To view the top 40 rankings, please click the link below.

Lipper Top 40 Money Managers – 3/30/12

For more information about the Broadleaf Growth Equity Portfolio, please contact Bill Hoover.

Mark my words.  The age of Plain Vanilla investing is set to rise.   Only when your vanilla is bad can you honestly believe that adding Snickers, Gummy Worms and Sour Patch Kids will make it taste better.  More expensive, perhaps, but better?  Unless you’re five years old, no way!

In spite of the election year politics and an imposing fiscal cliff, a once in a generation shift is at work in the economy, aligning the stars uniquely in our favor.  In its own return to vanilla ways, America is in the early stages of an industrial renaissance, made possible by the advent of cheap natural gas and a corporate sector that has taken its fiscal medicine.  We’re fitter than anyone on the planet, open to business, and ready to compete.  Consumer confidence, in spite of high unemployment, is at record levels, and people are even starting to buy homes again.

We’ve said it before and we’ll say it again; now is America’s time to shine.

If you’ve been burned one too many times by the very things you thought would give you some protection, give us a call.

Our vanilla is pretty damn good.

Kindest Regards,

Doug MacKay, CEO & CIO

Bill Hoover, President

Today, the change in the story line is striking.  While the amount of fossil fuel buried in mother Earth has remained a very real constant throughout the past four years, new technology has provided access to natural gas and other rich liquids to such a degree that we are now perceived to have a glut which could keep prices at $3-5/mCF for the foreseeable future and perhaps even lower.   The political debates have quietly shifted from a scarcity to an abundance mentality and the campaign trail may now be littered with debates over what we should do with all this stuff.  Pipeline politics are entering the picture, and the prospects for funding new LNG export terminals a real possibility.

While the various forms of fossil fuels (coal, natgas, and oil) are not perfect substitutes for one another, over time, a glut in the supply of one will likely have a restraining effect on the prices of the others.  Natural gas has been in an outright deflationary spiral for much of the past four years and in spite of the lower prices which would normally curtail production efforts, they have counter intuitively increased as anyone in Ohio readily knows.  Coal pricing finally caught the natural gas pricing flu this spring, a trend which will likely continue as more utility companies convert to burning gas and as grassroot hobbyists tinker with their autos.

While almost all commodities (ag, chemicals, and energy) have tended to move up and down together in price, oil has always beat to a different drummer, likely as a function of the ebb and flow of geopolitical concerns and the physical location of most known reserves.  I would guess, however, if natural gas is in such abundance domestically, it could very well be the case around the globe.  The prospect for $200 oil might be as remote as NASDAQ 5000.

Despite the long introduction, I only mention the recent history surrounding the debate over the scarcity of fossil fuels to address another hot topic currently brewing on Wall Street.  Some believe that American enterprise has reached peak productivity and earnings, therefore, can’t be far behind.

While it is certainly true that cost cutting measures – aka corporate austerity – have contributed to record profit margins and cash balances across corporate America, I also believe a subtle shift in consumer driven productivity has long been underway, one of which has set the stage for another generational shift in productivity and living standards.

Thanks to the Great Recession, companies have used the tough times to pare back and utilize corporate resources much more efficiently.  Corporate America has trained hard, in a no pain, no gain style.  As we emerge from our troubled days, I suspect we will be surprised at just how far we can go with much less effort than the past.

I fully acknowledge that the following personal anecdotes may not translate well within the classic framework of business economics, but when considered from a macro level they may nevertheless reveal Adam Smith’s invisible hand busy at work, painting the fresh outlines of a new and different economy.

Many years ago, Henry Ford quipped that had he listened to his customers, he’d have given them a faster horse.  Pithy, to be sure, but with the benefit of hindsight, quite on the mark.  Sergey Brin and Larry Page of Google could have said the same thing about their foray into the advertising business.  But instead of giving us a better newspaper, they gave us the search engine.

While I am not quite sure how the new framework of consumer driven productivity advances can be quantified as to their overall impact on the economy, there can be no doubt that we’ve all experienced the benefits.  To that point, I would like to share a few examples from my recent personal life that have helped me to learn more, experience more, and in a very real sense, live more.  In a Thomas Jefferson style, we’re all able to do a lot more for ourselves than we once were, even just a few short years ago.

