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

The company generated $16 billion in free cash flow this quarter, bringing their cash hoard close to a mind boggling $100 billion dollars.  What the company decides to do with this huge cash balance may be key to future gains in the shares, which at current prices places the value of the company at $420 billion and making it the most highly valued company in the nation.

Computer Associates (CA), another lesser known technology company, announced that they would increase their dividend five fold yesterday – to an effective yield of 4.5% – contributing to a 10% gain by the shares today.    This response might provide fresh insight into how the market would respond to other cash rich technology companies that have rarely if ever paid a dividend, but with little or no debt, could easily afford to do so.   Rather than signalling the end of growth, deciding to pay a dividend could signal a vote of confidence in the sustainability of that growth while simultaneously meeting a rising demographic based need for income in a bond market bereft of yield and possessing a poor risk reward profile.  (Many decades ago, it was common for stocks to pay higher yields than bonds. )

The biggest restraint on further appreciation in Apple’s shares may very well be the fact that it is already the nation’s most highly valued company.  Though Apple’s just announced 73% year over year gain in revenues and 52% year over year gain in earnings mocks at the notion that the company is running up against the law of large numbers, the fact that the stock is only up 6% today in spite of such results suggests a different story may be at work.   Any other company growing at such a rate – particularly any tech company – would be trading at 30x forward earnings rather than the 15x trailing earnings afforded the shares today.   If Apple’s shares were to a little more than double once again (they’ve tripled in the last 30 months), it would be among the first – if not the first company – to approach a trillion dollar market cap.  Key to breaking upside resistance might be the prospect of sharing some cold hard cash with a market that is increasingly starved for yield.

Crazy good.  So crazy good that Apple would rank among the world’s largest country’s if it were viewed as such and also, we might add, rank among its most solvent.  (See below.)

(Incidentally, if you missed the New York Times article on Apple and China earlier this week, it’s worth a read.   Given how many pension systems and 401k plans own the shares, I think Steve Jobs and company have done plenty for this great nation of ours.)

Disclosures:  Please note that Broadleaf Partners, LLC currently owns shares in Apple Computer for its clients and reserves the right to change its opinion or position on such shares at anytime and without subsequent notice or disclosure.  This blog post is not to be taken as a recommendation of Apple shares.

In general, the views we shared in our year end piece, Concussed, still hold, we just now know with certainty that the year proved as uninspiring for investors as we thought it might be.  With 2011 now behind us, all eyes are looking forward to what 2012 might bring.

While we still believe that growth will remain slow for as far as the eyes can see, we also think that several factors may make 2012 much better for investors than most expect.  For additional details on our firm’s performance results, our investment outlook, and related disclosures, please read the attached Performance Review. 

Regardless of how things end up, I think it would be safe to declare this year as uninspired at best and to borrow from the NFL, concussed at its worst.  In spite of multiple brain bruising changes in direction in the second half of this year, investors have been dished up a full year loss of 1% through Friday of last week in perhaps the stock market’s version of a 7-3 ballgame.

Multiple spearings to the head from Europe and domestic politicians have been responsible for the heightened state of anxiety on the field, and investors are now far more worried about where the next unexpected hit may come from than keeping their eyes on the ball.  Given the punishing nature of the last few years, such anxiety levels can be understood, but might likewise prove misplaced.

On the domestic front, the news has actually made a positive tick upwards, with leading economic indicators improving and in recent weeks, unemployment claims breaking down to new lows.   Corporate profits continue to surge, with companies raising dividends and buying back stock at a record pace.  China has clearly slowed, and while there is a heightened fear of a hard landing in recent weeks, the country has far more policy tools at their disposal to achieve a soft landing than the rest of the world today.

Typically, stocks have been better buys than sales when policy moves are biased towards easing and leading economic indicators have been improving.  To the frightened and concussed, such views may sound silly and unintelligible, but for an investor, the awareness of such a predisposition remains key.

With regards to the Broadleaf Growth Equity Portfolio, this year’s retrospective is more difficult than normal.  While I’m used to looking at past mistakes and successes in hopes of gaining wisdom about the future, I also know that in this extreme environment of volatility, this week’s conclusions can pose a danger of becoming next week’s mistakes if I fail to discern wisely.

Through August, the Broadleaf Growth Equity portfolio was holding its own with the markets and while our absolute returns were indeed uninspiring, they were nevertheless ahead of the S&P 500 and leading our peer group.  The period since August, however, has been a different animal, and while our returns have remained uninspiring, we’ve lost ground to both the S&P 500 and our peer group.  While I know this will happen from time to time, I still can’t stand it and if I knew how to spear something with my helmet, I would.

Most of this recent period of underperformance has been related to individual stocks rather than our sector bets, consistent with our longer term source of outperformance.   In our portfolio, individual stocks have accounted for roughly 90% of our excess returns over time, even in a market where individual stock returns have become extraordinarily correlated.

Over the past five months, we experienced losses or left money on the table with Netflix, Green Mountain Coffee and Diamond Foods.  Fortunately, our sell discipline protected us from more severe losses in the portfolio and in Netflix case, our clients still earned strong absolute and relative returns throughout the ownership period.

