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| Year 2009 |
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The easiest thing to say about 2009 is that it was a better year than 2008, which was fortunate for the entire world. The financial system did not collapse, world trade did not end, and many countries started seeing economic growth again at some point during the year. Of course, the U.S. and several other developed countries continue to prop up their financial systems with very low interest rates and special financing arrangements, world trade is at a slower pace than pre-crisis and, with some major exceptions, many countries growth rates are way below what a “normal” recovery would show. U.S. consumer spending in the Christmas season was up from 2008, but that was not a difficult hurdle. While the unemployment rate may have peaked, at ten percent it is too high for any kind of lasting economic recovery to take hold. If it begins a sustained decline in the early part of this year that would be a strong signal that the economy was back on firmer footing and that 2010 could be a year of solid economic growth.
We wrote several times about the market favoring early in the year the high quality growth stocks that are Edgewood’s focus. After it became apparent that the economy was not going into a depression the market embraced companies with weaker balance sheets and heavily cyclical business models; those companies whose stock prices had been most damaged in the decline from September 2008 to March 2009. The market’s reversal is reflected in some of the moves within the S&P 500. The 50 best performers in the index in 2008 gained 9% in 2009, while the 50 worst 2008 performers doubled in price in 2009. The 50 largest in terms of market cap gained 22% while the 50 smallest gained 113%. The most heavily shorted stocks rose 60% during the year while the least shorted rose 20%.
In November we believed this could not last and, in fact, in December the market started paying more attention once again to balance sheet strength and sustainable earnings growth. It will be very hard to see P/E multiples expand again in 2010, particularly when interest rates begin to rise, so sustainable earnings growth will be the primary driver of stock price performance during the year. This will make individual stock selection key. With a sub-par economic recovery very possible, the earnings growth surge in cyclical industries will be below the norms for an economic recovery. High quality companies that can consistently grow their earnings should attract more attention in that environment.
As we said earlier 2009 was a tale of two markets for Edgewood. The early part of the year saw the indices fall dramatically; the S&P 500 was down 11% in the first quarter, while Edgewood’s high quality portfolio was up 1.5%. As excessive fear receded, gains in Edgewood’s portfolio decelerated while the low quality names had a large price move.
The fourth quarter saw the beginning of the reversal of this trend with the Edgewood portfolio outperforming the S&P 500 by more than 150 basis points in December. Technology remained strong all year and helped performance in the last three months. Energy and financials were the other strong contributors in that period. Health care hurt performance in the fourth quarter but that began to reverse itself in December as clarity on what would and would not be affected by the health care bills that are awaiting reconciliation between the House and the Senate.
2009 saw much lower turnover in the portfolio than did 2008. In the fourth quarter we purchased Priceline (PCLN) and Southwestern Energy (SWN) and sold CVS/Caremark (CVS) and Electronic Arts (ERTS). A brief description of each is below:
Sales:
CVS
CVS is the second largest drugstore chain in the US and its acquisition of Caremark (pharmacy benefit management) has become increasingly complicated and price competitive.
ERTS
The second largest video game maker in the world, ERTS is facing a growing threat from on-line gaming and continued price pressure on game development and royalty payments.
Purchases:
PCLN
An e-commerce business, primarily providing online travel via its priceline.com hotel booking service. The company’s recent European acquisition of Bookings.com has added a significant leg of growth to this still nascent industry. PCLN also addresses fast growing Asian markets, which has been an Edgewood focus for some time.
SWN
The natural gas area is very attractive because it is plentiful in supply in the US and is much more environmentally friendly than oil when consumed. Southwestern Energy is a leader in gas exploration and production and is the original discoverer/developer of the world’s largest shale gas field in Fayetteville Ark. The company has a 25 year production curve which far outpaces any industry peer.
We want to wish you all a prosperous and happy new year. |
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This material represents an assessment of the market environment at a particular
point in time and is not intended to be a forecast of future events or a
guarantee of future results. This information should not be relied upon as
research or investment advice regarding the fund or any stock in particular.
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