Personal Investment Management Group

[Pages:4]Personal Investment Management Group Portfolio Manager since 1975

Portfolio Commentary | Q2 2019

The Second Quarter of 2019 was solidly positive with the TSE climbing 2.58%, the S&P500 up 2.17% in Canadian dollars, and bonds rallying with the short index up .66% despite a multitude of negative economic headlines. Some of these headlines include the US-China trade war, US tensions with Iran, and a slowing global economy. In these circumstances, it's always best to take a long-term perspective, and with that in mind I have included some of the more interesting topics from the Berkshire Hathaway AGM in Omaha on May 4th 2019.

Valuations and buying opportunities at the end of Q4 2018

As many clients are aware the stock market dropped a fair bit in the 3rd quarter of 2018 and particularly during the 4th quarter. Buffett and Charlie Munger were asked if they were buying Berkshire Hathaway shares in this time period. Buffett said if the stock is undervalued within a degree of certainty of 10% they would buy and he acknowledged they bought $1 billion in Q1 2018 and if it was cheaper they would have bought more. Charlie Munger said he would have been more "liberal", meaning he would have bought more stock. It should be noted that when markets are down, i.e. 10% to 20%, more times than not it is a good buying opportunity.

Ultimately, when stocks drop as a whole they are cheaper than they were, and if they drop enough they are excellent long term buys. Market drops should not be seen as a scary thing (unless you need the funds) but rather as an opportunity to buy more. Returns are not made in months but years.

Railroads: Productive assets that have produced good returns

They were asked their opinion on precision railroading which is a strategy that makes railroads more efficient. Precision railroading essentially changes the scheduling of rail car pick ups by making the scheduled pick up a consistent time as opposed to sporadic times. Buffett said Hunter Harrison (who is now deceased) instituted precision railroading at CN Rail, then later at CP Rail and then CSX. Union Pacific also has started to implement some of this strategy. Buffett said he was not above copying this strategy if proven successful. As an aside he said "Bill owns a lot of CN and has done well" The Bill & Melinda Gates foundation owns 2.3%, and Cascades LLC which is an investment company controlled by Bill Gates, owns 13.3% of CN Rail. This has been a long term holding. It is interesting to note that in this meeting he stated that Union Pacific has been doing better operationally than the Burlington Northern and Santa Fe Railway which is the railway that Berkshire Hathaway owns.

The benefit of railways to investors is that they represent critical infrastructure that cannot be replicated and they are driven by productivity gains. Two facts which Buffett and Munger mentioned were 1) Munger felt that sooner or later railways will become electrified and 2) after WW II there were 1.5 million people working for railroads and today there are 200,000. Currently CN Rail, CP Rail, Union Pacific, and BNSF (through the ownership of shares in Berkshire Hathaway), are in client portfolios.

I have provided on the next page a chart showing the total return of Union Pacific from July 2007 until July 2019 and the growth of the dividends. What is interesting is that over a longer period of time the total return of the shares tracks the dividend growth.

John M. Taylor, Portfolio Manager ScotiaMcLeod?, a division of Scotia Capital Inc. Tel: 416.865.6408 john.taylor@ johnmtaylor.ca

? Registered trademark of The Bank of Nova Scotia, used under licence. Scotia Wealth Management? consists of a range of financial services provided by The Bank of Nova Scotia (Scotiabank?); The Bank of Nova Scotia Trust Company (Scotiatrust?); Private Investment Counsel, a service of 1832 Asset Management L.P.; 1832 Asset Management U.S. Inc.; Scotia Wealth Insurance Services Inc.; and ScotiaMcLeod?, a division of Scotia Capital Inc. Wealth advisory and brokerage services are provided by ScotiaMcLeod, a division of Scotia Capital Inc. Scotia Capital Inc. is a member of the Canadian Investor Protection Fund and the Investment Industry Regulatory Organization of Canada.

Personal Investment Management Group Portfolio Manager since 1975

Portfolio Commentary | Q2 2019

Clients are familiar with CN Rail and CP Rail, the two Canadian railways, but Union Pacific Railway has also been a very good investment. The railway was able to generate good free cash flow as the dividends grew from $.325 to $3.21 over the last 12 years which is an 887% increase. Over the past three years the dividends have grown by 45% which is nicely ahead of the S&P 500 with a 33% dividend increase.

Any advice to someone who wants to start their own investment fund?

Buffett said that was an interesting question as he has faced that. When he came back from New York people asked him if he could manage their money. Buffett talked about some family members who were early investors and then Charlie Munger said you had some aunts that trusted you and Buffett said:

"Yeah, well, and a father in law who gave me everything in the world, you know. And I didn't mind taking everything he had in the world, as long as he would stick with me and wouldn't get panicked by headlines and that sort of thing."

The one major take away here is that even back in the mid 1950's in America there were scary headlines about the American economy and the stock market. Those things have not changed but what also does not change is that we live in North America in democratic capitalist countries based on the rule of law and this has fostered very dynamic and growing economies. This system has proven a great place to live, work, and invest.

Kraft Heinz and the competition between brands and retailers

Kraft Heinz has had some problems since the takeover and merger of the two companies and shareholders have suffered. Buffett and Munger felt it's still a wonderful business earning $6 billion of pre-tax profits and $7 billion of tangible assets, but they simply paid too much. He went on to say that brand companies like Kraft Heinz are in a constant struggle with retailers like Costco, Amazon, and Walmart who sell their products. Retailers are always trying to squeeze the brands for more money and have launched competitive products. Anyone who shops at Costco would be familiar with Kirkland brands, and today those brands have sales of $39 billion dollars. The bottom line is that brands and retailing are constantly evolving.

