 15, 2012 For the first six months of 2012 the S&P 0 Index performance was 9.49%. The net-of-fees performance for the Value strategy was 5.55% and for the Small Cap strategy was 1.37%. The enclosed Composite Performances page provides detailed performance information with additional benchmarks. THE BIG PICTURE Politics continues to overwhelm economics in the United States. In the short-term, it appears that Congress will do nothing to change our deficit-generating fiscal structure until after the November elections, and the Fed will try to be cautious with its expansive monetary policy moves to avoid claims of political favoritism. But eventually the United States, as a body politic, has to face three important political economy problems that have been left unresolved for the past five years, perhaps because their resolution would allocate pain to special interests groups that are the largest political donors: debt restructuring or destruction, particularly in the form of unsustainable home mortgages; limits on large bank financial markets activities that are effectively backed by the American taxpayer through bank Federal Reserve and FDIC memberships; and simplification of an absurdly complex Internal Revenue Code that rewards narrow, politically powerful interests. The point is, politically developed policies in all three areas have encouraged our current (stagnant or worse) economic situation. The United States fixed the conceptually identical unsustainable debt problems we had with the savings and loan associations in the early 1990s through debt restructurings that were coupled with institution reorganizations and recapitalizations. While the problem is larger today, the solution of orderly financial institution receiverships, debt restructuring and destruction, and ownership and management reorganization remains the proper road to a sustainable real economy. Restructuring and destruction of unsustainable debt that is never going to be repaid, particularly consumer mortgages, would free capital to be used in more productive ways, eventually enabling us to grow out of the current economic stagnation that continues to dramatically increase public debt burdens. There is no better solution than intelligent debt restructuring, notwithstanding the political pain it would bring. Large universal (European style) banks that engage in any and all financial activities, while being backstopped by the government, unnecessarily burden our economy. Historically, government-protected banking has been a limited, conservative agency business involving only taking deposits from people and businesses the bank knows, lending to people and business the bank knows, and providing other credit facilities (such as the bank deposit and payment system) to support the real economy activities of those same customers. Government protection of banking should never allow banks to use cheap, FDIC-backed deposit funding for their own speculative financial markets activities as principal. Because of politics we now have a federally protected large-bank system that has lost its focus on the historical function of commercial banks. This system rewards banks ill-advised failures with taxpayer bailouts rather than with orderly debt restructuring, which should and would charge the losses to bank shareholders and bondholders, not the American taxpayer. In Europe, it is even more obvious that politics has overwhelmed economics. It makes no economic sense for a heavily indebted country like Italy to raise its debt load in order to lend money to Spain to bail out Spanish banks. And it makes no economic sense for Spain to raise its debt load to bail out Spanish banks when bank bondholders are the principal beneficiaries of the bank bailouts. Basically, European countries that are at risk of needing bailout funds are providing bailout funds. Politicians call it a solution. These macro political economy dramas have an impact on investment markets, both short-term and long-term, but their impact can vary significantly from sector to sector, industry to industry and company to company. s can move abruptly, particularly to the downside; they can run in streaks and be volatile. Symons Capital has been dealing with this investment market environment for more than a decade, and particularly for the past five years. We constantly think about what might happen, and build portfolios that limit the impact of the political economy dramas on portfolio holdings. Notwithstanding the past 12 years of difficult investment markets, we honestly believe the day will come when sustainable economic opportunities are real, when markets are quieter because they suffer from less political drama, and when we can be bolder in our portfolio holdings. But not quite yet. THE ECONOMY AND INVESTMENT MARKETS We continue to see a tug-of-war between deflation and inflation. Politicians continue to hope that inflation can reduce the impact of unsustainable debt loads. But it appears that economies are still in a deleveraging stage as some financial debt destruction gradually becomes unavoidable through foreclosures, debt maturities and otherwise. Until debt burdens are eased through restructuring and default, it is hard to foresee a sustained increase in consumer demand and economic growth. Congressional stimulus actions and Fed money printing actions provide only short bursts of economic activity, but no economic recovery. While people hope for signs of an economic expansion, what we actually see are signs of a possible recession. A weak economy adds to deflationary pressures. In the US we continue to see weak growth in disposable income, consumer spending, sales and employment. We continue to see government deficit spending at unsustainable levels, and so at some point we are likely to see deleveraging of both government and consumer balance sheets. Stimulus and monetary easing do not change our current defensive portfolio investment stance.