********

YouTube Mechanic

A few weeks ago, my zero turn Cub Cadet riding mower lost its power.  Rather than sending it to the shop and being without a mower for a few weeks and knowing the manual would be of little help, I turned to Google and YouTube.  I ended up watching a video which not only helped me change the oil in the hydraulic system, but also gave me some ideas on how to remove the stubborn original equipment oil filters.  YouTube brought me in immediate touch with others who had shared my problem and overcome.  After successfully changing the oil and learning how to purge the engine – whatever that means – I had the power back, so much so that I thought I had a brand new mower.

Of course, the story doesn’t end there because I quickly realized that there was a small leak in one area of the transmission.  A few bolts surrounding a gasket area suggested that the threads might be stripped or at the very least were not that grippy.   (Yeah, I’m no engineer, but experience did teach me some new words that at least I understand.)  I called my brother who told me I could rethread the transmission block by purchasing a $20 kit from Autozone.  With the help of another YouTube video, I was able to rethread the bolts and rule out that those were the problem.  Ultimately, I still had to send it to the shop for transmission parts that weren’t available to end consumers (they must not be up to date with a Google world), but thanks to YouTube and advertising sponsorship from Google, I came very close to fixing the problem on my own.

Keeping Score

At my eight year old son’s first baseball game last night, a five inning affair that lasted three hours and ended in a 16-15 victory on just eight hits, I was nominated to keep score.  I didn’t know much about the process of keeping a score sheet, but I guess I knew more than the other guys, presumably because my son plays high school ball.

Keeping score for a baseball game, I knew, was a little like scoring in bowling.  Instead of coloring in the square for a strike, you just needed to do the same for the diamond when a runner came home.  Needless to say, it was much more complex than that.  Perfectly done, a novice should be able to completely reconstruct the flow of an entire nine inning game by looking at the score sheet – balls, strikes, bases, runs, errors – the whole shebang.

Yeah, I failed.

Somehow, I had missed out on the fine art of scoring a baseball game during my childhood.  Knowing that I needed to do a better job at the next game and that none of the other dads would likely be able to offer me much help, I turned to my iPad for answers.  By Googling “how to keep score in baseball”, I found several tutorials on how to keep score, including the very first result, a play by play lesson from my favorite website of all time – theartofmanliness.com.  While finding it there certainly made me feel less manly, I think I grew a few new chest hairs for manning up to my inadequacies.  I’ll even bet there’s an App for that – for scoring ball – but since I don’t want to ruin a perfectly good iPad with a random foul ball, I plan to stick with paper and pencil for Saturday’s big game.

Catchy Tunes on SNL

Two nights ago, I sat down to watch a few episodes of my favorite television shows on DVR.  After catching up on Fringe, American Pickers, and Top Shot, I settled into the most recent episode of Saturday Night Live.   Gotye was the show’s musical guest and their catchy tune “Somebody That I Used to Know” still rings in my head.  Not only did I buy the song on iTunes, I also watched the video for free on YouTube.

Wanting to learn more about the artist, I googled him and found a video describing the inspiration behind another older hit he has called Eyes Wide Open.  Visiting Musical Fence – a place that could best be described as an outdoor amusement park of primitive musical instruments in the Outback of Australia – Gotye sampled a number of sounds from a variety of objects from barbed wire fences to trash can lids to develop the base sound for what would later become this hit.  Coupled with his interest in animation, it was a fascinating clip and a fun video to watch.

Social Media

Today, Kathleen – an associate at Broadleaf – mentioned that her kids had been involved in a side conversation about teenage promiscuity and pregnancy.  While the kids took this discussion in stride, what took Kathleen by surprise was the fact that they were very disturbed by another conversation on teenage smoking.  In our day, kids smoked as a social activity and many high schools even permitted students time to take a smoke break in the “pit” with teachers.  At one time, smoking was a commonplace and accepted social activity, like eating lunch in the cafeteria.

This conversation got me thinking more about social networking.  Facebook’s whole premise as a business is based on the notion that what becomes popular or widely accepted is often established via social circles.  Let’s face it, wearing Ugg Boots and Yoga Pants to class while humming the fascinating lyrics of Nicki Minaj really isn’t all that cool, but because the social circle says it is, it is.  (Smoking and mullets were similarly cool in my day and age for anyone who might disagree.)

