By Barry Randall
As I type this in early May, I'm left to reflect on April. The markets were weak in the month of "showers" and thus far in May, few "flowers" have bloomed. Oh, don't get me wrong; our companies are doing fine. But we're all a little damp from the market's unhappiness.
But take heart: the geniuses that run hedge funds are on the case. And since hedge funds, on average, have been dead wrong for about five years, there's no reason to believe they've suddenly developed a winning touch.
Note that in April, hedge funds collectively laid on a huge bet against small cap stocks. According to Bloomberg, both the equity and futures markets have seen large increases in short bets against the Russell 2000 Index (RUT), and by some measures, the negative sentiment has reached the highest levels in 10 years.
This matters to us because the Crabtree Technology portfolio does hold many positions in smaller cap stocks. And it has been rough sledding recently. And that's despite one of the best "earnings seasons" I've experienced as a professional investor.
While ridiculous momentum stocks like Tesla (TSLA), LinkedIn (LNKD) and FireEye (FEYE) have issued disappointing March quarter results, we've seen, in general, outstanding execution from our Crabtree holdings. But that hasn't always translated into upward price moves.
Take, for example, Crabtree holding ICON Plc. (ICLR). ICON reported its March quarter before the market open on April 30. And ICON didn't disappoint, registering what I call a 'triple crown: 1) beating earnings expectations; 2) substantially raising 2014 earnings guidance to 3) well above current earnings estimate consensus.
The result? As I type this eight days later, ICON shares are just over $38 per share, down slightly from their $38.70 close on April 29. It's easy to throw up your hands in frustration, but that's not our style. Plus, this kind of short term performance isn't necessarily representative of what's to come. For that, I'll defer to Josh Brown, who writes the Reformed Broker blog. On April 28, Mr. Brown wrote the following passage:
"Let's take a look at all the years in which the S&P 500 was flat (up or down less than 5 percent). It turns out that this has only occurred eleven times since 1956. Of those eleven years of flattish market performance, the average move (up or down) during the following year was a wild and wooly 18 percent. Only twice was the following year negative (1957 and 2008), on nine occasions the flat market was merely a speed bump on the way toward higher prices."
Perhaps 2015 will be wild and wooly in a good way. In the here and now, however, we need perspective to know that a bad month or two isn't the same as a bear market.
The key thing to remember about bear markets is that there are two things required: 1) an underlying condition; and 2) a trigger. In the financial crisis that began in 2007, the underlying condition was the huge and ultimately unknown amount of leverage in the global real estate market. But that alone wasn't the trigger. The trigger was oil prices reaching $140/bbl in the summer of 2007. Which drastically slowed consumer spending and confidence. And we all know what happened next.
Right now, it's hard to say if there's an underlying condition. The $17 trillion Fed balance sheet? Nobody seems that upset about it, especially now that the Fed is tapering its way out of quantitative easing. Political instability in Asia? The fact that CNN is still searching for flight MH370 and not traipsing around in Eastern Ukraine says all you need to know.
How about the incredible over-valuation of tech stocks? That would be true, except…that it's false. For example, technology continues to be the largest sector weight in the S&P 500 index at about 18%. But that's down from about 20% two years ago. Even after the bottle rocket market that was 2013. Just for perspective, tech was 35% of the S&P 500 index in the Spring of 2000.
Maybe, just maybe, this is about investors selling in May. I hear that happens a lot. Usually around the end of April. Sometimes later.
April was challenging for the Crabtree Technology portfolio, mostly for the reasons I've discussed. The Crabtree Technology portfolio declined -5.2% in the month, compared with a -3.9% loss for our Russell 2000 (RUT) benchmark and a 0.6% gain for the S&P 500 (SPX).
Our internal benchmark, the Merrill Lynch Technology 100 (MLO) declined -3.8% in April. The most widely held technology ETF, the State Street Global Advisors' Technology Select SPDR (XLK) rose 0.3% during April.
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