Our investment strategy comprises three different, but complementary, elements – value, global and resources.
As with all money managers we seek to provide our clients with good returns at an acceptable level of risk. We believe we can do that by searching for undervalued assets around the world, as well as by employing asset classes (such as resources) that have an ability, at times, to move contrary to the broader market.
Obtaining such returns depends not upon following the paths and ideas already well trampled by “the herd”, but rather by endeavoring in an imaginative and intuitive fashion to unearth opportunities where others see only risk and uncertainty.
Whether our strategy leads to buying an overlooked holding company in Europe or a Canadian junior gold producer, we always ask ourselves the following question: if we buy this investment, does it improve the portfolio? If the answer is “yes”, it can only be because we satisfy ourselves that the new holding either contributes significantly to reducing the risk in the overall portfolio, or that it presents an exceptional value opportunity – or, preferably, both.
“Me too” investing is, almost by definition, the path to average performance at best. The possibility of better-than-average results can only exist by following disciplines not generally employed by the investing masses. Our contrarian strategy with its three elements is precisely such a discipline.
Investors looking for a steady stream of income from their investments, but also want growth with below-average risk, should consider our Conservative Global Value Account. The holdings typically include undervalued global blue chip stocks, dividend paying equities, and occasionally bonds. Portfolio Overview: Conservative
Investors seeking long-term growth over a 3-5 year time horizon and willing to assume moderate risk may consider our Global Value Growth Account. Taking a global value approach to investing, we accumulate quality global stocks on weakness and stocks considered to be fundamentally inexpensive. Portfolio Overview: Growth
Long-term investors willing to assume above-average risk for the potential to achieve higher returns may be suitable for our Aggressive Global Value Account. Our objective is to maximize returns by investing in undervalued stocks with long-term growth potential and through the use of options to enhance performance and as a hedge. Portfolio Overview: Aggressive
Investors seeking to diversify their overall portfolios and assume above average risk may consider our Gold account. This account seeks to maximize gains by carefully selecting gold and precious metal investments, globally, with above average return potential. Portfolio Overview: Gold June 2021
Investors seeking to diversify their overall portfolios and willing to assume above average risk may consider our Resource account. This account seeks values across a broad range of resources including paper and pulp, coffee and tea, palm oil and rubber, water, metals, minerals and oil and gas. Due to the cyclicality of resource markets, different commodities may dominate the account at various times. Portfolio Overview: Resource March 2021
Although the use of cash is not really a tactic – and the level of cash often not the result of a deliberate effort – it can be discussed here. A value investor (such as ourselves) does not make bets on market direction or timing. Rather, he buys things when they are good value. If he finds something to buy but has no cash, he sells his least undervalued asset to replace it with the new, more undervalued asset. But he feels no need to be fully invested at all times. So if there are no good values then he does not buy, resulting in a high cash allocation. By default, then, he becomes a market timer, but the high cash position is a result of finding no value, not a goal in and of itself.
As Jean-Marie Eveillard puts it, “cash is a residual.” But that residual can be quite high if there are no values.
Another value investor, Seth Klarman says investors “should choose to hold cash in the absence of compelling opportunity,” again emphasizing that high cash is not a top-down allocation, but the result of the bottom-up search for bargains. He tells his investors who query why they are paying him to hold cash. “You are not. You are paying us to decide when to hold onto cash and when to invest it”, an answer with which we would concur.
At Adrian Day Asset Management, in addition to this approach, we also overlay our assessment of the general market risk profile. If the overall risk appears high, then we will insist on greater and more sure values before buying.
When values are somewhat high, rather than buy outright, we may sell puts on stocks we like, at below market strikes. In this way we can generate additional income, while exposing ourselves to sectors and equities we like. (For more on this, see “Options”, one of the discussions under “Investment Tactics.”) In such cases, we always set aside the cash that would be required were an option put to us; thus not all our cash is necessarily unrestricted, and may be working for you anyway.