2 At the same time, there are viable economic solutions and so the markets have hope. We have reviewed the solutions in previous Quarterly Letters and to some extent in this Letter. Spending reductions, or austerity, are important but they have to be implemented gradually over time. Debt restructuring is critical but it seems to be difficult to implement because its impact is focused on imprudent investors and financial institutions with political power. Inflation is favored by politicians while its impact is mostly felt by workers, savers and retirees. But there actually are viable economic solutions, and so when reality sets in there is hope of rational policy decisions. Since there are no painless economic solutions we expect that the pain of the solutions will be reflected in stock market valuations at some point, which will provide a buying opportunity for the patient, disciplined investor. EQUITY STRATEGIES AND PORTFOLIO MANAGEMENT Being a successful long-term investor requires intellectual flexibility. Just as the political economy can be irrational, stock prices can be irrational, particularly in the short-term. With patience and discipline, investment portfolios can be the beneficiary of temporary irrationality on a macro or individual stock level. We consider potential irrationalities as we think about where consensus on the market or a stock may ultimately be wrong. Then both sector and industry analyses are important in order to put individual company performance in perspective. Investor psychology can also matter, particularly in the short term, as investors buy for different reasons at different times, shifting from momentum investing to value investing for reasons that are hard to identify. Finally, it always helps to remember there is much we don t know and so we try to remain humble and constantly reconsider our current judgments about the market and stocks. Within this portfolio management context, it is important to recognize both that market corrections generally are buying opportunities, and that longer term investment opportunities often exist. One reason is that so much money is fast money from investors who can t sit and wait for circumstances to unfold, which plays out to our advantage. The second quarter provided a modest downturn but not a material correction. We continue to remain defensive, holding approximately 20% cash along with utilities, health care, gold mining and a wide array of consumer staples stocks. The larger question is what we will do if there is a material correction. While the specifics always depend on stock valuations and what the market gives us, in general we would expect to rotate the portfolio over time to an expanded set of sectors and stocks. We would be delighted, at the right valuations, to once again purchase high quality cyclical industrial stocks and other pro-cyclical stocks. These stocks can both protect against inflation over time and materially increase their valuations and prices due to improved sales and profits in a growing economy. But for now we are still focusing on return of capital as much as on return on capital. We remain focused on high quality stocks and minimizing downside portfolio risk exposure, while always looking for investment opportunities in individual companies. High quality/low risk stock fundamentals include stable top-line revenues, balance sheets with modest debt, and products with sustainable competitive advantages (such as brand names and intellectual property), which are important because they increase the probability of continuing profits. Dividends can help but they have to be based on sustainable profits. We view this as the correct approach in the current market, preferring stability over supposedly exciting opportunities, such as Facebook. When the tide of excitement goes out the fundamental risks in exciting opportunities are revealed, by which time it is too late to protect against the permanent loss of capital. CONCLUSION We believe that stock market risk is still to the downside, but it is hard to pinpoint any particular catalyst for a downside correction. As always, we simply do not know when any material correction may happen. While it was clear to us in February 2007 that there were significant financial and economic problems, it took 20 long months, until