July 2012 Investor Letter
The S&P 500 was up by almost 4% in June, which was a strong month, but there wasn’t a lot of fundamental change that caused the market to rise by such a large amount. Almost all of the gain happened on the final day of the month when there were of reports of a European compromise on a Spanish bailout. There were hardly any details about the compromise though and details continue to be sparse nearly a week later. For now it looks like this agreement isn’t much different from any other agreement that has already been made by the Europeans. Therefore, it’s logical to assume that this won’t be the last time we hear about a European crisis.
I think anyone who is expecting a grand compromise from Europe is going to continue to be disappointed though. There is only so much that can be done to change the current situation other than to implement proper deficit reducing policies and be patient. In reality the Europeans have already done a lot to try to please the markets in the short term. There have been an endless number of bailouts, agreements and summits that have resulted in a number of tangible actions. The ECB has printed as much money as the Fed has now, and Greece has written the face value of its debt down by half. In true European style though, the governments’ war with Eurobears continues to be a battle of attrition. It’s difficult to see how one side will deal the other a knockout blow and the most likely end will be an armistice founded in fatigue. It’s nearly impossible to forecast when this will occur, but the longer the battle draws out, the more that the cards are stacked in favor of the governments of Europe. It was always a long shot that Eurobears would force a collapse of the EMU, and at some point the markets will simply get tired of the European story and move on to another.
The other newsworthy event in June was that US economic data continued to show some signs of deterioration. Of 14 major US economic indicators released during the month, 13 were below Wall Street’s expectations, including important measurements of unemployment, retail sales, consumer confidence and industrial production. Earlier in the year, some had hoped that the US might be able to decouple from troubles in Europe and China, but recent data has left that thesis on unsettled ground. Still, it is only one month of data, and a particularly noisy one because of the heightened effect of seasonality on economic data in summer months. At this point, an American recession continues to look unlikely to me.
As for our portfolio positioning, we remain opportunistic in our purchases and have now reinvested most of the excess cash that we have been holding since February. At the beginning of June with markets near their lows, I took us to what I would consider a market neutral position and had us leaning slightly bullish into month end. While I was initially expecting July to be a strong month (as seasonality begins to turn more positive in July), June’s late month rally may have served to steal some of July’s return prospects. Earnings season will begin soon, which could increase volatility and hopefully give us some good buying opportunities. Given economic volatility in the second quarter, few are expecting companies to report good numbers.
Scott Krisiloff, CFA