Speaking of social media, I also learned that Gotye, though composing for more than ten years, didn’t really get noticed on the international scene until Ashton Kutcher gave his music a positive nod in the Twittersphere.  In a similar nod to the productive power of the social network, Nike, I recently read, has significantly curtailed its advertising contracts with many high profile athletes in recent years in favor of social media relationships with its customers or natural “fans” as it calls them.  I guess the effective but high cost influence of professional athletes has become as much of a liability as a benefit given recent public relationship nightmares with Tiger Woods etal.

Not only are social media circles just as powerful in generating support for established brands like Nike, but it may also be a cost effective enabler of establishing new brands in the market.  While there are certainly cost advantages to having your natural fans pump your product for you, social media has also shown the top line value of having your product go viral, as recently illustrated by the experience of new razor blade company, The Dollar Shave Club.   The use of social media by companies like Nike not only shows how costs can be lowered, but also shows how new brands like The Dollar Shave Club can challenge even the most entrenched competitors like Gillette and Schick to drive top line results for new entrants and bottom line value for consumers.

********

During the dot com boom, many companies went into business and ultimately failed, as was the case for the early automobile industry.   While the ultimate winners in the industry were not known early on in their histories, Ford and Google, among a select other few have proven that the industries were game shifting and here to stay.

Many employees of American business still commute far distances on a daily basis to their places of employment.  A great deal of time is lost caught up in traffic jams for the sake of maintaining the status quo, or as I’ll put it, the way of the horse.   I wear a suit and tie when meeting with clients, but I don’t believe for a minute that wearing one improves my stock picking ability.

In the day and age of telecommuting, I suspect more companies could consider the telecommuniting option as a form of compensation to employees and I’ll bet productivity on both sides of the equation would benefit.  Workers would save time, which is money, companies would save on real estate and perhaps compensation costs, and circling back to my introductory comments, we’d all use less gasoline.   I for one, consider my ten minute commute to work a definite fringe benefit of the job,  but at the same time, here I am at 11pm, completing this update.  I get things done when I can, shifting time to meet the needs of my family and our business.

Recently I came across an interesting survey I found on Google.  Faced between choosing a driver’s license or an internet connection, today’s youth would largely prefer the latter, which should be a scary thought for today’s automobile companies.  I don’t believe it’s fair to suggest that this is a generation of teenagers at risk of losing their social skills.  To the contrary, I’ve never seen kids so in touch with one another via text messages, Facetime, and Skype chats.   Frankly, I don’t know how my thirteen year old daughter can carry on conversations for so long.  I also remember when email first came out.  People were scared to death that it wasn’t secure and could be stolen.  Scott McNealy of Sun Microsystems was quick to remind us that email was no less secure than the mailbox at the end of our driveway.

Google recently published a YouTube video of a self-driving car taking a partially blind man on a five mile ride.   The prototype uses Google Maps, satellite, radar, and lasers to the five miles and even takes him to Taco Bell.  While it’s a very early concept that clearly needs to see improvements – Chipotle would be a much better choice – it still paints a promising vision of where we may be headed and meshes with the idea that kids these days would rather be texting than driving if given a choice between the two.

The end of American productivity is not near; it simply is yet to be imagined.  As I look at my life, I can sense immense, positive change on the horizon, change that cannot and will not be derailed as long as humans are free to exercise their minds and come up with new solutions to everyday problems.

Scarcity is a figment of our imagination.

And now is America’s time to shine.

Kindest Regards,

Doug MacKay, CEO & CIO

Bill Hoover, President

For details on our firm’s performance results, our investment outlook, and related disclosures, please read the attached Performance Review.

If the video above doesn’t work, click here.

For those of you unable to catch it live, a video will be posted on the website when it becomes available.

At the turn of the century, the Ford’s, Carnegie’s, and Vanderbilt’s embarked on similar paths that while different, nevertheless rhymed.  Steel and oil gave rise to automobiles and railroads, with dramatic effect on mass production techniques, transportation networks, and subsequent uses for energy.   JP Morgan and Andrew Mellon helped finance it all, giving birth to our nation’s modern banking system.

