Allocation and Investment Committee Meeting 09/30/24
Our notes on the economy
The labor market continues to cool down as there are now 7.67 million job openings which is the fewest since January of 2021. Inflation has been diving with headline CPI falling 2.5% in August, the lowest inflation rate since 2021. What also helps consumers is in energy with oil prices down 23% at $67 a barrel. We expect to see this reflected at the gas pump sooner rather than later thus helping the consumer out. The Federal Reserve Board indicated Wednesday the 18th that they will start reducing rates immediately beginning with a .50 basis point reduction. With US hourly earnings being up 3.8% over the last year, these ingredients may be a great thing for workers.
Our discussion on the bond markets
The bond market has been inverted (meaning the yield on the longer maturing bonds has been less than the yield on the shorter maturity bonds) since July of 2022. That just changed. Finally, we look like we are in a more normalized environment. With the Fed announcement mentioned above, we continue to strongly suggest that investors hold onto the fixed income positions.
Bad economic news tends to be positive for the bond market. With lower rates being projected, bond prices continue to get positive returns for clients. We continue to believe that clients should maintain a position in individual fixed income positions with maturities in the 3-to-10-year time frame. Being that most have been thinking that rates were headed mower, much of the low hanging fruit has been picked in bond land. It would not surprise us to see rates on the ten year stay relatively close to where they are now while the two year continues to drop.
Our discussion on the equity markets
Historically, September has been the worst performing calendar month for stocks in US history with an average annual return of –1.2% since 1928. The last four years have all produced a negative return for the month (-5% in 2023, -9% in 2022, -5% in 2021, and –4% in 2020). In years past, we tend to see more defensive sectors like Consumer Staples, Utilites, and defensive dividend payers outperform more cyclical indexes during these times. Will we see this again this year? This may end up being a time to add to select positions if the market gives us an opportunity.
From the MailBOX and Ryan Krueger
Dividends Raises and Reasons
If you Google “consumer sentiment,” there are 61.7 million search results. There are even more opinions and predictions, tied to each one of those, about what should be happening to the U.S. consumer’s ability to buy stuff. We’ve never read a single one of those words in the portfolio management offices at Freedom Day Solutions. We prefer doing the simple math of dividend growth, which provides the best clues about what is happening. A dividend raise does not include any prediction and gets cashed regardless of anybody’s opinion. We like to find businesses that are too busy making stuff, that unique consumers need to buy, to worry about what should happen next. One of our favorite examples we know well is on farms, where the only time for any sentiments for those hard workers is after sundown.
(me and my grandpa / my son and his grandpa)
Shown below is the dividend paid to the stakeholders of Tractor Supply (TSCO), next to the up and down feelings of the average U.S. household of consumers, as measured by an index of surveys from the University of Michigan.
The reasons behind some of those dividend raises are fascinating to learn from. We like sharing them for anybody who wishes to know more about our portfolio holdings, or who wants to save countless hours reading about what should happen next and enjoys a little non-fiction instead. Tractor Supply was born at the kitchen table in Charlie Schmidt’s Chicago apartment, in 1938. He saw an opportunity for a mail-order business to sell tractor replacement parts to frugal farmers, whose only other option was paying a premium to the manufacturer.
His first catalog sold $50k of spare parts.
Two years later, his first store was opened in North Dakota, positioned between a grain elevator and the railroad. They offered a free screwdriver set to any customer who sent them the names and addresses of 5 friends who owned a tractor.
Not a bad start for a guy who wasn’t allowed to graduate college due to unpaid library book late fees (Charlie later donated hundreds of millions to that school received an honorary degree from the University of Chicago). His career began by sweeping floors and washing the boards at a Chicago brokerage house. He also watched those boards enough to know when farmers were going to have good or bad years. His tractor supply business was founded with a few thousand dollars. He designed that first 24-page catalog from scratch with zero experience.
Born on the heels of a depression, Tractor Supply was gathering strength before a world war interrupted everything. The customer base began slowly vanishing over the next 30 years moving from the farms to the cities. The business struggled significantly. A small number of large corporate farms began replacing most of the small family farms. But Tractor Supply survived, despite all the worst sentiments. They refocused, brought in new leadership and were committed to serving its unique customer – farmers and ranchers. They pivoted through changes and even big mistakes. A simple lesson we’ve learned from our longest-term portfolio holdings is that the key to thriving in a good market is the ability to survive in any market.
Then, something magical happened. Americans remembered they loved the open spaces in the country still in their roots, before they started crowding into cities. They began moving in the other direction back to a different kind of farm.
Tractor Supply’s corporate mission is to “Work Hard, Have Fun, Make Money.” A big reason they can do that is more of their customers are now having the time of their lives on recreational farms! Still serving the working farms, now the stores are filled with part-time farmers as well.
Management describes the math behind the acceleration of revenue growth from the same amount of dirt around the stores. Now, a ‘For Sale’ sign in front of a 1,500-acre farm was no longer a potential lost customer – but an opportunity to gain 10 new customers. Each could have 150 acres to fence, mow, and feed animals on. It took Tractor Supply six decades to reach $500m in annual sales. Currently, they are doing more than that each month. The dividend paid to stakeholders has been raised more than 20% per year, for the last decade.
Interesting thoughts we discussed
The US Debt is now approximately $29 trillion dollars. Let that sink in. $29 trillion dollars. Under historical norms we have come to expect the size of the debt to shrink as long as the GDP also grew. The last few years, however, have seen something extraordinary. The debt now currently sits at nearly $125% of GDP. In simplest terms, the debt has grown faster than the economy.
In years past, the simple formula was to spend when economic times are bad (stimulate the economy) and then cut the spend (slow the economy) when economic times are good. Simply follow the economic cycle as we wrote about a couple of weeks ago. But something changed. We have just finished a record setting economic expansion that started in 2009 and ran through 2020. Why did we keep spending? From a political standpoint, I am of the belief that the government took on a let the good times roll attitude. They know that if you take away the funds, you will be the bad guy, and not be re elected. Politicians will most likely continue to play kick the can. Neither candidate running for President seem to care about the budget or the debt load. This could get interesting.
Auto insurance rates have skyrocketed by over 50% over the last three years. Who benefits? Insurance companies. Progressive stock is up over 1100% over the last ten years versus 240% for the S&P over that same time.
Want to buy a Rolex watch? Now might be a good time as prices on these classic time pieces have dropped a whopping 30% since 2022.
Allocation suggestions
After long discussions, we are keeping our base allocation in place. At some point, investors will no longer see the benefit in investing in bonds as rates go lower. Where will they go? We might see a repeat of the move to dividend paying stocks and growth stocks like we have in the past. We are also vigilantly watching for any kind of correction or recession to allow us to take advantage of the lower stock prices.
50% Stocks
30% Fixed Income
10-15% Private Investments or Alternatives
5-10% Cash/Money Markets
All investors and their plans are created differently, and every investor should have an allocation that fits their needs. The above allocation is what we call our “base” which primarily is for people looking to grow their assets. The percentages will change depending on where clients are in their lifecycle and plans.
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