As portfolio managers, our job is to make sure we’re on top of every development, policy change, rate cut, data release, and headline. We’ve certainly had plenty of those to keep track of in the last few weeks. Sweeping U.S. import tariffs were announced, then delayed, then back on, then doubled, then postponed. Sometimes the gap between meaningful policy shifts can be measured in minutes, and each shift impacts markets.
Benjamin Graham’s famous allegory frames these rapid market changes as a business partner named “Mr. Market”, who comes to your door every morning with a new offer to buy or sell your share of the business. His offers can vary meaningfully from day to day, even if the underlying fundamentals of the business remain steady. Mr. Market certainly provides advantages: he provides a mark on asset values that reflect the aggregate views of all investors currently transacting in the market, and it would be unwise to completely ignore how his offers change over time.
However, we must also recognize Mr. Market’s psychological quirks. He can be stubborn, overreactive, overly euphoric or overly pessimistic, and subject to a great deal of groupthink. For our many clients who are business owners, would Mr. Market offering you a price that is 5% higher than yesterday entice you to sell your business? Unless you were already planning on imminently selling your business, the answer is very like no. Instead, your focus is likely to remain on the business itself: making sure you’re minimizing costs, generating new sales, ensuring smooth operations, and improving productivity.
So while we are paying close attention to every development, we also have to make sure we don’t miss the forest for the trees. Mr. Market’s gyrations provide important information, but do not provide answers to the questions that are truly important: are your investments on a path that will achieve your long-term objectives in a way that factors in risk, total return, and tax efficiency? If Mr. Market gives us a look at the trees, those long-term objectives are the forest.
With that in mind, we’ve been happy to see “Mr. Market” pull back the offers recently, because it’s an outcome we’ve taken many steps to position for in clients’ portfolios over the last six months. A bit of air has been taken out of what we view as the most egregiously valued parts of the market where prices look disconnected from fundamentals. Legendary investor Warren Buffet is undoubtedly pleased to see this recent pullback as well, given Berkshire is sitting on an unprecedented pile of dry powder in the form of U$300 billion in cash equivalents. Nonetheless, the market decline of the last two weeks still leaves us with near record high valuation levels in many names, even as economic data softens and uncertainty grows. So while market sentiment has shifted sharply in recent weeks, we wouldn’t describe the hardest hit names as “bargains”, since they’d still need earnings to grow at roughly double the historical average for the next four years just to justifying current valuations. What this means is that the bar is very high for earnings to surprise to the upside in the coming years, and any sort of economic slowdown would require a rapid downshift in expectations. Despite the recent pullback, we still don’t think the market is pricing in a balanced view of risks to the economy.
With all that said, we’re happy to see that the protection we’ve built into portfolios has been working as intended, and we’ll continue to remain on the lookout for new opportunities at cheaper prices. However, with US stocks trading at historically expensive valuations despite tariffs, stubborn inflation, shrinking fiscal spending, and softening economic data, we are taking care not to overreact and to stay focused on long-term objectives and investing principles amid a flurry of oscillating headlines.