In our mind, there was no doubt that the competitive environment has been increasing for Netflix and as a result, we haven’t regretted selling.  With regards to Green Mountain and Diamond Foods, the issue was a little beyond our control, as the accounting practices at both companies came under scrutiny.  While our judicial system presumes innocence until proven guilty, capitalism is far less merciful, shooting first and only asking questions later.

In my book, if a company’s accounting comes under question, the management will too, and likewise, the stock’s valuation.  Green Mountain and Diamond Foods were highly valued relative to their peer groups, but that argument alone, in my opinion, does not make a stock a sell.  I’ve experienced far more gains from buying stocks that appear highly valued, than from companies whose accounting practices come under question.

Such investigations can take months or years to resolve, and unfortunately, additional questions almost always linger.  Thankfully, accounting related questions on our portfolio holdings have been rare, and I can assure you that Mike and I have scrubbed the portfolio and have a smaller tolerance for any accounting practices that might appear aggressive.

In terms of what has worked for the portfolio, our view that the economy will grow slowly for as far as the eyes can see appears to have been on track, and if it weren’t for the long term issues facing Europe and the near term slowdown in Asia, might actually have proven too conservative. As the year winds to a close, defensive, dividend paying stocks have been trading to new highs, while everything with a hint of cyclicality or exposure to emerging markets has come under pressure.

While I have been a proponent of dividend growers as compelling substitutes to the fixed income market and offering a modicum of safety in an era of extreme stock price volatility, most of the stocks that share this factor have outperformed significantly in recent weeks and are bumping up against longer term resistance levels.  Despite their allure, they have no doubt benefitted from increased anxiety this quarter and could likely be bought at cheaper prices.  Unless a new dawn of growth is upon us, utility stocks have rarely been big price movers and when they have been, there have often been better opportunities elsewhere.

With regards to the future, we remain biased to a slow growth environment for as far as the eyes can see, an environment which continues to favor innovators.  At the same time, with concerns about a slowdown in China emerging and Europe likely already in recession, the Economic Cycle may deserve some increased attention as a driver of alpha in the portfolio, particularly with a global monetary policy bias towards easing and leading economic indicators in the United State now improving.

While it is difficult to believe, several bank surveys and credit reports show that lending is starting to improve, which may foretell some healing in the credit cycle, a key ingredient of any hope for  a more vibrant economic recovery.  The U.S. industrial complex, in my mind, holds the greatest promise in the coming decade as a long term investment theme, not only as a function of our global competitiveness, but as a potential beneficiary of growing supplies of cheap U.S. natural gas.   Similar to the semiconductor, natural gas may be a game changer in the world economy, unleashing a new source of productivity just as the world could use it the most.

Europe does have long term structural issues that won’t be resolved anytime soon, but with anxiety at heightened levels, investors appear far too focused on where the next hit may come from than where the ball currently is on the field.  If the ball continues to move downfield as it has in recent months, it will eventually capture the attention of more players on the field, providing an environment with a strong bias to the upside at precisely the time such thoughts appear silly.

Merry Christmas, Happy Holidays and Best Wishes in the New Year!

Kindest Regards,
Doug MacKay, CEO & CIO

Bill Hoover, President

Since our portfolio’s inception – 1,583 trading days ago – the S&P 500 has had moves of 1.5% or more – up or down – twenty percent of the time.   However, over the last 75 trading days,  the instances of 1.5% or more moves have more than doubled to 51% of the time.   Keeping in mind the fact that the longer term period includes the horrific days of the Great Recession in 2008-2009, this increase in volatility is even more remarkable.

For those who were wondering, during the Great Recession – a period from September 2008 to December 2009 – the S&P 500 made 1.5% or greater moves roughly 38% of all trading days, which is still less than what we’ve experienced recently.   The major moves of 2.5% or more, however, were more common.

I don’t know what this means other than to say we are indeed in unusual territory with all the daily volatility, particularly considering the fact that earnings are quite good and leading indicators of the economy have been improving.  While the risks from Europe and Washington are great, no catastrophes have yet been realized, as was the case with Lehman Brothers and Bear Stearns in 2008.

The ride in equities appears to be getting even bumpier than normal, but the asset class, I believe, will be the best performing over the long haul.

I’ve experienced many ups and downs in the stock market over the last twenty- five years, but rarely have I ever seen so many high speed, directional changes compressed into such a narrow period of time. By my count, the S&P 500 experienced four round trip volleys of ten percent or more since early August, before moving to higher ground in late October – all on lighter than normal volumes.

Economic and political uncertainties in Europe are certainly playing a role in the volatility, but to be frank, concerns about Greece have now been with us for more than eighteen months, suggesting that other factors may be at work.

The low trading volumes during such extreme moves may suggest a lack of conviction by the majority of longer term participants in the equity markets, many of whom may be sitting on the sidelines as mesmerized by the new world order of risk on, risk off trading as I have been.  The proliferation of exchange traded funds and their day to day influence on the markets has no doubt had an overwhelming influence on macro oriented moves by the stock market, leading correlations among individual stocks  and asset classes to historical highs.

