Dear Investors, Dear Friends,
After experiencing a respite in March, markets again had a difficult month in April, in particular on the other side of the Atlantic, with the S&P 500 losing -8.80% and the Nasdaq 100 down a whopping -13.37%. In Europe, the correction was more subdued but the Euro Stoxx 50 still ended down -2.55% while the CAC 40 lost -1.89%. In the US, these losses are among the most important monthly losses in the history of financial markets. There was no place to hide, as even the US 10 Year Treasury bond also lost -5.12% during the month. Actually, there was one place to hide, the US dollar, with the dollar index gaining 4.7% during the month, illustrating one more time that when things go south, it’s not gold, not bitcoin, not oil, nor any other commodity, it’s still the king dollar, however much it is despised, that acts as the only true safe haven. More on the dollar later.
In markets, volatility shows up in clusters. This means that markets can be remarkably quiet for quite a long time but then, all of a sudden, they start moving up and down in violent moves and that tends not to stop once it starts, although these volatility events tend to be shorter-lived than the quiet periods. For example, as of May 5, the S&P 500 has closed up or down by more than 2% six times in the past eleven days. In 2021, a 2% up or down close had happened only seven times during the whole year. So, yes, we are indeed right in the middle of one of these volatility clusters. And that is exactly when and where strange things happen: overexposed funds blow up (further exacerbating volatility as they have to liquidate their holdings as fast as possible to meet margin calls from banks), banks suddenly uncover rogue traders among their employees, and your and our equanimity is sorely tested. Just like it is impossible to predict when volatility clusters start, it’s impossible to predict when this one will end. Ideally, you want to see a very big down day with high volatility and we have seen that at the beginning of the month of May. Time will tell.
Last month, we spoke of the many crosscurrents happening in the market and nothing has changed a month later. If you want to believe that we will experience higher inflation for longer, you can find the numbers to back up your claim. If you believe inflation is about to peak, you can also find the numbers to back up that claim. Amidst all the noise, it is worth pointing out a couple of things. First, while inflation is very high, the world economy is slowing down quite quickly. China is in full lockdown mode, pursuing the ever-elusive Zero Covid policy that seems impossible to achieve with the Omicron strain that is highly contagious. This will end at some point but it could still take months and even then it might make a comeback when the next wave returns. What seems fairly certain is that China, under Xi’s leadership, is slowly but surely closing itself to the outside world. China seems no longer to be open for business and Western companies are certainly rethinking their China exposure, in particular their dependence on things produced in China. Re-shoring is a word you now hear more and more often and this will at least partially reverse 30 years of offshoring production to China.
Second, the strength of the US dollar, which we mentioned earlier. Every time the Federal Reserve engages in an interest rate tightening campaign, emerging markets suffer. That was the case in 1997-98 (Russian default, Asian crisis) as well as 2006-2008. That is because, as interest rates rise in the US, it no longer makes as much sense for investors to seek higher-yielding debt in murkier and more exotic places. We then witness a brutal capital flight from emerging markets to the US, leaving the former in a tough spot, having to raise interest rates while the economy is fast decelerating in order to stay attractive. This generally ends pretty badly. The world is currently running short of US dollars and its value is logically going up. That is why all this talk of money printing is so misplaced: there are simply not enough US dollars to go around and such episodes generally trigger a broad economic slowdown.
Equities and Sectors
We are at a stage now where investors try to hide in the safest parts of the market, which in turn become much less safe as valuations climb to high levels. For example, a very good, defensive company like Procter & Gamble (think Gillette) is currently trading at 27x earnings with 5% earnings growth. In comparison, Alphabet (aka Google) is trading at 21x earnings with at least 15% earnings growth. Even in terms of Free Cash Flow Yield (our preferred measure), Alphabet trades at a higher number (which means it is cheaper). Now let’s be very clear: valuation tools are not timing tools. Just as Procter & Gamble was unloved in early 2021 (down 16% in a few months), Alphabet (and other quality growth names such as Microsoft, CRM, etc.) can stay unloved for a while as well. But, at some point, that gap must be reduced. It will probably be a combination of a correction in Procter’s stock and an appreciation of Alphabet’s stock, but it will happen at some point in the not-too-distant future. The trick, in these volatile times, is not to look too much at the daily variations, which can be very scary.
On the much riskier side of the market (read: technology stocks with little to no earnings), the carnage that had started in March 2021 continued unabated. Former darlings such as Peloton (down 50% in 2022 only and a cool 90% from its all-time highs) or Zoom Communications (down 45% in 2022 and 85% from its highs) have continued to punish falling-knife catchers with yet more losses. This part of the market is clearly reminiscent of the Nasdaq bubble burst of 2000-2002 and, by the looks of it, we are pretty close to the end, since most stocks back then had lost an average of 85 to 90% from top to bottom.
In Europe, such as in the US, it seems to us that investors are now overpaying for safety (with Nestlé trading at 26x earnings) and running away from anything potentially more volatile (with Euronext trading at 14x earnings). This situation can last a while but, at some point not too distant in the future, such as wide gap must be at least reduced.
Finally, we had reduced our luxury exposure, in particular to LVMH, earlier this year mostly because of our fears of a Chinese slowdown. We did not expect that the slowdown would mostly come from the Zero-Covid policy but there we are. There will come a time to start increasing that exposure but it is probably too early.
In these volatile times, let’s have a look at how our funds performed in April.
Indeed, the FFM European Selection Fund outperformed the indices slightly, since it was down for the relevant period (31.03.2022 to 28.04.2022) by -1.15% vs -3.22% for the Euro Stoxx 50, -1.93% for the Stoxx Europe 600 and -2.28% for the CAC 40. Year-to-date (31.12.2021 to 28.04.2022), the fund is down -14.42% vs -12.13% for the Euro Stoxx 50, -8.35% for the Stoxx Europe 600 and -9.02% for the CAC 40. As strange as it may sound, most of the underperformance occurred before the start of the Russian invasion of Ukraine. Since then, our investments have held up better than the markets.
As for the FFM American Growth Fund, it was down for the relevant period (30.03.2022 to 27.04.2022) by -8.75% vs -9.09% for the S&P 500, -13.72% for the Nasdaq 100 and -5.47% for the Dow Jones Industrials. Year-to-date (30.12.2021 to 27.04.2022), the fund is down -19.99% vs -12.45% for the S&P 500, -20.85% for the Nasdaq 100 and -8.51% for the Dow Jones Industrials.
Finally, our FFM Global Quality Growth Certificate is down -5.12% against -3.42% for the MSCI World, over the month. Since the beginning of the year, the fund is down -15.65% against -7.24% for the MSCI World.
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