“Long ago, Ben Graham taught me that price is what you pay; value is what you get. Whether we are talking about socks or stocks, I like buying quality merchandise when it is marked down” – Warren Buffett
We pointed out in our recent quarterly commentary that a major countertrend movement was brewing in both the dollar and commodity patch. In other words, the primary trends for the dollar (up) and commodities (down) might have hit a point where their respective gains and losses were overdone in the short-term, but we have a firm conviction that the strong dollar and weak commodity thesis should continue to dominate the backdrop in the long-term.
Therefore, our recent discussions have centered on if we should either make material changes to our portfolio construction based on the likely unfolding of a short-term countertrend correction or simply utilize market movements to augment the position in our long-term thesis. In essence, if we choose the long-term view then we continue to believe that any dollar weakness should be viewed as an opportunity to buy the dips. From the opposite perspective, future commodity strength is likely an opportunity to sell the rips.
The rub here is that the opportunity for long-term gain will only come if we can stomach through short-term pain that we think could potentially last for a quarter or more. Countertrend corrections can vary widely in terms of magnitude and duration, and these two moves in particular could be as reflexively powerful as the moves that preceded them. Also, there is a time element to digestion/consolidation phases, and if these markets do not end up in swift and steep price corrections, it is possible that they will meander laterally for a while. There are risks to our long-term view, and also a realization that in order to follow our plan for the long-term gain we are going to have to deal with undesirable pressure and short-term pain.
After many hours of strategizing about which way to play this temporary rotation in assets markets, we have decided to stick with our multi-year view of the longer trends. In doing so, we will ask our clients to join us in taking the long-term perspective. It may be painful to watch small positions in the dollar edge down, currency hedged international positions to lag unhedged ETFs, and commodity futures and energy shares outperform while we own less than benchmark weights in those positions. All in all, this may cause the portfolio to relatively drag a bit as we build our positions in quality merchandise that we think is being marked down (strong dollar plays), and slowly drip out of questionable merchandise that is being marked up (commodity linked positions).
Yes, it is true we could try to trade the shorter-term countertrend movement. But that would come with a more speculative mindset and expose our portfolios to unnecessary trading, and the potential for unnecessarily realizing capital gains. Avoiding some of the short lags in performance would feel good, but only if we get it right. If the primary trends in each area materialize sooner than anticipated then we face another round of trades, associated tax issues, and a short-term whipsaw that would have us buying high and selling low as we continually readjust the portfolio according to short-term market gyrations. We simply don’t think the risk and lack of efficiency is worth the reward as we look out over a multi-year period.
As investors we consider ourselves realists, so it is not lost on us that our world is increasingly dominated by second-to-second news viewed on smartphones. Our society looks for instant gratification in almost everything that we do. Perhaps we should be accused of having old school views because we believe that the most valuable things in life require hard work, a little pain, and some sacrifice. Instant gratification feels good, but often fails to be valuable in the long-term.
The investment team continues to have a strong conviction in a strong dollar over a period of years, and likewise a commodity super-cycle that has busted and turned down, primarily due to a divergence in monetary policy and relatively stronger U.S. growth compared to most of the rest of the world. We think our long-term approach will translate over the next few years into the full cycle success we are striving for. Therefore, during the countertrend corrections in these trades, we are asking our clients for the patience to stomach a little short-term relative pain in order for our long-term gain thesis to be fully realized over a multi-year time frame.