CV Capital – 31 March 18 update

To my fellow shareholders,

Hope your Easter break was good. Moving forward, I’ll post the shareholder updates on a monthly basis as there may be limited activity to report on a more frequent basis.

In many ways, investing is like a game and with a game there are certain rules. However, as these rules are not universally agreed on, different participants may believe in a different set of rules and  what you believe the rules are will dictate how you play the game. Therefore as fellow shareholders and partners, I think it is important that you understand what I consider to be some of the important rules.

  1. Less than 50% of all market participants can beat the market

The market return (represented by ASX 200 index return) is the average returns of all the securities that make-up the index (200 companies). For example, if 200 individual investors each randomly picked a single company from the index to invest in at the beginning of the year and held it through to the end of the year, research shows that less than 50% of the participants would have beat the average return.

For a start, the statistical definition on an average means that only 50% can ever beat that average assuming a normal distribution of returns. However, research shows that the index return isn’t normally distributed and that large out sized gains in a few securities skews the average returns upwards. This means that in reality less than 50% beat the market.

In addition to the skewness, fees and transaction costs makes it even harder for the average investor to keep pace with the average.

Based on this, I have done two things; i) Set up CV Capital to operate on a minimum cost basis. If you know a better value broker offering a better deal than $19.95, let me know!  ii) I have adopted the index (represented by the ETF: STW) as our benchmark knowing that it is a worthy adversary.

  1. More opportunities in less crowded areas

There are usually more opportunities in less crowded areas of the market. Just like on the weekends at the mall, assuming the car park and mall entrance is at the ground level, there is a higher chance of finding a vacant car park space on Level 5 than there is on the ground level.

Usually the crowded areas of the market are the household names which tend to be the top companies on the ASX. These companies have a large following of analysts and smart money managers.

Some of the less crowded areas of the market include: illiquid securities, small cap securities, companies in out-of-favour sectors and companies with business operating in overseas markets. Compared to say the ASX50 companies, foraging in these parts provide a higher chance of finding the gems simply because they are less likely to be picked over.

So rest assured, CV Capital is foraging through the unloved parts of the market.

  1. Stock market returns and time horizon

Many assets like term deposits or bonds pay interest at pre-determined time intervals which creates a nice predictable annual return, year-in and year-out. Whilst long run stock market returns are good, in the short term returns are unpredictable and volatile. Benjamin Graham said that the stock market in the short run is a voting machine (popularity contest) but in the long run, it is a weighing machine (driven by fundamentals).

Behind every share certificate, there is a business and the share price return is ultimately driven by the underlying performance of the business.  As Warren Buffett said in his 1983 shareholders letter:

“why should the time required for a planet to circle the sun synchronise precisely with the time required for business actions to pay off?”

Therefore judge the performance of CV Capital over a 3-5 year period and not on its annual results.

  1. Don’t lose money

The laws of maths are unkind once an investment loss is made.  Assuming the same investment size, to break-even on a 50% loss from a prior investment, you would have make a 100% gain on the new investment.

At CV Capital, we try not to lose money (which is defined as a permanent loss of capital) by being very selective in our investment decisions.  A potential investment needs to passed through several filters and available at the right price before we consider investing. The implication of this is that I consider it a good year if we can find 3-4 investments within a year. On the other hand it is also possible that we may not find a single suitable investment in a 12 month period.

CV Capital update

March has been a disappointing month for equities. The markets appear to have been spooked by the possibility of a trade war between the US and China. Our investments held up quite well during this period. One of the benefits of owning a portfolio of out-of-favoured stocks is that there are less correlated with the market and have less height to fall from. We received some dividends in March and did not buy or sell any securities since our last update. Our cash position is circa 18% of the portfolio.

The table below shows our performance (before taxes) from inception to 31 March.

 15 Jan 1831 Mar 18Return
CV Capital1.001.0454.5%
Benchmark STW56.753.83(5.1%)

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