I suspect that there were those who quibbled over the appropriate valuation to pay for a dollar of Ford’s earnings in the early days of the automobile industry just as investors similarly questioned the wisdom of paying $85 for Google when it went public eight years ago.  Only now do some believe Google is a good investment based on the merits of “value” alone, but in quibbling over +/- $20, such investors may have missed out on $525 in subsequent gains.  In my experience, focusing on the appropriate valuation to pay for transformative companies alone would be the historical equivalent of negotiating the price of a haircut on the Titanic.

At the same time, I also witnessed vast sums of wealth accrue to early investors in the WintelCo complex only to watch it go down the drain when the environment changed.  An initial investment of $10,000 in Cisco by one client was worth $11 million when the shares hit an all-time high of $80 twelve years ago.  Since the tech bubble cratered, shares of Cisco have never recovered to those once lofty levels.

While the gains remain outstanding for the earliest of investors, a strategy of now “waiting for eighty” to sell has clearly been misguided.  Cisco’s shares have been stuck in a trading range of $10-$30 for the last twelve years and only recently did the company begin to pay a modest dividend.

Similar fortunes were also created during the industrialization of America over one hundred years ago.  Euclid Avenue in Cleveland, Ohio, once known as Millionaire’s Row, was in its day one of the wealthiest streets in America and home to John D. Rockefeller, the world’s richest man.   While Northeast Ohio remains a great place to live and work, the one-time millionaires who once lived on Euclid Avenue would no longer recognize it.  Transformation can be shocking in both directions.

For much of the past twelve years, the equity markets have hardly been known as a place to get rich as was the prevailing mood during the tech crazed 1990’s and roaring 1920’s.  What has been the fastest way to a net worth of a million dollars over the past ten years?  By starting with two million, or so the joke goes.  While a handful of companies like Apple and Google have bucked the general market trend, being an equity investor hasn’t been easy.

Apple Computer, along with a few other companies, has been particularly kind to investors in recent years, minting many new millionaires just as prior transformative businesses did before it.   If you’ve been fortunate to participate in the wealth created by a company like Apple, a pressing question is always how much higher can it possibly go or when do I sell?

Thirteen years ago, when people asked that question about Cisco, I often replied that selling would be like trading Michael Jordan.  Why ever trade a winner?    With the benefit of hindsight, the pain of real experience, and lessons from history, I now realize that this flip response was both shortsighted and arrogant.  As Michael Jordan ages, making his skills less valuable, LeBron James waits in his wings.  Euclid Avenue fades from memory, ceding storied ground to newcomers in places like Palo Alto and Silicon Valley.  The question is not whether the glory days will end, but when.

I’ve never met anyone who sold their positions in Cisco, Microsoft, or Intel precisely at the peak, even though there are many who have tried or still think they can.  More wealth has likely been lost by the average guy attempting to avoid capital gains taxes at all costs or “waiting for eighty” than any single individual who maximized their profits by cashing out entirely and precisely at the peak.  As mentioned earlier, there are also those who avoid investments in transformative companies altogether simply because they couldn’t get their hands around the valuation question or more likely were unwilling to consider what the future might look like.

The Broadleaf approach seeks to strike a balance between the two extremes. We will participate in the wealth creation opportunities that transformative players afford but will also systematically prune our winners along the way.  The strategy isn’t intended to achieve maximum gains for clients, but is a tool for managing risk in the portfolio and to guard ourselves from becoming emotionally attached to our portfolio holdings.  By occasionally paying ourselves a dividend from our successes, an added benefit is that we free up some capital to invest in what we hope will become tomorrow’s class of winners.

And so it was that we pruned the Apple tree yesterday as the shares surged to new highs.  The pruning move isn’t a bet against Apple – it remains the largest single position in the portfolio – but it does represent our tacit acknowledgement that the good times won’t last forever and that we won’t possibly exit the position completely at precisely the right time.

Henry Ford, Cornelius Vanderbilt and John D. Rockefeller were the rock stars of their business generation, but eventually ceded the stage to rising stars like Bill Gates, Steve Jobs, and perhaps Mark Zuckerberg today.  For all his gifts, LeBron James is most certainly closer to retirement today than he was yesterday.

