2020 Performance Review

In 2020, my portfolio returned 17.15% and the S&P 500 index returned 18.40%.

Cash holdings averaged 40% during the year and 53% since June. This resulted in a fairly significant headwind relative to the index (which has increased a remarkable 23% since June 1st).

Personal Performance vs. S&P 500 Index (with dividends reinvested)

Year	                                Personal      S&P 500
-------------------------------------------------------------
2018	                                30.36	      (4.38) 
2019	                                11.59	      31.49
2020	                                17.15	      18.40
-------------------------------------------------------------
Compounded Annual Gain 2018 - 2020      19.45%	      14.18%

2020 Review

Overall, I'm fairly happy with this year's results.

I was able to stick to my investment strategy - buying companies at a significant discount to my calculations of intrinsic value - and earn good returns, inline with a frothy market, and despite what many might consider to be a very conservative cash position.

Even though cash holdings have been large during the past few years, my preference is still to be 100% invested in equities. But it is not something I am inclined to force. I was fully invested during the apocalyptic days of March and April, but the window for bargains was relatively brief, and most purchases quickly became richly valued.

In terms of attractive investment opportunities, the current environment is by far the worst I've seen in my admittedly brief 3-year investing "career." The median company on my watchlist is overvalued by 1.58x, which is 25%+ higher than it has been in previous years, and there are nearly zero companies on the list that trade with any appreciable margin of safety.

At the risk of adding myself to a long list of failed market prognosticators, I believe that many sectors of the market are very likely in a bubble, investors have become complacent about risk, and that most valuations don't make sense under even the most optimistic scenarios. The poster child of this euphoria is Tesla, but there are many other companies (notably in the SaaS space) with similarly lofty (and likely unrealistic) expectations. Howard Marks has a "market temperature" checklist that also seems to suggest caution at this time.

If I have learned anything in the past few years it is that:

  • You can still earn decent returns without compromising your investment philosophy, even if it seems conservative and "value" oriented in an era where those characteristics seem heavily out of favor

  • There will almost always be opportunities to buy at attractive prices if you are patient (Dec 2018, Mar 2020)

  • It is impossible to predict when those opportunities may arise

3-Year Review (2018-2020)

Taking a more long term view of performance, although I have technically outperformed the S&P 500 index over the past 3-years, it is impossible to tell whether or not this has been due to luck or skill. Outperformance has been driven primarily by one good stock (AMD) in one good year (2018). There is nothing wrong with that - Charlie Munger has said that Warren Buffett's performance would be mediocre without a handful of exemplary picks during his 60 year investment career - but it remains to be seen whether or not it can be repeated in my case.

What I can claim is that I feel much more comfortable in my valuation process, and, perhaps more importantly, have gained a greater understanding of my own psychological and emotional temperament. Most of my mistakes have stemmed from thinking that I would be more comfortable with higher levels of portfolio concentration than I was in reality, which put me outside of my psychological comfort zone. Understanding these limits, and taking care not to exceed them, should allow me to have a more objective, repeatable, and businesslike investment process going forward; if there is any skill involved, then it should be more likely to manifest going forward.

Another thing that I'm beginning to appreciate is how "simple" investing really is.

By definition, investing entails putting up money now in order to get more money back in the future. If you invest in a business, the money you get back comes from the cash flow that the business generates. The business can either reinvest that cash flow (through additional capital expenditures, acquisitions, etc - presumably increasing the future cash flow of the business), buy back its own shares (which is really just another form of reinvestment), or pay out that cash as dividends. Meanwhile, the stock price can go up or down, sometimes wildly, based on investor sentiment and market psychology, but these movements are fundamentally immaterial to the long-term return an investor can reasonably expect from the business.

Viewed from this lens, there really is no difference between "growth" investing and "value" investing. Growth investors simply expect greater cash flows in the future, while value investors demand greater cash flows in the present. Some may argue that such reliance on the future makes growth more speculative in nature, but even value investors must make similar assumptions about the durability of existing cash flows (or viability of existing assets), and thus both approaches rely on inherently uncertain assumptions about the future. If arguments are well reasoned and grounded in "how much money" one can reasonably expect to "get back", then it is hard to claim that one approach is necessarily better than the other. It's also pretty clear that growth is a component of value, so the distinction is arbitrary and somewhat meaningless.

If you have a diversified portfolio of well-managed companies that generate cash, with durable business models, and you buy them at a cheap enough price to increase the odds of a favorable return, that would appear to be all you really need in order to succeed at investing. Everything else is just noise. Of course, "simple" is not "easy", and this is easier said than done.

Current Positions

  • ANET

  • WFC

  • MU

  • CTSH

  • AXP

  • KMI

  • Cash - 64%

Exited Positions

Trading activity was fairly high this year, mainly due to high market volatility and trying to figure out my "when to sell" strategy. I'm still trying to refine that strategy, but I've settled on the following, rough approach:

  1. Good Companies - Companies with good management, wide moats, a long runway of growth, and the ability to compound capital at favorable rates. Don't sell based on overvaluation alone. Good companies often appear overvalued, but have a tendency to exceed expectations. Sell if the "story" changes or if a better opportunity comes along.

  2. Average Companies - Buy when extremely cheap. Sell when cheap, but not necessarily fully valued. These are mostly cyclical or pure value plays. The idea here isn't to be greedy, but to opportunistically capitalize on extreme mispricings.

Most sales fell into category (2) - Average Companies:

  • BASF

  • ASIX

  • HUN

  • GM

  • FCAU

  • VIAC

  • JWN

  • YELP

Some of these companies were cheap because of COVID (YELP, JWN). Some have been cheap for a long time, and simply participated in the COVID "recovery" - although the businesses have not necessarily recovered and prospects are still highly uncertain. Apparently, a rising tide lifts all boats, even if the majority still have holes in them.

A handful of other businesses probably fell into category (1) - Good Companies - but I hadn't worked out my sell strategy yet, and sold them based on valuation alone. Most were acquired at attractive prices and in hindsight I probably should have held onto them until better opportunities came along:

  • GOOGL

  • BRK.B

  • CFR

  • BAC

  • LULU

  • LUV

  • BKNG

A final category can charitably be called investment "mistakes": reasons for investing either turned out to be wrong; valuation was impaired due to subsequent events; uncertainty increased to a level I was no longer comfortable with; or, it turned out I didn't understand the business as well as I thought I did:

  • NOK - One of my earliest investments. Got this one wildly wrong. Ended up putting too much trust in "management projections", and expected Ericsson to be hit by Intel's manufacturing woes, not Nokia. Turned out to be the complete opposite. (What made this one particularly galling was that I was aware of the risk and reached out to Nokia's investor relations department, only to be explicitly told it wasn't an issue. Spoiler alert: it was). Also, just a tougher, lower margin industry that should have demanded a greater margin of safety.

  • BIDU - Although I thought the company was significantly undervalued, I believe the risks of investing in Chinese companies are materially underestimated. I believe these risks are more systemic and extend far beyond trade wars. BIDU's response to reports of fraud at its iQIYI subsidiary were also less than reassuring.

  • TZOO - While the stock ended up doing quite well, I sold early due to questions about corporate governance, and probably should have never bought this company in the first place.

  • CS - Management issues combined with a labyrinthine business that I ultimately determined I couldn't understand.

  • QQQ Jan '21 Puts - A brief foray into the short side, which cost me 1% and is unlikely to be repeated. It's tough to make accurate macroeconomic calls, even tougher to have the requisite timing, and I don't think I have any sort of edge here.

Hope that everybody has a safe, healthy and prosperous 2021.