B. Chase Chandler, January 2020
“If you take risks and face your fate with dignity, there is nothing you can do that makes you small; if you don’t take risks, there is nothing you can do that makes you grand, nothing.”
“Work with the smartest people you can, hopefully smarter than you . . . be persistent, don’t give up easily. Be guided by beauty . . . it can be the way a company runs, or the way an experiment comes out, or the way a theorem comes out, but there’s a sense of beauty when something is working well, almost an aesthetic to it.”
“Beauty is often a telltale sign of truth. Beauty is our guide to the intellectual universe—walking beside us through the uncharted wilderness, pointing us in the right direction, keeping us on track—most of the time.”
David Gelernter, Yale University
 As quoted in The Man Who Solved the Market by Gregory Zuckerman
Dear valued investor,
We finished 2019 with a solid one-year return of 22.10 percent, shy of the S&P 500 which gained 31.2 percent. Reiterating what we’ve said before, we’re okay with trailing the market when it’s going straight up (though we would of course take 20 percent annually for the next decade). We mentioned in our last letter that we held a good percentage in cash. This didn’t change much in the final third of the year. Markets grinded persistently higher. In the final four months of the year, the S&P had only three down days of at least one percent. Compare that to the final four months of 2018 which saw five times that number. We also wrote in our previous letter that everyone was too bearish. This most certainly turned out to be the case. Sentiment began shifting in late-November and December. By the beginning of January commentators had done a full turn.
We could’ve been more aggressive in 2019 and in hindsight should’ve held less cash. We could also have been more cautious, along with a few of the world’s most illustrious investors. To put this in perspective, Bloomberg reports it was Buffett’s “worst year since ‘09” and Stanley Druckenmiller “barely made double digits.”[i] Peter Lynch said 2019 was “the worst relative year I’ve ever had in 50 years... The market is up 29%. I’m nowhere near that.”[ii] Seth Klarman said “today’s trend-following environment has left Baupost looking flat-footed.”[iii] Ray Dalio’s Bridgewater also struggled, generating a return of 0.5% for the year.[iv] Warren Buffett is quoted so often because he is effectively the only widely respected, household name in the investing world. Make no mistake, for those with little investment background, these investors are in the same stratosphere (see appendix for details).
At present, we think it is wise to continue holding excellent businesses with solid fundamentals at reasonable valuations, and a decent amount of cash. We do not want to start chasing returns at these levels. Further, caution would be wise given the unprecedented and experimental global monetary policy of zero interest rates. Anyone who tells you they know how this is going to play out in 2020 is at best fooling themselves. It seems inevitable there will be a bust eventually. What goes up must come down, but not the opposite. The past few years give an illusion that what goes down always comes back up. It’s easy to forget that it doesn’t have to, and eventually it won’t. But I nor anyone else can tell you when or how that will occur. Unfortunately, you won’t hear many commentators saying they “don’t know” what’s going to happen this year or when a major correction will occur. That message of uncertainty doesn’t sell well, but it does perform well.
True confidence in investing—substantive and useful confidence—can only be found by first understanding the extent of one’s epistemological inadequacy. Meaning, we don’t have to know the future, and a false sense of knowledge isn’t helpful, it’s destructive. Rather, we need to know how to allocate capital and structure compelling risk-return profiles where we have a good chance of doing well and no chance of going bust. That’s what we shoot for. Wanting to know the future is a natural way to avoid risk. Unfortunately, it doesn’t work. Risk cannot be avoided. Accurate forecasting is not what builds wealth. Wealth is built via insight, patience, trial and error, and constant learning, combined with a large enough sample size, the avoidance of ruin, and a bit of luck.
I. Thoughts on Investing
The First Goal of Investing
What is the first goal of investing? To stay in the game. It matters not how wonderful your returns were in the past if you eventually go bust. The goal is not to indiscriminately beat the market every year. It’s like playing Russian roulette. If the payout is one million USD for each time you don’t die, the expected payout for a single round is (a) the chance of not dying—5/6 or 83.3%—times (b) the payout: $833,333. On paper the player who plays six times will win five million USD but really their next of kin gets the money. The wiser person chooses not to play. The less wise person, on the other hand, plays once and wins. He fancies himself intelligent because he’s now a million dollars richer, so he plays again and again and... you get the point. Once he loses once—just once—it’s game over. Markets are more like this than people realize.
This is why those prominent investors mentioned above are okay with underperforming when the market is up thirty percent. It’s not about one, two, or even three-year returns. It’s about doing okay in the good years and seizing opportunity when things get ugly. The French mathematician Raphael Douady has shown the dangers of investments that appear safe. His work shows that funds with the highest Sharpe Ratios (calculated as excess return over standard deviation) in “ordinary” markets are ironically the worst performers when the tide turns.[v] Don’t forget this lest you beat the market for many years in a row only to find yourself giving it all back in the end. Anyone who thinks beating the market each year is a worthy goal should study LTCM and Victor Niederhoffer, infamous investors ruined in the seductive pursuit of annual market-beating performance.[vi]
If you make more when things go well than you lose when they don’t and avoid that which is ultimately fatal, you’ll do fine. Alternatively, if you lose more when things don’t go well than when they do, you will eventually do very poorly even if those bad events don’t happen very often. This is the hidden fact of investing. It seems so simple, but market participants struggle to remember from month-to-month that the month-to-month returns are irrelevant in isolation. They only matter in the larger, multi-year context, or at the point of ruin. The question is how do you want to be positioned when things get ugly? You can’t decide then. When it happens it’s too late. The air goes out of the balloon a lot faster than it went in. People forget the speed at which declines happen. You don’t get to “get out” when the market opens one morning down ten percent or is down a one-third over a couple months. This all may come across as caution pertinent to a bygone time, applicable to those less evolved investors of yesteryear. If it is, we will still do okay. If it isn’t, a generation of investors are in for a shock. Which side would you prefer to err on?