*********

Shifting gears to the markets in general, we believe a significant shift in investor psychology is underway after many years of prolonged and painful drought.  Just as a stronger economy engenders hope about the future, it also has the benefit of smothering the noxious fumes of political division.

To be sure, issues in Europe have not been resolved and exogenous shocks like the Japanese earthquake, the Gulf oil spill, and a nuclear Iran are ever present realities.  The biggest risk to the economy right now may be rising gas prices at the pump.  At the same time, when gas prices were at similar levels last year, mortgage rates were higher, consumer confidence was much lower, and employment trends were moving in the wrong direction.  Can the United States reassert its leadership in the global economy?

We believe it is and it can.

Roughly two years ago, we presented a point of view that America could experience a manufacturing renaissance, catalyzed by more aggressive moves by China to subject their currency to market forces rather than pegging it to the value of the U.S. dollar.

One thing we hadn’t expected nor could we anticipate was the impact that new supplies of cheap natural gas might have on American industry.  In recent months, several companies in the chemical, auto and textile industries have announced factory expansions in the United States on the basis of our cheap natural gas resources.  For some, these represent the first new factories on U.S. soil in multiple generations.  We suspect others will follow.

As methods of transporting our cheap natural gas in liquid form around the globe are financed into reality, we expect that the much higher overseas prices of the commodity will converge to our own, unleashing a new wave of global productivity, not too dissimilar from the impact that silicon has had in recent decades.

But for today, the advantage is uniquely our own.

Kindest Regards,

Doug MacKay, CEO & CIO

Bill Hoover, President

Speaking of which, I’ve always wondered what the average child gets these days for a tooth and thanks to creative research from Strategas Research Partners and Delta Dental, now we may know.

Stock market returns have been so bad that even the value of primary teeth have appreciated more than the Dow Jones Industrial Average over the past thirteen years.

According to this chart, the Tooth Fairy has been paying 80% more for teeth than she did thirteen years ago while equities have gained just 50%.  I’m hoping this means she’s been a savvy bond investor for the last thirteen years otherwise she may be facing a significant budget deficit from spending far more than she’s been taking in from the stock market.

For the sake of our children and our children’s children, let’s hope it’s the former.

Nah, have no fear, kids.  The Tooth Fairy won’t go broke for a very long time.  Your pearly whites will have value for years to come.

Even after selling an ounce here and there on Ebay, she’s still sitting on a mountain of golden cuspids from the late 1890′s and earlier.

Smart one, that Tooth Fairy, she really is.

We believe this is a testament to the strength and reliability of our process.

To view the top 40 rankings, please click the link below.

Lipper Top 40 Money Managers – 12/31/11

For more information about the Broadleaf Growth Equity Portfolio, please contact Bill Hoover.

To be sure, last year’s full year performance was anything but impressive, more closely resembling a stock market struggling with recession.  Parts of the gains of the last few months have simply represented a recovery of the value lost over a summer marked by political discord and European chaos.  At the end of the day, what last year taught may be the simple lesson that what goes down, can also go back up.

In terms of the future, we remain bullish on the stock market.  In an environment of low or non-existent bond yields, stocks may not only represent a compelling alternative source of income, but likely have a far better risk reward profile when it comes to upside return potential.  After more than a decade of being the cellar dweller of annual asset class returns, domestic common stocks may finally be due for some positive mean reversion.

In declaring ourselves bulls, this doesn’t mean we believe we’re headed back to an era of multi-year, double digit returns – though that could happen – but that given a choice among alternatives, stocks should prove to be the best game in town.

With regards to the economy, we still expect slow growth for as far as the eyes can see, interrupted from time to time by the ebbs and flows of more frequent yet subdued economic cycles.  Long term investors should remain focused on innovation plays that can grow regardless of the economy, while introducing greater cyclicality to the portfolio as the circumstances warrant.

A few months ago, leading economic indicators began to improve, suggesting that the market and economy might have some cyclical upside.  In addition to the outperformance of dividend yielding stocks, this proved to be the case as the cyclical areas of the market outperformed defensives into year end, a trend that continued in January.

