Top 5 Positions as of 16 Nov 2018 - Nvidia

Again, no change in the Optarix US Portfolio in the last four weeks. The market volatility in October and in particular the bad performance of high tech stocks has had quite an impact on the top 5. Apple (AAPL) has left the group, so did Aflac (AFL). New entrants are Wallgreen Boots Alliance (WBA) and Stanley Black & Decker (SWK).

The updated top 5 list contains these positions. The percentage values is the change since we started the position:

1. Vanguard Total Stock Market (VTI) +27.29%
2. Emerson Electric (EMR) +23.18%
3. Wallgreen Boots Alliance (WBA) + 26.75%
4. Johnson & Johnson (JNJ) +25.74%
5. Stanley Black & Decker (SWK) +20.79%

Technology stocks got quite a hammering in October. Nasdaq's decrease by about -9.20% in Oct 2018 is an indication as it's still considered to be tech heave. By comparison, the S&P 500 lost only -6.94% and the Dow Jones -5.07%. November so far saw the S&P 500 increase by 0.9% and the Dow Jones by 1.18% while the Nasdaq is down -0.79%. It almost looks as if there is a "crash" spread out over several months. The still increasing interest rates don't help. The trade conflicts don't help. 

The tightening job market doesn't help either as companies find it increasingly hard to find people to expand their business. If the measures of the current administration in fact lead to more (manufacturing) jobs being created in the United States, then this begs the question: Who will fill those jobs? And at the same time there is a trend towards reducing immigration which puts a limit on the labor pool as well.

Quite a few stocks are now in correction territory with more than 10% off the top. Some have suffered even more (see below). Going forward we believe that the volatility in the stock markets will continue for some time. Increasing interest rates will continue to put a downward pressure on share prices. The pressure may decrease as soon as there are noticeable signs that the Federal Reserve sees an end to the current cycle of increasing interest rates and assumes a neutral position.

Nvidia

The shares of Nvidia (NVDA) are now down about 42% from their top on 02 October 2018. While we agree that at levels of USD 292 per share the valuation of the company is quite ambitious, we equally believe that the current levels may represent buying opportunities. Our position in NVDA is down about 34% which we often use as a trigger to assess if we should close our position or to add to our position.

In this case we believe that main factor for the stock crash - minus 18% on Friday 16 Nov 2018 alone - is that there was a lot of speculation in this stock. People expected the company to grow at 30%, 40% or even more year-over-year. It turned out that there is still a lot of inventory in the sales channels for the gaming range of products which represent a little more than half of all revenues. Nvidia won't sell a lot this quarter which often is one of the more important quarters each year. 

However, the extreme level of inventory in the channels is an aftermath of the hype around crypto currencies and mining of Bitcoin and similar. Taking a step back, we believe this is a one-off situation, nothing permanent. The fundamental business model of Nvidia works. They have good growth rates for their three other business areas, namely data centers, AI and autonomous vehicles.

Disclaimer: We hold shares in all companies mentioned in this post. We have no intention to change or initiate positions within 48 hours of this post. This post is not financial advice. Consult with your certified financial advisor before making any financial decisions.

Oct 2018 Results: +0.20% Active Return vs S&P 500

Wow, what a ride! Last month saw a number of ups and (mostly) downs in the US markets. People who got into the market only after the GFC (Global Financial Crisis) in 2008/2009 were given quite a scare.

Some pension funds and also ETF’s (Exchange Traded Funds) had annualized returns of more than 10% after tax until end of September. If you have bought shares or ETF’s after the GFC, then you might have grown accustomed to Y2Y performances in excess of 10%. The 10-year bull market was the biggest ever.

For example, some pension funds or ETF reported an average return of 10% or more per year after tax for many years. October however may have seen the value of your retirement savings drop by 5% or 10%. If you became nervous you are not alone. We are still in correction territory with more than 10% off the all-time highs reached earlier this year. Long term you shouldn’t be concerned too much. For example, in 2008 the S&P 500 was down by -37.22 percent at the end of that year. However, that was more than compensated since then with a CAGR (Compound Annual Growth Rate) of about 15.29% in the time January 01, 2009 to December 31, 2017. In this time frame USD 1.00 grew to USD 3.60. Not bad at all!

