In the Letter to Shareholders dated
March 31, 1994, Robert Rodriguez mentions several concepts that are worth reiterating. The first concept addresses the idea of portfolio turnover. In this regard, Rodriguez has the following to say:
“The Fund’s annual turnover ratio has generally averaged less than 25%, implying an average hold period of slightly greater than four years for an investment. This has led to a disproportionately high level of long-term versus short-term capital gains distributions, a tax benefit for you.”
It is well worth considering the tax implications of every investment. Stocks held for a year or less are taxed at a higher rate than stocks held for longer than a year. In addition, the tax rate for dividends can be higher or lower depending on the level of distaste of fat cat dividend investors. Our perspective on the matter of taxation of stock investments and dividends is that the goal of the New Low Observer is to demonstrate strategies that are specifically suited for tax deferred accounts.
We do indicate that the same investment recommendations can be utilized for non-deferred accounts however it is necessary to be aware of the tax consequences and the requisite documentation and filing that goes along with it. Tax filing and documentation is very challenging for the investment approach that we use which is why we prefer our strategy applied to tax-deferred accounts.
Getting into the mind of a fund manager is great when the manager has an unrivaled record for selecting small(er) companies. In this next excerpt, Rodriguez gives a little background for selling stocks.
“The [fund’s] asset sales reflected any one of the following: the current price level was ahead of the stock’s fundamentals, a better investment was available, or the particular holding was becoming too large a percentage of the portfolio. We eliminated two holdings, Quanex Corporation and Oregon Steel Mills, Inc."
The first two reasons for the sale of a stock are definitely approaches that we subscribe to. The idea that a stock’s price could get ahead of the fundamentals is something that we see all too often. This explains why we consider selling a stock that has increased in value by 10% in less than a year. Additionally, we are always cognizant of the fact that there may be investment opportunities that are better than what we currently hold. The issue of a stock occupying too large of a portion of a portfolio seldom applies to our investment style since we attempt to take the largest position possible. However, for individuals who try to accomplish diversified portfolios, the selling of stock that become too large of a portion in the portfolio makes perfect sense.
In the next piece from the Shareholder Letter, Rodriguez covers some of the reason to buy stocks.
“Countrywide Credit Corporation, Ross Stores, Inc. and Rouge Steel Company were added. Countrywide is the largest U.S. mortgage banker. Its share price had fallen sharply due to investor fears of the effect that rising interest rates and price competition would have on its profitability. Because these risks were widely known, we believe the stock price had already substantially discounted them.”
In retrospect, it would appear that the purchase of Countrywide (CFC) wasn’t the best choice. However, at the time, Countrywide (CFC) was in the early stages of a major ascent, which culminated in the price going as high as $45 a share in 2007. More important to the transaction is the fact that the purchase took place when it was believed that all the bad news was reflected in the stock’s price. Of course, there is no way to be sure that the bottom is in for any stock. However, a look at the numbers, at the time, may have justified such a purchase. Regardless of my defense of the Countrywide purchase, Rodriguez sold his position in the company as noted in the
September 30, 2003 Letter to Shareholders (p. 2).
The next purchased mentioned by Rodriguez is Ross Stores. Rodriguez points out an interesting characteristic about the company that I consider to be very important. Rodriguez says:
“Ross Stores is a leading discount clothing retailer with almost 50% of its stores located in California. Its heavy California exposure, good profitability and low valuation characteristics were attractive to us.”
As a person who lives in California, I’m certain that my perspective is clouded. However, I have noted that California is a state with an abundance of wealth. From the agriculture to high technology and direct access shipping to South American and Asia with critical social and political connections representing all of the Pacific Rim nations, there is something to be said for accessing the Californian markets. This is said despite the political and fiscal foibles that keep us entertained.
Robert Rodriguez closes his Letter to Shareholders by giving insight into viewing investment opportunities on an absolute basis rather than on a relative basis. The distinction between the two approaches will be detailed in further reviews of Rodriguez’s work.