News & Neuroticism
News, especially the sensationalistic kind, can be bad for your health. Too much information makes one incapable of discerning signal from noise. The undesirable symptoms of those who take today’s constant news cycle too seriously are an unrelenting tension and undue stress. If everything is urgent then nothing is. In Antifragile, Nassim Taleb describes how modernity is training us to be neurotic: “...reliance on data causes severe side effects—data is now plentiful thanks to connectivity, and the proportion of spuriousness in the data increases as one gets more immersed in it. A very rarely discussed property of data: it is toxic in large quantities—even in moderate quantities... but noise and randomness can also use and take advantage of you, particularly when totally unnatural, as with the data you get on the Web or through the media. The more frequently you look at data, the more noise you are disproportionately likely to get.” The irony is we tend to miss the real news, overreacting to trivial events and underreacting to potentially systemic problems. Daily stock price movements and the latest political news are almost always trivial. Potential epidemics are systemic.
One of Taleb’s pointers is to read newspapers at least a week after they’ve been published. This changes the way you view news because is shows you just how much of it is meaningless—an attempt to get eyeballs rather than a sincere attempt to deliver relevant information. The consequence of a publication or writer being forced to put something out every day/week/month is that so much of the time they have to manufacture content. Get something out because that’s what people pay for!
Along the same lines, a constant obsession with how one’s portfolio is performing against the S&P 500—or any other measuring stick—is, over the long-term, extremely unhealthy. This isn’t to say we shouldn’t have a measuring stick. But it’s the shorter-term comparisons that carry with them the same fatal flaws of Russian roulette and neuroticism; nudging investors towards a “rearview mirror” approach to investing, forming an incessant fidgety anxiety that they might be missing out on something. You can’t drive constantly looking in the rearview mirror. Neither can you invest constantly looking backwards.
What matters is, first, not blowing up; then, having enough to cover necessities; and third, being able do what you want to do. In that order.
II. Thoughts on Markets
In August 2019 things were all bad. That view shifted quickly. Mark Cuban expressed his views recently in Chief Investment Officer magazine: “With rates staying so low, Cuban said, ‘Where else are you going to put your money?’ That feeds into the popular bullish catch phrase about the market: TINA, which stands for There Is No Alternative. ‘So that money is going to continue to flow into our equities, our market,’ the entrepreneur reasoned.” One of the most glaring warning signs landed in my inbox earlier this month from Barron’s.[vii] Apparently the experts have decided nothing bad will happen this year. For those students of market history, this is usually a bad omen.
While it seems unwise to say those famous last words “this time it’s different”, I have a unique perspective—a theory—on why the experts are so suddenly bullish. Any apolitical observer can see they want Trump out. An important factor to voters is the economy. Their attempts to talk the economy into recession backfired. Now they’re taking the opposite path. This occurred to me when watching Bridgewater’s Co-CIO, Bob Prince, explain how the boom-bust cycle, as we know it, has come to an end. Coming from one of the most intelligent investment groups in the world, this statement seems suspicious. They know the history of such statements—Phillip Fisher saying the market reached a “permanently high plateau” in 1929, Alan Greenspan’s “Great Moderation”, Ben Bernanke’s remark about the economy’s sound fundamentals in 2007-08. To get a real crash, the market first needs euphoria. These people know this. Could it be they are trying to talk the economy into euphoria? Maybe that’s too far-fetched, but I wouldn’t wholly discount it. Barring a major economic meltdown, the likelihood of a new face in the Oval Office come next spring is low.
Robert Shiller, Yale professor and author of Irrational Exuberance, often acts as a contrarian voice in markets. In response to the idea of the end of the boom bust cycle, Shiller said he doesn’t see any fundamental changes in human nature that would void booms and busts. His most salient point, I thought, was the observation that we’re in a boom time right now in real estate and stocks. Hence, it’s hard to say the boom-bust cycle is over.
III. Holdings Summary
Below are our Core Equity holdings ordered by size in our portfolio, along with our Holdings Quality Summary.
We aim to work with prudent and patient investors, like yourself. We’re grateful for the opportunity and we thank you for your trust and support. We look forward to continuing to allocate capital intelligently in 2020 and beyond.
Benjamin Chase Chandler, CFP®
President & Chief Investment Officer
 A game, though it serves our purposes here, isn’t the best analogy for investing. Games tend to have strict, predetermined rules the players must follow. Markets and investing involve ever-changing factors that cannot be foreseen.