In the age old battle for relevance between top down economics data and bottoms up earnings reports, earnings finally appear to have won the most recent skirmish.   Over the summer months, the macroeconomic data pointed to an imminent recession even though most corporate management teams remained largely upbeat, and in my experience, were more perplexed by the disconnect between what they were seeing in their businesses and what they were reading in the papers than I’ve ever seen before.  Insider buying trends reached historical highs this past summer, reflecting the notable disconnect.

In this sense, we knew that this earnings season was setting itself up to be an important and potentially outsized catalyst for the stock market, and on that front, it did not disappoint.  Driven by continued earnings strength and guidance commentary, the S&P 500 finally powered beyond its summer resistance levels and is now bumping up against prior 2011 level support areas of 1250-1300. Recent macroeconomic releases also appear more encouraging, with many leading economic indicators turning positive.

While the stock market’s recent breakout has been positive, we would caution that the move has once again occurred on light trading volumes, suggesting that investors shouldn’t get carried away with or begin to believe that a new investing era is upon us.  In spite of the market volatility, our long term views remain unchanged.  “Slower growth for as far as the eyes can see,” remains an appropriate mantra, we believe, in guiding our overall investment strategy.

Of the factors that will restrain growth, the European headwinds remain intense, with Germany – once the strongman of Europe – now on the brink of recession.   At home, progress by the Super committee charged with finding $1.2 trillion dollars in deficit savings this month isn’t all that encouraging, making us look a lot more like Europe than we might care to admit.   The domestic housing market remains mired in a depression and while it may be small in size relative to the overall economy, there is no doubt that its influence is far greater given its impact on labor mobility and credit.

Of the factors promoting growth, many American corporations are stronger than they’ve ever been, reporting solid earnings gains and healthy business outlooks.  Most foreign central banks are in easing mode and China appears to be turning the corner on its inflation problem.  Leading economic indicators have begun to improve, suggesting that cyclical factors could provide a near term boost to the economy and stock market.  With net hedge fund exposure to equities near historic lows last seen in March 2009 – in hindsight, a great time to buy – the firepower exists for a sustained up move when any semblance of market conviction returns.

In the short term, the stock market may get a boost from the cyclical benefits of an improvement in leading economic indicators and sentiment, but sustained outperformance in a period of slow growth will likely remain heavily dependent on innovation as the cycle most relevant to long term value creation.

While the picture isn’t pretty, it isn’t nearly as ugly as it feels at times.  If you find yourself discouraged, just zone out to a good game of Gump Pong and everything will be okay.

Kindest Regards,
Doug MacKay, CEO & CIO

Bill Hoover, President

I love it when hedges backfire.  I’m just not a fan of insuring investments.  That’s what the return is for, as compensation for the risk you’re taking.  

An analogy might be having an elite professional athlete take a bunch of morphine before he goes on the field, just in case he gets hurt.  The problem is it isn’t healthy and arguably might cause the athlete to act even more recklessly than he otherwise might.  I think that’s what happens in the financial markets when people put on hedges.  They tend to act more recklessly because they don’t have a vested interest in the outcome.  And, then I think, why did they make an investment in the first place, if they are just going to hedge against it?  Just seems odd.  Maybe if we require all Indy Car drivers to press on the brakes while they press on the gas, there will be fewer crashes.

I can’t quite put my finger on it, but I think the same thing about Credit Default Swaps.  Something stinks about these “products”. Following the trading patterns on these investment vehicles has become the sophisticated tool du jour for the investment crowd; you’re just not educated if you don’t or can’t talk the CDS talk.  In a sense, people are no longer even paying attention to the house they are buying, but the price for the insurance on that house, as an indicator of the health of the house.  While it sounds intellectually consistent, it also sounds just plain stupid and needlessly complex, especially if you consider the fact that fast moving prices – up or down – in any market are always bound to attract naked speculators who don’t even know or care to know what a house is, but do like price volatility.

Rant over.

While there is no doubt that superior investment managers like Warren Buffet and Mario Gabelli exist, it is also true that these folks are both rare and difficult to identify on a going forward basis.   Past performance as they say, is no guarantee of future results.  

The stock market took a severe beating in the third quarter, declining by nearly 14%.  Continued concerns about Europe and political and economic uncertainties in the United States made the stock market’s third quarter chart look like a fast twitch cardiogram.  

At this point, while the macroeconomic data increasingly points to the likelihood of a recession, the data, at least in my opinion, is not yet conclusive. I believe the domestic economy has entered a prolonged period of “slow growth for as far as the eyes can see,” a rate of growth that lends itself to “stall speed” thinking where we are always and everywhere just an inch away from a negative year over year growth rate.

This “New Normal”, marked by low nominal rates of growth and a higher than usual unemployment rate, heightens anxiety levels simply because it isn’t what we’re used to. Better leadership in Washington could help, but nothing will cure us like the passage of time and a good old fashioned work ethic.

For additional details on our firm’s strong performance results, our investment outlook, and related disclosures, please read the attached Third Quarter 2011 Commentary & Performance.