Market Commentary
The second quarter was relatively uneventful across markets, with both bonds and commodities largely unchanged according to the +0.07% and +0.55% performances from the Bloomberg Agg and the Commodities Research Bureau indices, respectively. The bond market anticipated a respite from inflationary pressures in the US, correctly for now, with expectations for inflation over the next two years falling from 3% in April to just over 2% at quarter-end. This dynamic has historically benefitted large capitalization stocks to the detriment of small caps, and last quarter proved no exception – the more economically sensitive S&P Small Cap 600 index generated a -3.11% return while the S&P Large Cap 100 index advanced 7.07%. Equity volatility remained low, especially so in June, which saw realized equity market volatility approach that of bonds, a rare dynamic which has historically not lasted long.
The other dynamic that has historically not lasted indefinitely is the extent to which large cap stocks have beaten smaller cap stocks. Over the past two calendar quarters, the aforementioned large cap index has outperformed the small cap index by a cumulative 19.9%. Markets have not seen this level of calendar quarter outperformance in twenty-five years, since just prior to the tech bubble bursting. Clearly, there is no causal driver preventing large caps from continuing to outperform small caps by another 19% over the next two quarters. However, history often rhymes, and large caps now trade at their biggest valuation premium to the small cap index since 2001, with small caps producing aggregate outperformance of 78.4% versus large caps from the end of 2001 through 2010. The premium valuations placed on some of the largest companies now require the highest levels of sustained growth to generate a return for investors, even though scale and sustainable growth potential do not always correlate. Increasingly narrow constituencies benefit from mega-cap stocks with huge revenues per employee growing at above-market rates, a trend that likely cannot continue indefinitely.
Of course, none of this changes what we do every day – turn over rocks to find attractive prospective investments and compare them to what we own in an effort to construct a portfolio of good businesses that have a high probability of trading at better prices in the future. At the margin, we are finding some of the most compelling opportunities in energy and financials, whose prices appear to discount a much worse future than we anticipate. Many names in the space are well-run, growing with improving returns on capital while breaking out to new multi-year highs despite mid-single-digit multiples of earnings power.
Our portfolios are very different from their benchmarks (with the exception of MVPL). Names and sector weights are a by-product of our bottom-up process, which means that our performance will differ meaningfully from the benchmarks’, especially over short periods of time. That is a feature, not a bug. We look to concentrate in securities tied to aligned capital allocators who we think are likely to enhance equity value per share over the long term. In light of the aforementioned dynamics, we find our portfolios to be an especially compelling opportunity today for investors looking to diversify away from the market’s concentrated skew towards growth, technology, and elevated expectations for sustained growth from some of the world’s largest entities.
As always, we remain the largest investors in our funds and appreciate your partnership.
Bill Miller IV, CFA, CMT
July 1, 2024
Fund Highlights
The MVPA appreciation fund returned -6.65% versus a 4.28% return for the S&P 500 index in the second quarter of 2024. The aforementioned small cap weakness weighed on many of our holdings, despite minimal idiosyncratic news suggesting reason for concern on any name. Our most significant contributors included financials Bread Financial Holdings (BFH) and Jackson Financial (JXN), both of which we think are still inexpensive relative to their future earnings potential. Other low-multiple names Alliance Resource Partners (ARLP) and Perdoceo (PRDO) also performed well. Coupang (CPNG), which does not appear optically inexpensive, was also a top contributor for us. We own “the Amazon of Korea” because we think it offers a potentially higher compound rate than does Amazon from this starting valuation.
Click to view quarter end performance. Performance data quoted represents past performance and is no guarantee of future results. Investment return and principal value of an investment will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than the original cost. Current performance may be lower or higher than the original cost. Returns for periods of less than one year are not annualized.
Similar to what happened in the Income Fund, some of our biggest detractors were the prior quarter’s biggest contributors. We reduced the weights in MicroStrategy (MSTR) and Builders FirstSource (BLDR) on the way down, though we still own them. The valuation on one of our biggest detractors, healthcare company Centene (CNC), feels far too low at a 13% free cash flow yield for next year given how sticky that business is likely to be. One-page investment write-ups are available on our website for most of our new names, with the present exceptions of new holdings TotalEnergies (TTE) and Semler Scientific (SMLR). Total is a global energy company based in France whose valuation we think has been unfairly punished relative to other global energy producers, while Semler provides a cash-flow-generating business combined with a Bitcoin Treasury Strategy and an owner/operator management team.