When we talk of cash, we are primarily thinking of U.S. cash (or cash equivalents). We may purchase foreign currencies, holding in cash equivalents, as a hedge against the dollar, an investment in and of itself. But again, if we find good values in foreign stock markets, we will generally prefer to hold equities than foreign currencies.
We tend to be incremental buyers and sellers. When we have a new company to buy, we tend not to buy for every client (for whom it meets their investment parameters) all at once at the same time and price. Rather we will tend to buy incrementally, for some clients first (those for whom it is most appropriate, or who are underweight that sector or market, or who have larger cash holdings at that time).
Similarly, we can buy a full position for individual clients, particularly larger accounts, in stages, taking a modest position and buying more if the stock price drops or as developments at the company warrant.
The selling process is similar, selling as the stock moves up, though of course, if we have changed our mind on a company, we will move quickly to sell for all clients.
If we purchased additional shares for a client, we may sell that additional purchase sooner, at a modest profit, while retaining the core holding.
The use of stop losses is one of those issues to which there is no absolute answer; the truth is that using stops can sometimes prevent a small loss from becoming a larger one, while there are definite risks with using stops; each investor must decide for himself when and in what way to employ stops.
Here at A.D.A.M., we tend to be somewhat cynical on the use of stops. First, automatic stops can be employed for the most part only on stocks listed on U.S. exchanges; they cannot be used on Nasdaq, for Canadian stocks, and on most other foreign markets.
Second is the important consideration of being whipsawed, wherein a stock declines to the stop level, takes you out, and then reverses and moves back up. (It is widely thought that some speculators will take stocks down to prices where there are batches of stops.) This is particularly, but not only, true of volatile stocks. Had we employed stops consistently, we would have been taken out early on every single one of our favorite long-term winners.
Further, a stop loss of necessity takes one out of the stock at a low point rather than a high point. This does not mean, of course, that the stock will not go lower, but rather that you are being sold when the stock is down. And once a stop is triggered, it becomes a market order, meaning you may get sold at a price somewhat below your stop level, particularly in thinner markets.
The most fundamental objection to the continual use of stops, however, is this: if one is a long-term value investor and has done one’s homework correctly, then when a stock price declines, it is precisely the time to buy more, not to sell. If one likes ABC at $60 and nothing has changed, one should love it at $40.
Having said all that, we use stops in two different circumstances. First, as discussed above under Shorts, we prefer to use stops when short selling. This is because stocks can move considerably above their true value for extended periods, and in short-selling, one must put up more margin when short sells move against you. As the old saying goes, “markets can remain irrational longer than most investors can remain solvent.”
Secondly, we sometimes use stops when a stock has performed very well, and though we believe the stock is fundamentally overvalued, market conditions make us believe it could go even higher. So instead of selling, we will use a tight trailing stop, moving the stop up as the stock moves up. In such circumstances, a stop is to “protect profits” rather than to “stop losses”.
Sometimes, we have a negative view on the market or a particular sector and want to “make a bet” against the market. This can be done by buying puts or selling short, either indices or specific securities. We may undertake such trades either as a way of profiting from a decline in price, or as a way of hedging an overall account. For example, a client may own a considerable number of European stocks, each of which individually we like. But if we are nervous about the outlook for European stock markets generally, we may hedge that position with an index put or short sale, instead of selling of the stocks.
In theory, buying a put is less risky than selling short, since the maximum loss from a put purchase is the price paid, whereas a short sale has, theoretically, unlimited loss potential. However, puts have two significant drawbacks: they are limited in time; and one pays a premium. In sum, puts are time-wasting assets.
Thus, if one buys a put on, say, Google, expecting the stock to decline, one must be correct, not only on the direction of Google (i.e., down), but right about the timing; the decline must occur during the period when the option is active. And the premiums on puts on some stocks, particularly the most overvalued and volatile ones, can be very high, making it difficult to make money from the purchase of puts. (This is one reason why we prefer to be sellers of options, rather than buyers; see discussion on Options.)
