Be Different than The Market

The cycle has turned and the growth superstars of the past 10 years are now likely to see continued erosion in market cap. This is like the process we saw after the Dot Com Bubble and it took until 2007 for the process to be completed. Looking different than the S&P index will probably lead to better returns than mimicking the index. Active strategies that are value oriented or investing in international markets are the best places to make money if the largest US companies continue to bleed market cap.

Source: Strategas. Performance Period measured is 06-30-2000 until 06-30-2007

The End of an Era - Negative Debt Finally Eliminated

Negative rates never made much sense to us and created a tough environment for fundamentally oriented active strategies like ours. This era was defined by a number of speculative assets garnering all the attention (e.g. SPACs, Meme stocks, Crypto, NFTs) and the markets concentrating on a handful of mega-cap Tech names. Interest rates have broken out of a 40 year downtrend and closed the chapter on negative rates. the leadership profile that worked over the past cycle should look different as we enter this new cycle.

Source: Deutsche Bank 2022 Review and Bloomberg

Have We Finally Reached a Tipping Point?

The relative performance of US markets over International markets has been incredibly stretched for some time. Candidly we were too early on our call for a reversion to the mean, so what's changed to make the recent run of outperformance for International markets more lasting? Stated simply we are in a different interest rate, inflation and policy environment. As we highlighted in the first 2 charts, the breakdown of the largest stocks in the US and the breakout of interest rates has ushered in a new environment. As a result, the leadership profile that worked over the past cycle should look different as we enter this new cycle. We read this as Value > Growth, International > US, Active > Passive.

Source: Bank of America Global Research and Todd Asset Management

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This publication has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy, or investment product. Past performance does not provide any guarantee of future performance, and one should not rely on performance as an indication of future performance. Commentary may contain subjective judgements and assumptions subject to change without notice. There can be no assurance that developments will transpire as forecast. Information contained herein has been obtained from sources believed to be reliable but not guaranteed. No part of this publication may be reproduced in any form, or referred to in any other publication, without express written permission of Todd Asset Management LLC. © 2023

University of Michigan Consumer Sentiment

Source: Bloomberg and Todd Asset Management as of 11/30/22

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• 2022 has been historic for all the wrong reasons. Globally stock AND bond returns are both down around -15% through the end of November, which is unprecedented. War rages in Ukraine, Central Banks remain on aggressive policy paths to dampen inflation, yield curves are inverted and China is slow to ease their "Zero-Covid" stance. Even our hometown Louisville Cardinals are off to an 0-7 start this basketball season. As the old saying goes, if this year were a fish we'd throw it back. It seems fitting that sentiment measures are at distressed levels rarely seen.
• Contrarians should take note. Market returns have historically been very strong in the year following lows in sentiment measures. The average return in US markets after sentiment lows in 1980, 2008 and 2011 was +22%. Internationally, once sentiment measures began to recover in 2008, 2011 and 2020, markets went on to gain +36% on average.
• Consensus is calling for an imminent recession and we'll be the first to admit that a number of indicators support this view. The trouble with this, ironically, is that consensus is calling for an imminent recession. Sentiment is horrendous and markets priced in a lot of bad news this year with drawdowns around -30%. Markets often move against the crowd and it seems to us that what's not priced in at this point are more positive resolutions to the headwinds mentioned at the top of this page. Which begs the question, "what could go right?"

This publication has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy, or investment product. Past performance does not provide any guarantee of future performance, and one should not rely on performance as an indication of future performance. Commentary may contain subjective judgements and assumptions subject to change without notice. There can be no assurance that developments will transpire as forecast. Information contained herein has been obtained from sources believed to be reliable but not guaranteed. No part of this publication may be reproduced in any form, or referred to in any other publication, without express written permission of Todd Asset Management LLC. © 2022

P/E ratio of the top 10 and remaining stocks in the S&P 500

Next 12 months

Source: FactSet, Standard & Poor's and JP Morgan Asset Management as of 8/31/22
The top 10 S&P 500 companies are based on the 10 largest index constituents at the beginning of each month. As of 8/31/22, the top 10 companies in the index were Apple, Microsoft, Amazon, Tesla, Google (A & C shares), Berkshire Hathaway, UnitedHealth, Johnson & Johnson, Exxon Mobil and Nvidia. Remaining stocks represent the rest of the 494 companies in the S&P 500.

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• We have repeatedly written about the concentration risk in the S&P 500 over the past few years (Concentrating on a Rotation June 2020, Narrow Growth Mania February 2020, The Forgotten 490 December 2015). The 10 largest names in the S&P are littered with the Growth darlings from the last cycle and still represent nearly 30% of the index while carrying an elevated P/E multiple of 25x. Simply buying a broad US market tracking ETF would violate every "prudent man" principle we've come across.
• Additionally, we believe we are in a new regime that is likely to see higher levels of inflation and interests rates than what we experienced over the past cycle. This raises the importance of identifying (and mitigating) multiple risk, which remains concentrated in the largest names in the S&P 500.
• The leadership profile has been changing. The rotation from Growth to Value is always a battle that takes time and the Generals are often the last ones off the battlefield. We think the concentration and multiple risk in the S&P 500 is underappreciated and should benefit active managers like ourselves going forward.

