The pervasive uncertainty created by continuously changing US tariff (and annexation) threats has unsettled global equity markets. Like the Covid-19 crisis five years ago, it’s common to wonder when (and how) it will all end and whether it’s best to capitulate by exiting the market and sitting on the sidelines. In this edition of The Journal, we present a reassuring counterargument.
The world has been here before
During this young century, we have witnessed the broad equity market cut in half during the dot-com bubble and Enron scandal. Markets were halved again when the Global Financial Crisis hit and the world’s credit system grinded to a halt. Fast forward to 2020 where we experienced a global pandemic that saw equity markets decline by a third in a month. Shortly after this, markets declined 25% in the first ten months of 2022 as inflation reared its ugly head. Yet, through all this turmoil, an investment of $10,000 in the S&P 500 starting New Year’s Day 2000, prior to the events mentioned, and left to compound to the end of 2024, had grown to over $62,000.
Trump tariffs need to be treated seriously but not by capitulating
The rolling threats of tariffs are restraining consumer spending intentions and plans for business hiring and investment. They need to be taken seriously and will be “priced into” the value of stocks. But as with the Covid-19 global pandemic, the financial crisis of 2007/08, the bursting of the dot-com bubble and myriads of other causes of economic instability over the years, a buy/sell decision based on an event, no matter how troublesome, is not investing, it’s speculating.
Why we take comfort in staying invested and buying more
We don’t rely on history repeating as an investment strategy. Nor do we pivot when a nasty headline rolls across our screens. We invest in and hold structurally advantaged companies chosen to withstand competitive pressures for long time periods and generate (and compound) superior returns on invested capital. We subscribe to the Charlie Munger view that “the first rule of compounding is to never interrupt it unnecessarily.” Compounding occurs over a long time period with the structurally advantaged companies we own. Under the heading never let a good crisis go to waste, we are prepared to add to our positions, not sell out, knowing from experience that market volatility creates unique buying windows for wonderful businesses.
Tariff immunity no, but resiliency and predictability yes
The companies in which we invest are not immune to tariff effects, but they do possess advantages that make them resilient such as wide economic moats and fortress-like balance sheets. The sources of structural advantages (economic moats) are brand power, cost advantage, high switching costs, network effect, and efficient scale. Structural advantages like these in preferred economic sectors tend to make the companies we own more predictable over time than broader equity markets. Predictability has historically resulted in lower share price volatility, which reduces a natural human tendency to overreact during negative market, economic or geopolitical events. Just as fear can lead to panic, consistency and fundamental strength help investors resolutely stick to their long-term investment program.
Dividends and bonds: the gifts that can keep on giving
Even in down markets, the companies that Coleford holds continue to pay dividends and were chosen partly because they have an uninterrupted history of doing so. More than that, we require each holding to have the capacity to continue raising shareholder payouts. Dividends provide a meaningful predictable stream of tax-advantaged income and multiply the compounding effect of long-term ownership. Similarly, we invest in high-quality bonds (rated single-A or higher) that provide predictable cash flow with a return of principal plus interest over time. With long-term conviction, these “gifts” of investing add up.
Financial planning provides an important extra layer of security
For those about to enter retirement (and those in retirement), economic instability is extra stressful, even though our portfolios are conservatively invested. All Coleford clients go through a financial planning exercise either a detailed Strategic Financial Plan or the preparation of the Investment Policy Statement. This planning approach leads to an investment program specifically tailored to each client’s income needs, risk temperament, expected investment duration, and financial goals. Developing such a plan and keeping it fresh as life events and circumstances change ensure that we employ an asset mix that is appropriate for each person (or family’s) circumstances while also giving consideration to externalities such as inflation and taxation. Investment plans with prescribed asset mix limitations provide another form of built-in protection against economic instability. We are not here to predict, we plan.
When will economic instability end?
Unfortunately, the answer is never. Yes, we will eventually see a re-set in the tit-for-tat tariff wars (although perhaps not quickly), but something new will come along to shake market confidence again, because it always does. Taking this reality in stride has shaped our conviction in the long-term value of owning structurally advantaged companies. While it sounds mercenary, we can also use periods like this to our advantage to add new or to existing positions.