The market has also had a pronounced January effect, with some of the worst performing sectors and stocks of 2011 sporting the best gains.  Theoretically, stocks that have been poor performers during the year come under tax related selling pressure in December, but rebound – sometimes abnormally so – as the selling pressure dissipates in January.   (Before getting carried away by the idea that January’s gains may be ushering in a new era of sector leadership, investors may wish to contemplate the January effect and the likelihood that New Year’s attitudes reflect greater hope for change.)

There is no doubt that the recent upswing in the market feels far better economically speaking than it did during the doldrums of summer.  Real economic indicators support this notion as well.  New unemployment claims have declined, leading economic indicators have improved, China appears to be engineering a soft landing, and for the most part, worldwide monetary policy is accommodative.  Consumer confidence in December also approached post-recession highs.

It should come as little surprise that corporate earnings are at near record levels.  Save banking, most business owners only enjoy one safety net – their own pocketbook.  The incentive for profits and fear of loss are powerful forces that shape the mindset of business owners.  From this vantage point, it may be easier to understand why corporate balance sheets are far healthier than most governments around the world.

In all respects, if there were a time in the last three years that the recovery felt self-sustaining – now would be that time.  And yet, in spite of that feeling, the most perplexing news of the last few months was the Federal Reserve last week, which hinted that additional easing may be in the offing in the form of QE3.

The Fed has a dual mandate – to ensure full employment and price stability.  With employment trends finally improving and inflationary pressures from last year’s QE2 waning, we would have thought QE3 was off the table.  What could the Fed see that we are missing?  It’s possible, that the Fed remains concerned about deflation, the environment that has plagued Japan for two decades.

In the past, economic recoveries have usually been far more robust than what we’ve experienced in the last three years and are usually driven by a rapid recovery in the economy’s most cyclical areas, primarily housing and autos.  But since the sources of the most recent bubble and ensuing recession were housing and the banking sector which financed it, the recovery in these sectors has been far from status quo.  While possibly stabilizing, housing prices have fallen precipitously in the past year.

In December, Ben Bernanke and the Federal Reserve published an unusual white paper which highlighted the importance of the housing sector to the economy at large.  While small in terms of its overall size, the housing sector has an outsized impact on the overall economy through its multiplier effect on job creation, lending, and homebuilding suppliers.  Small business formation has likely also suffered with housing, as entrepreneurs haven’t been able to access equity in their homes, an important historical source of start-up capital and thus job creation.

The timing of Bernanke’s paper, the statement that QE3 would target purchases of mortgage securities, and President Obama’s call for mortgage refinance reform, all suggest that until the housing sector improves, the Fed may  remain cautious about the state of the economy, employment and price stability.  The Fed may be declaring an all in attempt to jumpstart the housing market.

Recent data suggests that the housing sector – in terms of the fundamentals (starts, permits, prices) – may have found a floor, but if the homebuilder exchange traded fund (XHB) is any guide, the sector remains far from robust.  At both this time last year and the year before, homebuilding stocks had similar rallies, only to fall back significantly once a full-fledged recovery failed to materialize.  Falling prices have hurt appraisal values, making it difficult for even qualified mortgagors to refinance their loans.  Sadly, a full-fledged recovery in the housing market may simply take a lot more time.

The Fed’s views notwithstanding, the prospect for a self-sustaining recovery feels better than it has at almost any time in the past three years.  As long as leading indicators continue to improve, the stock market should enjoy some cyclical tailwinds, but without the participation of the housing and banking sectors, long term economic growth will likely remain slow for as far as the eyes can see.

Facebook officially registered for its initial public offering last night, and while I am still working my way through the prospectus, the growth they’ve achieved demonstrates the power of creativity and innovation to overcome even the worst that the economy has to offer.

Animal spirits are rare these days, but that doesn’t mean they are extinct.  Mark Zuckerberg managed to bootstrap the financing of Facebook in its early days, without access to a home equity loan.  Though borrowing from friends and acquaintances has brought its own host of legal issues, at the end of the day, Mark Zuckerberg figured out how to make it work.

Somewhere in America, the seeds of the next Facebook are being sewn.  To the American entrepreneur, greater problems demand better solutions, providing fertile ground for American creativity, invention and innovation to thrive.   In honor of Facebook, a big thumbs up to all who try.

Kindest Regards,

Doug MacKay, CEO & CIO

Bill Hoover, President