Past performance does not provide any guarantee of future performance, and one should not rely on the index's performance as an indication of future performance.

The index used in the chart is unmanaged, and not available for direct investment; they include reinvestment of dividends; they do not reflect management fees or transaction costs: S&P 500 Index is a widely recognized index of market activity based on the aggregate performance of a selected portfolio of publicly traded common stocks.

This publication has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy, or investment product. Past performance does not provide any guarantee of future performance, and one should not rely on performance as an indication of future performance. Commentary may contain subjective judgements and assumptions subject to change without notice. There can be no assurance that developments will transpire as forecast. Information contained herein has been obtained from sources believed to be reliable but not guaranteed. No part of this publication may be reproduced in any form, or referred to in any other publication, without express written permission of Todd Asset Management LLC. © 2022

Source: Bloomberg and Todd Asset Management

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• The chart above sizes up all the S&P 500 declines of greater than -10% since WW2, ranked by the size of the decline. There are patterns and they tend to bottom at predictable levels, as seen in the chart above.
• The S&P has now declined -22% from the peak, worse than approximately 70% of the prior >-10% declines. This may be a stopping point but if the market breaks lower, the next lower historic level would be down -28%.
• Unless the current situation is akin to the Great Financial Crisis, Internet Bust, Arab Oil Embargo, Vietnam War, Pandemic or 1987 Crash, most of the damage is probably already done. Try not get caught up listening to strategists try to outdo each other with negative predictions. We are more interested in positioning portfolios in the new Value and International leadership for when we eventually emerge from this bear market.

Past performance does not provide any guarantee of future performance, and one should not rely on the index's performance as an indication of future performance.

S&P 500 Index is a widely recognized index of market activity based on the aggregate performance of a selected portfolio of publicly traded common stocks. The index is unmanaged, and not available for direct investment, they include reinvestment of dividends; they do not reflect management fees or transaction costs.

This publication has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy, or investment product. Past performance does not provide any guarantee of future performance, and one should not rely on performance as an indication of future performance. Commentary may contain subjective judgements and assumptions subject to change without notice. There can be no assurance that developments will transpire as forecast. Information contained herein has been obtained from sources believed to be reliable but not guaranteed. No part of this publication may be reproduced in any form, or referred to in any other publication, without express written permission of Todd Asset Management LLC. © 2022

Source: Todd Asset Management, Bloomberg

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• The chart above shows the S&P 500 since 1940 and highlights the start of geopolitical conflicts over that time frame. In 75% of the cases, market returns one year later were positive with an average price return of nearly 10%. Over the following 3 years, returns were positive 85% of the time with an average annual price return of nearly 9%.
• The Russian Invasion of Ukraine has investors on edge, with good cause. The future is uncertain, and pundits usually paint the worst-case scenario. History would suggest staying invested is the wiser course, as markets adapt and tend to return to uptrends.

Past performance does not provide any guarantee of future performance, and one should not rely on the index's performance as an indication of future performance.

The S&P 500 is an unmanaged, and not available for direct investment; it does not include reinvestment of dividends; it does not reflect management fees or transaction costs. The Index is a widely recognized index of market activity based on the aggregate performance of a selected portfolio of publicly traded common stocks. The performance data was supplied by Standard & Poor's. It is included to indicate the effect of general market conditions

This publication has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy, or investment product. Past performance does not provide any guarantee of future performance, and one should not rely on performance as an indication of future performance. Commentary may contain subjective judgements and assumptions subject to change without notice. There can be no assurance that developments will transpire as forecast. Information contained herein has been obtained from sources believed to be reliable but not guaranteed. No part of this publication may be reproduced in any form, or referred to in any other publication, without express written permission of Todd Asset Management LLC. © 2022

Source: (Left chart) Bloomberg, MSCI, S&P and Todd Asset Management. (Right chart) Bloomberg estimates, MSCI, S&P and Todd Asset Management. As of 4/28/2021

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• International markets currently possess a unique set drivers that could have long ranging implications on returns going forward. Multiples (as seen in the left chart above) are at the widest discount on record vs. the US, with the Forward P/E nearly -7x lower for International. At the same time, consensus expects earnings growth in most foreign markets to run about +10-15% ahead of the US in 2021 (right chart above).
• This looks like the most powerful combination of historically discounted multiples and superior earnings growth outlook we've seen internationally.This is occurring as we begin a new global economic cycle. New cycles tend to last years and bring with them a change in leadership from the prior cycle.
• As reopening efforts gain more traction, the lagged effect of historic stimulus and pent up demand should usher in a period of synchronized global growth that could support markets for some time. The more economically sensitive exposure of International markets should help fuel this rotation we began to witness last year.