Personal Investment Management Group Portfolio Manager since 1975

Portfolio Commentary | Q2 2019

One retailer in client portfolios that has done well over time is TJX, the owner of Marshall's, Home Sense, and Winners in Canada. TJX is the biggest off-price retailer globally and has expanded into Europe. TJX does not compete directly with the brands it sells but instead sources clothes and home furnishings, which did not sell originally, and then markets them at big discounts. This helps out consumers with great buys and helps brands sell originally unwanted merchandise. The chart below shows how the shares have done over the longer term and the growth of the dividends.

Again, over longer periods of time the total returns will come close to the dividend growth rate, all things being equal.

Capitalism versus Socialism in America

Buffett was asked how some of the Democrat-proposed policies might affect Berkshire. Buffett has described himself as a capitalist first and has voted for both Republicans and Democrats. He went on to say "But I also think that capitalism does involve regulation. It involves taking care of people who are left behind, particularly when the country gets enormously prosperous."

Munger responded "Well I think we're all in favour of some kind of a government safety net in a country as prosperous as ours. What a lot of us don't like is the vast stupidity with which parts of that social safety net are managed by the government. It'd be much better if...we could do it more wisely. But I think it also might be better if we did it more liberally."

They went on to say that was the reason they started their healthcare venture with JP Morgan and Amazon. Health care spending used to be 5% of GDP and now its 18% which is a pace that is challenging. Buffett ultimately believes that if the private sector does not try to do something the less efficient government will step in.

It would be safe to assume that this fight over regulation with Trump and the Republicans versus the Democrats will continue for the foreseeable future. In particular the health care industry in America will be under the regulator's microscope for the 2020 presidential election.

Personal Investment Management Group Portfolio Manager since 1975

Portfolio Commentary | Q2 2019

Delayed gratification - How do you get it?

Buffett and Munger were asked a question on delayed gratification and how to practice the skills of delayed gratification. This question is really asking "how do I practice saving and investing", as investing is all about deferred gratification. Buffett said buying a 30 year bond with a 3% yield and 2% inflation. "That is delayed gratification." That quote is a little cheeky, but the truth is that the pre-tax return net of inflation is 1% for 30 years which is really an abysmal rate of return.

On a serious note Buffett said "I don't think that in every circumstance saving money is best", and as an example he said spending money on trips to Disneyland with the family comes before simply saving money. He said do things that bring enjoyment to your family. He went on to say if you are not happy with $50,000 or $100,000 then $50,000,000 will not make you happy.

What do you value most in life? - Time and love

Charlie Munger answered this question by saying more of it, which is pretty smart for someone in their 90s. Buffett answered by saying time and love the two things money cannot buy. If you enjoy what you do, that will go a long way to happiness and try to free up time to do the things you love.

One other general observation is that Warren Buffett and Charlie Munger are two of the most thankful people. This is important as many studies have shown that being thankful is associated with greater happiness. Buffett ended this question by stating "Yeah we have had so much good luck in life. It sort of blows your mind. Starting with being born in the United States. And Canada would be fine too, incidentally. I don't want to offend anyone."

All performance data represents past performance and is not indicative of future performance. Scotia Capital Inc. and its affiliates may collectively beneficially own in excess of 1% of one or more classes of the issued and outstanding equity securities mentioned in this article. Within the last 12 months, Scotia Capital Inc. may have undertaken an underwriting liability with respect to equity securities of, or has provided advice for a fee with respect to any securities mentioned in this article.

This publication has been prepared by ScotiaMcLeod, a division of Scotia Capital Inc. (SCI). This publication is intended as a general source of information and should not be considered as personal investment or tax advice. We are not tax advisors and we recommend that individuals consult with their professional tax advisor before taking any action based upon the information found in this publication. Opinions, estimates, and projections contained herein are our own as of the date hereof and are subject to change without notice. The information and opinions contained herein have been compiled or arrived at from sources believed reliable but no representation or warranty, express or implied, is made as to their accuracy or completeness. Neither SCI nor its affiliates accepts liability whatsoever for any loss arising from any use of this publication or its contents. This publication is not, and is not to be construed as, an offer to sell or solicitation of an offer to buy any securities and/or commodity futures contracts. SCI, its affiliates and/or their respective officers, directors, or employees may from time to time acquire, hold, or sell securities and/or commodities and/or commodity futures contracts mentioned herein as principal or agent. SCI and/or its affiliates may have acted as financial advisor and/or underwriter for certain of the corporations mentioned herein and may have received and may receive remuneration for same. All insurance products are sold through Scotia Wealth Insurance Services Inc., the insurance subsidiary of Scotia Capital Inc., a member of the Scotiabank Group. When discussing life insurance products, ScotiaMcLeod advisors are acting as Insurance Advisors (Financial Security Advisors in Quebec) representing Scotia Wealth Insurance Services Inc. This publication and all the information, opinions, and conclusions contained in it are protected by copyright. This report may not be reproduced in whole or in part, or referred to in any manner whatsoever, nor may the information, opinions, and conclusions contained in it be referred to without in each case the prior express consent of SCI.

 ................
................

In order to avoid copyright disputes, this page is only a partial summary.

Google Online Preview   Download