Results Versus S&P 500

Let’s look at October results now. Our Optarix US Portfolio increased by 5.50% from October 31, 2017 to October 31, 2018. In the same time the S&P increased by 5.30%, resulting in an active return of our portfolio of +0.20%. This means that in the 11 twelve-months periods from December 2017 to October 2018, our portfolio performed better in 10 of them. Only in the 12-month period ending June 30, 2018, our portfolio lagged the S&P 500 by -0.47%.

Results Versus S&P 500 Dividend Aristocrats

In comparison to the S&P 500 Dividend Aristocrats Index (SPDAUDP), our portfolio did better in that it has outperformed the SPDAUDP for the 11^th twelve-month period. Still the October active return of 0.59% for the 12 months ending October 31, 2018, is the lowest on record. Note that we started the Optarix US Portfolio only on January 01, 2016, and published results only from January 2018. We cannot look into the future. The result of our portfolio may be better or worse in the future.

Interest Rates

In our opinion the bull market has come to a grinding halt because interest rates continue to increase. Over the last 2 years the effective date at which the US federal government can borrow has increased from 0.29% to 2.20% at the end of October. In lockstep the yield on 3-Months treasury bills grew from 0.26% to 2.29%. The yield for 10-years treasury notes has increased from 1.940% to 3.217%. At the same time the divided yields didn’t increase accordingly, both because the bull stock market and because dividends weren’t increased by a similar amount. As a result the stock market has now reached a point where an increasing number of investors sell shares and park their money in either bonds or cash.

Other Factors

While the interest rates are the most influential factor in our opinion, we also believe that other factors play a role as well. For example, one might ask why the Federal Reserve increases the interest rates in the first place. Well, the labor market is as strong as it hasn’t been in a very long time. In fact, the rate of unemployment at 3.7% represents the lowest value of this metric for 49 years. Businesses want to hire more people but with a tightening supply of qualified workers they have to offer higher wages and salaries. As a result, the labor costs for businesses go up which negatively impacts their profits. At the same time workers have more money in their pockets, both by higher wages but also to some degree by the tax cuts instituted by the current US government.

The problem is that both the tax cuts and the increased wages push interest rates higher. The tax cuts lead to the US government having to offer higher interest rates for borrowing money. The increased wages create more demand and hence businesses can charge higher prices. This we call inflation. To fight the inflation the Federal Reserve has to increase the interest rates so that it becomes increasing more attractive to save more instead of just consuming it.

Are the Market Turbulences over?

It will be very interesting to see if the wild swings (mostly down) in October were all there was. We suspect that there is more to come in the next couple of months. The result of the midterms may play a role but probably only if there was a surprise in terms of the power allocation in the House and in the Senate. The trade tensions with China will keep the market down as well unless there are tangible resolutions of that problem. And we shouldn’t forget the developments in security politics, e.g. the military tensions in the South China sea or the cancellation of missile treaties with Russia.

We estimate the downward potential at another 10% to 20% but that should then be it. And even if that happens, the yearly increases are likely to be more moderate than in the last 10 years until the interest increase cycle ends.

We have no plans to sell any position as we have bought them for the long run (at least 10 years). As cash becomes available, e.g. via dividends, we will continue to buy shares of companies that fit our requirements, e.g. dividend aristocrats and select high-tech companies. And we will stick with our rules to avoid decisions based on emotions instead of sound reasoning.

As always, please be aware that this post is not financial advice. We just want to share our experience with investing our own money. Do your own due diligence and ask your financial advisor.

Happy investing!

Disclaimer: We are merely sharing our experience with investing our own money. You are responsible for your own investment decisions. Always do your own due diligence and consult your certified financial advisor before making a decision regarding your financial assets.