September 2017 Letter to Investors

September was a solid month for the Dividend Growth portfolio, as it retuned 1.02% for the month. This underperformed the 1.93% return for the S&P 500, but the portfolio also started the month with a larger-than-usual allocation to cash.

The portfolio remains moderately cash heavy, with 10% allocated to cash as of month end. But as we enter the seasonally strong November to April period, I will look to get fully invested over the course of the next month, market conditions allowing.

The true standout performers in September were our two automakers, General Motors (GM) and Ford (F), which were up 11.6% and 8.6%, respectively, in September and which have continued to push higher in the first week of October.

All I can say is that it’s about time. I’ve been writing for all of 2017 that auto stocks were one of the few true pockets of value remaining in an otherwise expensive market. Furthermore, while sales were on pace to underperform 2016, I believed that any cyclical weakness would be minor. Frankly, the existing stock of automobiles on American roads is old and in need of being replaced. (The average age of an American car is now 12 years).

Furthermore, the threats posed by ride sharing services like Uber and by driverless cars – while real – are very long-term in nature and more than priced in at current levels. And finally, automakers are in their best financial shape in years and more than capable of powering through any industry downturn.

All of this was as true in January as it is today. But what forced Mr. Market to sit up and pay attention was Hurricane Harvey.

We may never know the exact figures, but as many as a million cars were estimated to have been severely damaged by Hurricane Harvey. As those cars are replaced, the buying will essentially mop up the excess inventory that has been worrying investors.

I’m far less interested in the “Harvey story” and far more interested by the fact that both General Motors and Ford are cheap stocks that pay safe, above-market dividends. But I’ll gladly take the portfolio returns, no matter where they might come from.

Unfortunately, it wasn’t all sunshine and roses last month. Bond yields climbed throughout the month, which rattled the REIT sector and some of our REIT holdings; STORE Capital (STOR), VEREIT (VER) and WP Carey (WPC) all lost ground in September and were a drag on performance.

My view of the REIT sector remains unchanged. So long as long-term bond yields remain range-bound, REITs offer an attractive income alternative. And retail REITs in particular offer value that is harder to come by in other subsectors of the REIT market.

I intend to opportunistically add new money to our REIT holdings on any further weakness, as I consider all to be very attractive at current prices.

Disclosures: Long GM, F, STOR, VER, WPC