We short typically only in larger accounts. The client must have given us express authorization to sell short. The value of short sales will only ever be a small portion of a total account. Typically, we sell short listed stocks (that is, stocks listed on an exchange), where one can place an automatic buy back, should the stock move up. And we use those stops, which take the emotion out of what can otherwise be a hair-raising experience.
Having said all of that, shorting a stock, in essence, is no more than the reverse of buying it, and, although we do not aim to run a long-short program or hedge fund, shorting indices and individual stocks can be a useful hedge and a profitable exercise.
Options, of course, are but a tool, a tool that can be aggressive or conservative, used or misused. Below we outline the options strategies that we employ most typically. In general, we use such strategies in a conservative manner to enhance performance or to hedge the overall account. However, clients must provide special authorization in order for us to undertake any options trades, and we ask clients to do this only if they are fully comfortable with what we are doing.
Sometimes, we will undertake strategies that involve a combination of option purchases and sales (such as selling a call and buying a put at the same time, to buy downside protection at no cost).
In order for us to undertake these strategies in an account, the client must sign special paperwork. By doing this, the client is authorizing us to undertake any options purchases and sales for which he has signed. If as a client, you do not want to authorize us to undertake certain transactions, then you should not provide that authorization.
Accounts may be limited as to strategies that can be employed by legal or other reasons. (For example, IRA accounts are restricted by law from certain strategies; trusts may be limited by the trust document or trustees; and brokerage firms must approve clients for certain options activities.) Margin is required for certain options strategies. In order for us to sell puts, for example, we must have margin authorization. We do not sell naked calls or undertake transactions using margin in the sense in which it is commonly understood; that is, your exposure would never be more than 100% of the price paid for the put or call, or the exercise price if a sale. When we sell a put, for example, we put aside the money required should the put be exercised.
As mentioned, typically, we use options to limit risk exposure. In addition, such strategies only ever comprise a small part of an overall portfolio.
Private placements are offerings of stock in new or secondary issues that are not available on the public market. They are frequently sold at a discount to the market price and with attached warrants; and they are purchased in size (sometimes $100,000) and usually have restrictions on sale (sometimes as much as two years).
So though private placement can be a very advantageous investment (because of the pricing and the warrant), they are not without drawbacks and risks, and are clearly not for everyone. And they are not available to everyone.
Indeed, it is not an exaggeration to say that the private placements easily available are often precisely the ones you don’t want!
We do like to purchase private placements, however, if we know the company or its principals. For whom do we buy?
First, private placement purchasers must be accredited under Reg D (meaning, they must have an annual income of at least $200,000 or a net worth of $1 million). For trusts, IRAs and other entities there may be special limitations on the type of placement that can be purchased (particularly, for example, with a new issue or private company not yet public).
The significant minimum investment requirement (rarely less than $25,000 and often $100,000) raises the bar for suitability. Even if a particular company is suitable for a client, an investment of such size may not be.
Private placements are often in new or early stage companies, whose outlook is uncertain, raising the risk profile.
The holding period of a year or more (four months minimum for Canadian placements) may make such an investment unsuitable for some clients, such as those who require frequent unscheduled withdrawals.
And often quick action is needed. So the client must have cash in the account, or cash ready to send, and must be available to complete the sometimes arduous paperwork. Trusts, corporate accounts and other entitles sometimes require additional paperwork and multiple signatures, and sometimes the time pressure itself works against completion of the required forms.
But assuming the client is suitable and has the cash, we would then seek approval of the client to make such an investment. Since private placements are not liquid, we never invest in them without specific client authorization. We maintain a list of clients who have expressed interest in private placements and use that list to screen for any particular placement.
If a placement includes shares and a warrant, we will look to sell some of the underlying shares when they become free trading in order to reduce our overall cost, and retain the upside of the warrants.
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