Dear Investors,
Stock markets across the globe have officially undergone a much overdue correction, defined as a 10% drop. It seems like a lot more because the market was uncharacteristically calm last year. Enhanced volatility is actually a more normal environment and is not something to be scared of. Being afraid of volatility with the stock market and selling your stocks at low prices, is akin to wanting to jump out of an airplane if you experience turbulence. You don’t get on that plane if you aren’t willing to deal with turbulence, and you don’t get into stocks unless you are comfortable that they will fluctuate both down and up.
“Being afraid of volatility with the stock market and selling your stocks at low prices, is akin to wanting to jump out of an airplane if you experience turbulence. You don’t get on that plane if you aren’t willing to deal with turbulence, and you don’t get into stocks unless you are comfortable that they will fluctuate both down and up.”
Even in this 9-year bull market, we have endured five corrections, including in 2011 when the market dropped by 19.4%. All of those turned out to be good buying opportunities. With that said, I’m not willing to say that markets are attractive here yet, although I love our stocks. As we have been discussing, our companies trade at very cheap valuations, should mostly do well even if rates go up, and are in a strong enough financial situation to buy back their stocks when they go on sale. They also offer very sizeable dividend yields that are covered by strong recurring cash flows. This is how you generate attractive long-term returns.
We have significant hedges via covered calls and cash-secured puts, which means we aren’t overly exposed to being 100% long stock like most funds are. Our biggest positions like AGO, should thrive in this type of environment from a business perspective and ultimately that will lead to good stock returns. I feel good about our positions and they have all been bought with the thought process that the overall market is unlikely to be nearly as favorable as it has been. As discussed before, when volatility spikes we take a short-term mark to market hit on our sold options, which becomes totally irrelevant as volatility declines or our options expire.
“Our biggest positions like AGO, should thrive in this type of environment from a business perspective and ultimately that will lead to good stock returns.”
We don’t buy the exotic instruments like those exchange traded notes that were shorting volatility and lost 90% in a day, as you may have read about in the news. Our worst-case scenario is we end up owning more of the value stocks that we want to own at cheaper prices. Historically, our best returns have been via being exercised on puts and riding the value stocks up. We are definitely seeing some panic selling so I wouldn’t read too much into things until you see a little market stability once again.
Below are some helpful little graphics that I thought might add a little color to recent events. Pay particular attention to the notecard, as it is right on point. The worst thing you can ever do is freak out and panic:
As always, if you need anything or have any questions, please don’t hesitate to contact me!
Sincerely,
Tim Travis