Yesterday was a monster day in the market for the stocks that many of us own. Saul posed the question of what is going on. Personally, my portfolio was up 6.2% yesterday so here’s how it looks for 2018 so far this year:
YTD Month S&P YTD S&P mo YTD dif Mo diff Jan 25.59% 25.59% 4.85% 4.85% 20.74% 20.74% Feb 37.45% 9.44% 0.99% -3.69% 36.46% 13.12% Mar 40.74% 2.40% -1.58% -2.54% 42.32% 4.94% Apr 41.05% 0.22% -1.20% 0.38% 42.25% -0.17% May 55.78% 10.45% 1.18% 2.41% 54.61% 8.04% 6/1 65.55% 6.27% 2.28% 1.09% 63.27% 5.18% (1 day after May!)
In the first day of the June my stocks were up 6.27% while the S&P 500 was up only 1.09%. But due to compounding that 6.27% is a change of close to +10% when conceding the Jan 1st start date. Just crazy. The YTD outperformance is now more than 63%. Here’s my portfolio summary from a few days ago:
If you haven’t read my latest summary, I tried to explain how and why I allocate the way I do. It’s not right or wrong, but it’s just the way I’ve chosen to structure my portfolio given the way I am analyzing and thinking about my companies currently. I was actually hoping that it would generate more discussion…not around the stocks but more around the way I’m thinking. Always good to be challenged to better evaluate one’s own thinking. Anyway, let’s move on to what’s happening in the market.
So what’s going on? Why are these stocks outperforming so much?
Well, I think that we’ve really picked some really great companies. The growth rate is really good for all these companies. And the companies have all now reported their financials twice so far this year. Thus, they’ve demonstrated their growth and their progress toward profitability. Many of these companies are not trying to be profitable soon. They are trying to maximize their growth opportunities while staying around cashflow neutral. I want them to do that. These subscription based cloud companies are building up customers and a recurring revenue stream. the poster child that foreshadows where many of these companies are headed is Salesforce.com (CRM). Salesforce.com reported a blowout quarter. They are growing at scales, and out baby cloud companies (i.e. compared to CRM) are emulating a business model that has been proven by CRM. The fact that CRM is still growing so fast and is so profitable, I think, increases investor sentiment in the overall category. Last time I check CRM has a EV/ TTM Sales ratio of around 8 or 9. This is a good thing because our smaller, faster growing companies with a similar business model also have a ratio in that ballpark. This tells me that it’s likely that our companies can maintain that multiple even if they get much bigger (so long as their can keep growing).
We got some pretty great economic data yesterday. The unemployment numbers looked great. Inflation (wage growth) was not very higher. GDP forecasts in the US have move up to something like 3.7% (not sure if this was projected for Q2 or Q3) which is pretty amazing for an economy as large and developed at the US. This leads investor to put risk on which means they will invest more in smaller, “riskier” companies. This should drive more investor interest in the companies that we own.
North Korea problem might actually get solved. Anyway, it’s looking pretty good at the moment.
Trade talks and disputes are still a risk. I think this will get solved. No one really wants a trade war. But the tech companies that we own are pretty safe in terms of the impact of any potential trade war. Agriculture, commodities, industrials, and companies that use a lot of raw materials are more at risk here.
Overall, things are looking pretty good.
So what the the future hold? Can the market keep going up? Of course, opinions are just that…opinions. Here is my opinion and my outlook. Take it for what it’s worth.
a) The “market” has barely moved this year. S&P 500 is only up about 2.5% YTD. That’s nothing. We had great earnings growth. We had tax cuts which will make many of the companies more profitable. We have low inflation. We have the economy expanding. We have more people working who will spend their earnings on stuff which will further increase earnings of companies. We also have increasing capital spending by companies which will likely kick in in Q3 and Q4 as companies will get accelerated depreciation if they investing in CapEx this year. We don’t yet have people piling into the market…little or no FOMO currently.
b) I believe that the market will see a big rise. When? I have no idea but with all this growth and all these positives. I think a big driver will be the CapEx spending that’s bound to come. If I had to guess, I think we will see a pretty big move in the S&P500 between now and then end of Q4 earnings season which is in early February 2019. Of course, there could always be some geopolitical shock or another financial crisis or a solar flare that knocks out all electronics in the world (this last one would really crush many of our portfolios). Anyway, if the overall market (S&P500) rises then our companies will rise along with it I think.
c) I’ve posted my world view about inflation and technology advancement acceleration many times before. I think that technology is accelerating faster and faster. I see this with NVDA and NVDA is driving other companies and many innovations that leads to faster and faster growth and contributes to keeping inflation low.
d) These mid-cap fast growers are in the sweet spot of risk-reward. Why? Because they have a lot of growth ahead (captured small part of markets that they are in) while they have proven themselves. My proven I mean that they have demonstrated that this is a market for their product/service/subscription, they have proven that the market is growing, they have proven that they add value (customers buying). There is so much of the risk that’s been eliminated. Compare this to a start-up which has so many risks. I used to invest in start-ups but no more. There’s just to many risks: market risk, financing risk, management team risk. Companies that have demonstrated that the market is there and have demonstrated that they offer value (by customers actually buying and recommending them) offer a high probability to make huge returns. Once a company has captured too much of the market, the growth slows. So there is a sweet spot. I think that SHOP, SQ, NTNX, AYX, TWLO, PSTG are in that sweet spot. And most of these companies have an asset light business model. So part of what is going on here, I believe, is that the market has not yet figured out how this business model should be valued. We’ll see if that is true. Perhaps the revenue growth is being underestimated. Or perhaps the future value (i.e. the low cost of delivering those CFs) of all the recurring revenue cashflows is really underestimated.
Anyway, those are some high level thoughts on what I think is happening and is likely to happen.