“A diamond is a piece of coal that stuck to the job”-Thomas Edison
Leave it to Thomas Edison to illustrate so colorfully that it takes patience and discipline to create real value. Yet investors continually struggle to maintain long-term focus as external circumstances drive investors through waves of overconfidence and self-doubt. As we write this update, investors are weighing the debt crisis in Greece, China’s attempts to assuage its unstable stock market, and a recent statement by the Governor of Puerto Rico that the US territory is unable to repay its debt. Each of these situations draws attention to the present which can undermine longer term success. At times like this it is important to revisit key variables that we know drive value creation.
One of the most important factors in our investment approach is identifying management teams that have proven themselves adept in navigating market conditions. Because the global economy is dynamic and business conditions are in a constant state of flux, it is hard to overestimate the value of good leadership. Recently Barron’s published a list of the most admired companies and we were delighted to see that roughly half of our holdings appeared on the list. Many of our investments that weren’t named are smaller and less well known yet, we believe, equally well run. Should a deeper crisis arise we believe the management teams will take advantage of the situation to strengthen their corporation’s competitive position.
Another important contributor involves concentrating on the underlying business conditions, not stock price action. While by no means robust, the US economy continues to generate a long, slow recovery that is now in its sixth year. Real GDP growth in the United States is projected to be around 2.2% in 2015, which is similar to growth rate it has achieved since 2010. Labor conditions have improved as the unemployment rate has fallen to 5.3% from 10% in 2009 and the underemployment rate has declined by 7 percentage points to 10% over the same period. Businesses are working hard to find opportunities to generate sales growth while also focusing on cost controls to drive earnings higher. Merger & acquisition activity has risen 33% in the last year as businesses have used M&A to drive revenue growth and the activity has also supported stock valuations. We expect this activity to continue as long as borrowing costs remains low and revenue growth is scarce.
Valuation is significant, as well. The US equity market is trading near the higher end of its historic range and, because of that, it is unlikely to advance faster than underlying earnings growth. We have been working to overcome this hurdle by adding businesses that are benefitting from secular trends in their industries that can drive growth faster than the overall economy. In the most recent quarter we have added CVS Corporation to our client holdings and we sold our position in Aflac. We like how CVS is leveraging its retail presence into a full health care services business. We will continue to favor companies that are executing well on shareholder friendly business plans. If you would like to discuss any of your portfolio holdings in greater detail, please don’t hesitate to give us a call.
Thank you for entrusting Ayrshire Capital Management with the management of your money. We look forward to speaking with you in the coming quarter.
JM Sam Nevin, Jr.
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