October 2008, before the correction unfolded. Both then and now, we are running a portfolio management marathon and we work for like-minded long-term investors. Quarterly comparisons to sprinter-investors mean little and so we have no plans to compromise our long-term strategies in order to play the myopic Wall Street short-term investment game. While short-term, leveraged investors often may be afraid of market downturns, unleveraged long-term investors should not be afraid. As an important corollary, there is a material difference between portfolio returns over a period of time and the size of potential downside risk during that same period of time. The experience of 2011 is a good example for understanding the difference. Over the full year of 2011, the S&P 0 Index returned 2%. But from the April peak until the August trough the downturn was 19%. If we can successfully limit the downside risk for our portfolios during such times, we can almost always find opportunities where the price entry points are more attractive for accepting market risk. The result is both less downside risk and more total return during the entire period of time was such a case and the same possibility exists for Our core message is that we can look forward with hope. Our hope is not for more bailouts, stimulus or money printing. Our hope is that the market will recognize the pain of the existing political economy problems, clear the problems from high market valuations, and the body politic eventually will force debt restructurings, bank reorganizations and limitations on government backed activities. This should enable higher market interest rates that encourage savings to be invested in a growing real economy for the benefit of all, including sustainable stock market valuations. Yours sincerely, Ed Symons Chairman & Founder Colin Symons Chief Investment Officer Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product made reference to directly or indirectly in this newsletter, will be profitable, equal any corresponding indicated historical performance level(s), or be suitable for your portfolio. Due to various factors, including changing market conditions, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this newsletter (article) serves as the receipt of, or as a substitute for, personalized investment advice from Symons Capital Management, Inc. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. A copy of our current written disclosure statement discussing our advisory services and fees is available for review upon request.

3 Performance Statistics - Value Manager Performance January June 2012 (Single Computation) S ymons Capital Managem ent, Inc. -- V alue Com pos ite Zephyr StyleADVISOR: Symons Capital Management, Inc Symons Value Composite (gross of fees) Symons Value Composite (net of fees) Russell 3000 Value 100 Q Q Q Q Q Q Q January June 2012: Summary Statistics -- Supplemental information to the full composite disclosure presentation on page 2. Modern Portfolio Theory Statistics Excess Cum ulative Standar d Deviation Risk-Adj. Perform ance Up Down Mar ket Alpha Beta Num ber of Observations Symons Value Composite (gross of fees) 9.91% 5.69% % 13.54% 12.35% 88.03% 48.65% 6.79% 0.65 Symons Value Composite (net of fees) 8.78% 4.57% % 13.% 10.79% 83.48% 51.29% 5.70% 0.65 Russell 3000 Value 4.21% 0.00% 67.54% 18.60% 4.21% 0.00% 1.00 Large Cap Value Peer Group Ranking (source Zephyr)*** Median Rank YTD 297 mng 1 year 297 mng 2 years 280 m ng 3 years 270 mng 4 years 263 mng 5 years 254 m ng 10 years 192 mng 12 years 149 mng Ana ly s is Pe riod 141 mng Symons Value Composite (gross of fees) 1.87% 73.95% 3.79% 33.85% 72.74% 6.37% 1.96% 0.99% 1.15% 1.22% Symons Value Composite (net of fees) 2.61% 82.90% 4.97% 41.95% 84.% 11.69% 2.27% 2.59% 1.33% 1.63%

