During May, the Fund expanded the portfolio to include two new positions from among the existing 48 potential investments. The first included three separate tranche purchases of The Walt Disney Company and the second was an opportunity presented when Essex Property Trust, Inc. dropped below its intrinsic value. In addition, the Fund sold two separate option contracts in both positions. The Walt Disney Company position was exercised within a few days of that sale and the current option contract for Essex Property Trust, Inc. remains active. The sale of PUT options (three separate companies) generated $3,019 of realized income after associated transaction fees. Finally, Wells Fargo did issue a dividend worth $271 for the Fund. This dividend sits as a receivable on the books of record as Wells Fargo will pay the dividend during the first week of June.
Value Investment Fund
This site’s value investment fund is composed of three separate industry pools with at least 18 separate potential investments. In 2020, the value investment fund had a 35% return on its core basis. During the second year, it is currently tracking for a return of more than 40%.
During the first quarter of 2022, all major indices experienced dramatic retrenchment with the market value of their respective index. At some point during the quarter, most indices had double digit value reduction; the last half of March 2022 saw all of the various types of funds recover from the low points earlier in the quarter. However, this site’s Value Investment Fund experienced continued growth. This is the result of exercising highly selective buys that reduce risk dramatically. In turn, this risk reduction principle minimizes any type of potential loss associated with an economic wide downturn.
This site’s Value Investment Fund easily beat all major indices during the month of January 2022. This is due to the primary principle of risk reduction tied to investments. When a value investor buys a security at less than intrinsic value, there is dramatic resilience against continued losses or sudden market downturns. In effect, there is less volatility. The value investor does give up instantaneous value growth due to the greater than normal stability of the respective investments. However, when you buy low and wait patiently for the market price recovery, the returns are still considered outstanding. Again, expect returns above 30% on average per year. Do not expect returns greater than 40% as again, these are highly stable companies and well respected; thus, their market prices will rarely deviate dramatically in either direction.
During 2021, the Value Investment Fund recorded an outstanding 41.08% return on its December 31, 2020 balance of $116,231. The Value Investment Fund ended 2021 with a balance of $168,430.
The effective annual return on the investment equals 41.08%. The target for a value investor is more than 30% per year. What helped boost this good return was the overall market gains during 2021. The DOW Jones Industrial Average increased 18.73% which is an outstanding year for the DOW. Over the last 20 years, the DOW averages an annual return of 11.3%. A similar pattern holds against the S&P 500. During 2021, the S&P 500 generated a return of 26.61% and over the last 10 years it averaged 12.15%. Even with adjustments for the better than average returns across the board in the market, this site’s Value Investment Fund still beat the goal of at least 30% per year.
Churning refers to agitating. It is commonly used with the dairy industry to refer to the process of turning liquid cream into butter. The churning process breaks down the fat membranes allowing the fats to join together. In effect, churning means to work the liquid into a solid. With investing, churning has two different connotations. The first is the more common negative connection to brokers getting their clients to buy and sell frequently in order to increase overall commissions for the brokerage. The positive connotation is rarely used and it refers to working one’s portfolio of investments to maximize overall return. That is what this lesson is about. How does a value investor work their portfolio to maximize overall portfolio return?
The ideal method to maximize return is buying low and selling high at the right time with investments that have quick recovery time frames. Ideally, all the cash proceeds from a sale should be immediately reinvested into new opportunities. Often, this is not the case. When the respective markets such as the DOW, S&P 500 or the S&P Composite 1500 experience highs, it is difficult to find good quality investments at low prices. This is further hampered when a value investment fund has limited options. In order to provide ample opportunities for reinvestment of cash, value investment funds require at least five pools of industries and a minimum of 40 stocks. The ideal fund will have around eight pools of potential investments with no less than 60 potential securities.
As stated in October’s report, the Value Investment Fund created the Military Contractors Pool of potential investments and researched several opportunities. One of those opportunities is Huntington Ingalls Industries. On November 30, 2021, the Fund proceeded to purchase 112 shares of Huntington Ingalls due to the market price hitting the required margin of safety requirements related to intrinsic value. Please read Huntington Ingalls Industries – Market, Intrinsic and Value Investing Prices for more information about this particular company. From this article, even if this investment takes two years to recovery to the market recovery price of $251, it will still generate in excess of 23% annual returns.
During October, the Fund continued to hold Wells Fargo as its only investment. During the month, Wells Fargo improved $5,166 over September’s ending balance, a 10.48% improvement. As stated in other articles related to Wells Fargo, this is a long-term investment tied to the removal of the Federal Reserve penalty now going into its fourth year. This penalty is designed to prevent Wells Fargo from growing beyond its current $1.9 Trillion of assets. In the interim, Wells Fargo has improved the quality of its balance sheet by improving its percentage of non-interest bearing deposits and the quality of loans. Currently, the Fund has set the sale price for this security at $58 per share. Initially, it was hoped that the Federal Reserve restriction would be lifted by year-end 2021, but that is looking unrealistic now. If the restriction is lifted by end of June 2022, the stock should reach the target goal of $58 per share thus generating an estimated $22,950 return on a $40,000 investment basis over a course of approximately 18 months. This equates to an annual return of about 25%.
Yes, during September the Value Investment Fund only held one position which was Wells Fargo. It only decreased in value a mere .6%. To make this even more interesting, during September, Wells Fargo was hit with two more fines from the agencies of the federal government totaling more than $300 Million and yet, Wells Fargo only decreased in value a pittance .6%. This is another example of how high quality investments, when purchased at good prices, reduce risk dramatically. Yes, there is an offset to this risk elimination design. An investor will never get rich quickly, i.e. in less than one year. High quality investments purchased at less than intrinsic value have very little volatility and as such can only generate good returns. Good returns are defined as greater than 20% per year on average. In most cases, the average annual returns will exceed 30% per year with about one or two years per economic cycle with meager returns in the five to ten percent range.
Again, Value Investing is about earning good returns, year after year. It is not a get rich quick scheme; it is a thoughtful well laid out plan to improve one’s wealth over time.
Although the Value Investment Fund continues to grow, opportunities wane. It has been smooth sailing so far mostly due to an economic downturn in 2020 driven by COVID. Opportunities still existed into late 2020 of which this Fund took advantage. Now I have to add more potential opportunities or growth will amble along. There does not appear to be any storm activity in the near future. The markets indices are all at their all-time highs; there are no negative outlooks from any authority and quite honestly, economic forecasts look robust. Without an economic wide storm, very few potential buys will exist. To counter this, the Fund must expand its selections of pools and the corresponding high quality companies in order to take advantage of an individual company or two falling out of favor with investors.
The Club’s Value Investment Fund keeps moving forward. During July 2021, the Fund’s balance improved $6,308, a 4% gain over the prior month. During July, the Fund sold both its holdings in Equity Residential and UDR. Both stocks reached their preset expected sales price triggering the sale of the stock.