The indexes used in the chart are unmanaged, and not available for direct investment; they include reinvestment of dividends; they do not reflect management fees or transaction costs: S&P 500 Index is a widely recognized index of market activity based on the aggregate performance of a selected portfolio of publicly traded common stocks. MSCI ACWI ex-U.S. Index is a float-adjusted market capitalization index that is designed to measure the combined equity market performance of developed and emerging market countries excluding the United States. The ACWI ex-U.S. includes both developed and emerging markets.

This publication has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy, or investment product. Past performance does not provide any guarantee of future performance, and one should not rely on performance as an indication of future performance. Commentary may contain subjective judgements and assumptions subject to change without notice. There can be no assurance that developments will transpire as forecast. Information contained herein has been obtained from sources believed to be reliable but not guaranteed. No part of this publication may be reproduced in any form, or referred to in any other publication, without express written permission of Todd Asset Management LLC. © 2020

Source: Bloomberg, MSCI, S&P and Todd Asset Management as of 2-28-21
Series is indexed to 1 on 12/31/1971. The S&P 500 is used to represent US equities. To show a longer time frame, the MSCI ACWI ex-US was chained with the MSCI EAFE to represent the International Equities. The ACWI ex-US is used from inception at 12/31/87, and EAFE prior to that.

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• Yield curve inversions (when 10 year US Bonds yield less than 3 Month T-Bills) are great predictors of cycle changes between US and International market leadership. Given the 2019 inversion, it is time for International markets to start leading again and we should see new leadership for a new cycle.
• Since 1971, there have been 7 periods of inversion. Those inversion periods are shaded in the chart above. The line illustrates the ratio of the S&P 500/ACWI ex-US (or EAFE prior to 1987). An upward bias means the US is outperforming, while downward shows International outperformance. Performance flip flopped and leadership changed after each inversion. Since 1980, the average cycle length was almost 10 years.
• Following the 2019 inversion, International markets have outperformed the S&P 500 since May of 2020, something you rarely hear about. In our opinion, this is the biggest story being ignored by the market, and may be the beginning of a long period of international outperformance.

The indexes used in the chart are unmanaged, and not available for direct investment. They do not include the reinvestment of dividends, nor do they reflect management fees or transaction costs. The S&P 500 is a widely recognized index of market activity based on the performance of common stocks within the S&P 500 Index. The MSCI ACWI ex-US is a widely recognized index of market activity based on the performance of common stocks within the MSCI ACWI ex-US Index. The MSCI EAFE is a widely recognized index of market activity based on the performance of common stocks within the MSCI EAFE Index.

This publication has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy, or investment product. Past performance does not provide any guarantee of future performance, and one should not rely on performance as an indication of future performance. Commentary may contain subjective judgements and assumptions subject to change without notice. There can be no assurance that developments will transpire as forecast. Information contained herein has been obtained from sources believed to be reliable but not guaranteed. No part of this publication may be reproduced in any form, or referred to in any other publication, without express written permission of Todd Asset Management LLC. © 2020

Source: Bloomberg, FTSE Russell and Todd Asset Management as of 3/14/2021
The series above are calculated by dividing the Russell 1000 Growth price index by the Russell 1000 Value price index. Each series is rebased to 100 at the beginning of the observation period (10/1/1998 for light blue line and 3/1/2019 for dark blue line).

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• "History doesn't repeat itself, but it often rhymes." We are certain that Mark Twain didn't have the performance of Growth and Value stocks in mind when he quipped this phrase, but it applies just the same.
• We've highlighted over the past few quarters the historic outperformance of Growth vs. Value in the US and abroad. This continues to remind us of the period around 2000 where the Tech dominated Growth index capped off a decade long run with a recessionary bear market that unwound index concentration and deflated stretched multiples. Value, which was left for dead, went on to dramatically outperform Growth over the next cycle.
• It looks like a similar dynamic could be unfolding. Value began to outperform in early September 2020 and accelerated as progress was made against the pandemic. Over this same time frame, most of the FANGMA stocks are flat to down. It feels like a leadership change is underway and history would suggest we've got much further to go than most expect.

The indexes used in the chart are unmanaged, and not available for direct investment; they do not include reinvestment of dividends; they do not reflect management fees or transaction costs: Russell 1000 Value Index is a widely recognized index of market activity based on the aggregate performance of common stocks from the Russell 1000 Index, with lower price-tobook ratios and lower forecasted growth values. Russell 1000 Growth Index is a widely recognized index of market activity based on the aggregate performance of common stocks from the Russell 1000 Index, with higher price-to-book ratios and higher forecasted growth values. FANGMA refers to Facebook, Amazon, Netflix, Google (Alphabet), Microsoft and Apple.

This publication has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy, or investment product. Past performance does not provide any guarantee of future performance, and one should not rely on performance as an indication of future performance. Commentary may contain subjective judgements and assumptions subject to change without notice. There can be no assurance that developments will transpire as forecast. Information contained herein has been obtained from sources believed to be reliable but not guaranteed. No part of this publication may be reproduced in any form, or referred to in any other publication, without express written permission of Todd Asset Management LLC. © 2020