4 Schedule of Comparative Performance Statistics ( ) * Performance represents a partial period return for this year. ** n/a Annual Dispersion not applicable for this period. *** Zephyr creates domestic equity universes based on investment style / fund behavior using the Morningstar, Mobius, Nelson s, PSN, and evestment Alliance databases. Composites consist of all portfolios that meet the adviser's criteria for inclusion. Investment results for individual accounts may vary from the composite. Composite Notes 1. The Symons Value Composite was created in October 1986 and consists of all fully discretionary portfolios that are managed in the Value style. The Symons Value investment discipline seeks to invest in securities of companies with established, sustainable businesses whose current prices provide the prospect of long-term appreciation with limited downside price risk. From October 1, 2005 to January 1, 2009, the composite was named the Symons Alpha Value Composite. Prior to October 1, 2005, the composite was named the Symons Value Composite. For comparison purposes the composite is measured against the S&P 0 and Russell 3000 Value indices. Effective October 1, 2005, Symons Capital Management, Inc. substituted the Russell 3000 Value Index for the Russell 2000 Index because the Russell 3000 Value Index provides a superior representation of our portfolio management and stock selection style, being a broad-based index that includes large-, mid-, and small-capitalization stocks, in contrast to the Russell 2000 Index, which primarily encompasses only small-capitalization stocks. Russell 3000 Value is shown for the entire history. The minimum account size for this composite is $, Symons Capital Management, Inc. claims compliance with the Global Investment Performance Standards (GIPS ) and has prepared and presented this report in compliance with the GIPS standards. Symons Capital Management, Inc. has been independently verified for the periods January 1, 1996 through March 31, Verification assesses whether (1) the firm has complied with all the composite construction requirements of the GIPS standards on a firm-wide basis and (2) the firm s policies and procedures are designed to calculate and present performance in compliance with the GIPS standards. 3. The Symons Value composite has been examined for the periods July 1, 1998 through March 31, 2012 by Ashland Partners & Company, LLP. In addition, a Level II performance exam was conducted by Deloitte & Touche for the period from January 1, 1993 through June 30, 1998, in accordance with the AIMR PPS standards in effect at that time. The verification and performance examination reports are available upon request. 4. Symons Capital Management, Inc. is an independent investment management firm, not affiliated with any parent organization, established in 1983 and registered with the U.S. Securities and Exchange Commission under the Investment Advisers Act of Prior to October 1, 2001, the firm was known as Dollins Symons Management, Inc. The firm maintains a complete list and description of composites, which is available upon request. 5. Results are based on fully discretionary accounts under management, including those accounts no longer managed by the firm. Composite performance is presented net of foreign withholding taxes on dividends, interest income, and capital gains. The U.S. Dollar is the currency used to express performance. s include the effect of foreign currency exchange rates. s are presented gross and net of management fees and include the reinvestment of all income. Net of fee performance was calculated using actual management fees. Past performance is not indicative of future results. 6. The investment management fee is: 1.25% on the first $1 million; 1.00% on the next $4 million; 0.90% on the next $5 million; 0.80% on the next $15 million; 0.70% on the next $25 million; and 0.60% above $ million. Actual investment advisory fees incurred by clients may vary. 7. The annual composite dispersion is an asset-weighted standard deviation calculated for the accounts in the composite the entire year. Three-year annualized ex-post standard deviation of the composite and benchmark are not presented, because monthly composite returns are not available for the past 36 months. 8. Securities purchased by Symons Capital Management, Inc. are listed on a major exchange with published values. Month-end valuations as shown on custodian account statements are used to calculate portfolio assets and returns. Any cash flow equal to or greater than 5% of a portfolio's market value would cause the portfolio to be revalued and accounted for properly so as not to distort performance. Additional information regarding the policies for valuing portfolios, calculating performance and preparing compliant presentations are available upon request.

