2010 Year of Recovery

I am happy to be writing to summarize another year of recovery in 2010 and to discuss the reasons behind my optimism for continuing recovery and healthy portfolio returns for 2011.

We’ve come a long way since the depths of despair and investment values reached during the market lows of early March 2009. Following the worst market decline in generations, which was the culmination of the worst decade of stock market investing in generations, I am relieved and heartened to see that investors whose discipline and courage did not waiver have been rewarded.

Just 21 months ago it was commonplace for pundits to discuss the end of times in some form or another. Whether it was to predict the end of stock markets or individual companies, dire predictions for house prices, or the perpetual decline of economic prosperity and progress, there were some frightening statements and predictions finding their way into the mainstream media. Those of you who have followed my views on such things over the past 18 years will know that I am not easily or often swayed by such extreme predictions – not in good or bad markets. Yet many are, and their effect can wreak havoc on markets and our portfolios in the short term. The truly remarkable recovery from those depths in just less than two years I believe is both reward and confirmation of the view that a long term, disciplined, strategic approach to investing is the only path to success. But the events of the past decade have underscored the fact that it is not an easy path, nor one without trials and moments of doubt.

Canada, and other commodity-based economies continued to fare well relative to other markets in the developed world, as did our currencies. It wasn’t long ago that Canadians had grown accustomed to adding 50% to the cost of a U.S. dollar denominated price. In a few short years, the wealth of Canadians – expressed as it is in the relative value of our currency – has risen substantially and for this we are justifiably proud. This has meant, conversely, that the foreign holdings in our portfolios (denominated as they are in foreign currencies) have hurt overall performance. I think this impact has largely been felt and expect to have opportunities in the near future to increase our exposure to foreign markets, aided in part by the strong purchasing power of our dollar around the world.

In Warren Buffett's annual letter to his shareholders in early 2009, at the height of the crisis (and as he was placing some of the largest investments of his career) he wrote: "We are certain, for example, that the economy will be in shambles throughout 2009 – and probably well beyond – but that conclusion does not tell us whether the [stock] market will rise or fall." Precisely so. This sentence alone would have been some of the best advice anyone could have heeded at that time. Long term investment success is not determined by the short term variations in stock markets. Despite the fact that economies continue to operate below full capacity, stock market returns have been unusually strong.

I have many reasons to be optimistic about the potential of the year ahead of us. I am also well aware of the many challenges and problems facing the world’s economies, governments and stock markets.

I believe stock markets still represent good value for the investment dollar, particularly when compared to the horrible alternatives presented by low-yielding guaranteed and fixed income investments. Companies around the globe have done a generally good job of trimming their costs and boosting efficiencies. Even a tepid economic recovery should allow them to continue the strong profit growth of the past couple of years and, as a shareholder in these companies, this is our primary concern. Should the economic recovery turn out to be better than the lacklustre predictions (as is so often the case coming out of recessions) then this could be wind at the back of stocks for quite some time to come. Even after nearly two years of recovering stock prices, many companies trade at bargain prices and represent true opportunity for patient and disciplined investors.

There are certainly problems to be addressed. Chief among these for me would be large and unsustainable levels of government debt. It can be very difficult to get one’s head around the figures. For example, the U.S. national debt now stands at approximately $14 trillion. In the latter half of 2010 it was rising at $54,000 per second. The U.S. borrowed just last year the equivalent of the total annual production of Spain. If you spent $795,000 per hour since the birth of Christ you would have spent $14 trillion by now. But the U.S. is by no means the worst nation in terms of their indebtedness relative to the size of their economy. This is a global issue. I would go so far as to say that the levels of indebtedness that western governments now have, and seem comfortable growing, are immoral. These debts represent consumption at a level that exceeds this generation’s ability to pay – in other words, we are living off the future productivity of our children and grandchildren. That is not what we inherited from previous generations and it should not be our legacy to future generations. The threat of government default or de facto default through inflation looms. On the bright side, in just a few short years there has been a marked shift in public opinion in this regard. The political will to address the debt issue may well be growing. For societies that do not address this issue it will certainly play an increasingly large role in my approach to investing in the mid to long term.

But, just as Buffett did in the midst of crisis in early 2009, I think we can find solid investing opportunities in the next few years that will allow us to continue on the path to recovery and leave the financial crisis of 2008-2009 well behind us on the road to achieving our financial goals.

It is almost certain that, as in every other market cycle, mainstream opinion and media coverage will be well behind the curve. I suspect we will not be hearing anything but doom and gloom for a while. As investors, had we paid heed to such coverage we would have remained on the sidelines and missed one of the best stock market rallies in decades in these past two years. By the time the news begins to look cheery I suspect stock markets will have risen quite substantially from current levels and I will once again be starting to worry about the potential of another dip and acting accordingly in client portfolios. After a decade such as the one we had to start this millennium, it is a problem I am eager to encounter!

All the best of health, happiness and prosperity to you and your family in the year ahead!

Alan Cameron

2010 Year of Recovery

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