5 Performance Statistics Small Cap Manager Performance October June 2012 (Single Computation) S ym ons Capi tal Management, Inc. -- S m all Cap Com pos ite Zephyr StyleADVISOR: Symons Capital Management, Inc Symons Small Cap Composite (gross of fees) Symons Small Cap Composite (net of fees) Russell Q Q Q Q Q Q October June 2012: Summary Statistics -- Supplemental information to the full composite disclosure presentation on page 2. Modern Portfolio Theory Statistics Excess Cum ulative Standar d Deviation Risk-Adj. Perform ance Up Down Mar ket Alpha Beta Num ber of Observations Symons Small Cap Composite (gross of fees) 6.57% 3.48% 44.16% 24.94% 6.57% 98.27% 83.51% 3.81% Symons Small Cap Composite (net of fees) 5.70% 2.61% 37.51% 24.92% 5.70% 95.96% 85.42% 2.97% Russell % 0.00% 19.08% 24.93% 3.08% 0.00% Small Cap Core Peer Group Ranking (source Zephyr)*** Median Rank YTD 114 mng 1 year 114 mng 2 years 112 mng 3 years 111 mng 4 years 103 m ng 5 years 100 mng Analy sis Pe riod 9 5 m ng Symons Small Cap Composite (gross of fees) 62.02% 99.12% 84.95% 96.14% 79.39% 26.24% 10.92% 6.13% Symons Small Cap Composite (net of fees) 74.74% 99.62% 88.24% 97.25% 88.26% 42.09% 30.25% 12.11%

6 Schedule of Comparative Performance Statistics ( ) * Performance represents a partial period return for this year. ** n/a Annual Dispersion not applicable for this period. *** Zephyr creates domestic equity universes based on investment style / fund behavior using the Morningstar, Mobius, Nelson s, PSN, and evestment Alliance databases. Composites consist of all portfolios that meet the adviser's criteria for inclusion. Investment results for individual accounts may vary from the composite. Composite Notes 1. The Symons Small Cap Composite was created in October 2006 and consists of all fully discretionary portfolios that are managed in the Small Cap style. The investment objective for the Symons Small Cap investment discipline is long-term capital appreciation achieved by investing in both value and growth companies with market capitalizations of two billion dollars or less, that can be purchased at attractive valuations. For comparison purposes the composite is measured against the S&P 0 and Russell 2000 indices. The Russell 2000 Index primarily encompasses small-capitalization stocks. The minimum account size for initial inclusion in this composite is $2, Symons Capital Management, Inc. claims compliance with the Global Investment Performance Standards (GIPS ) and has prepared and presented this report in compliance with the GIPS standards. Symons Capital Management, Inc. has been independently verified for the periods January 1, 1996 through March 31, Verification assesses whether (1) the firm has complied with all the composite construction requirements of the GIPS standards on a firm-wide basis and (2) the firm s policies and procedures are designed to calculate and present performance in compliance with the GIPS standards. 3. The Symons Small Cap composite has been examined for the periods from October 1, 2006 through March 31, 2012 by Ashland Partners & Company, LLP. The verification and performance examination reports are available upon request. 4. Symons Capital Management, Inc. is an independent investment management firm, not affiliated with any parent organization, established in 1983 and registered with the U.S. Securities and Exchange Commission under the Investment Advisers Act of Prior to October 1, 2001, the firm was known as Dollins Symons Management, Inc. The firm maintains a complete list and description of composites, which is available upon request. 5. Results are based on fully discretionary accounts under management, including those accounts no longer managed by the firm. Composite performance is presented net of foreign withholding taxes on dividends, interest income, and capital gains. The U.S. Dollar is the currency used to express performance. s include the effect of foreign currency exchange rates. s are presented gross and net of management fees and include the reinvestment of all income. Net of fee performance was calculated using actual management fees. Past performance is not indicative of future results. 6. The investment management fee is: 1.25% on the first $1 million; 1.00% on the next $9 million; 0.90% on the next $15 million; 0.80% on the next $25 million; and 0.70% above $ million. Actual investment advisory fees incurred by clients may vary. 7. The annual composite dispersion is an asset-weighted standard deviation calculated for the accounts in the composite the entire year. Three-year annualized ex-post standard deviation of the composite and benchmark are not presented, because monthly composite returns are not available for the past 36 months. 8. Securities purchased by Symons Capital Management, Inc. are listed on a major exchange with published values. Month-end valuations as shown on custodian account statements are used to calculate portfolio assets and returns. Any cash flow equal to or greater than 5% of a portfolio's market value would cause the portfolio to be revalued and accounted for properly so as not to distort performance. Additional information regarding the policies for valuing portfolios, calculating performance and preparing compliant presentations are available upon request.