Hall Capital “Market Views” Newsletter January 2014

This is the 15th edition of Market Views from HALL CAPITAL. Our aim is to provide concise views of where we see risk and opportunity for investors.

Clear Sailing
- for now

The Fed has chartered a clear path. While some tapering down of the $85 billion a month bond buying will take place, it will be done with a bias toward accommodation. Though pundits have groused about the lack of GDP growth, we have experienced a near optimal scenario for stock investors (debt over hang aside). If we were to "enjoy" a burst of strong GDP growth, politicians would rejoice, but investors would grow apprehensive about a restrictive Fed and/or the long feared stimulus induced inflation.

"Clear Sailing" suggests there is no visible significant threat on the horizon for equity investors. However, just as sure as the world turns, the horizon shifts and a storm could well up. That said, we are comfortable going into 2014 tilted in favor of stocks. Interestingly, Wall Street strategists are more bearish than usual. According to a recent Merrill Lynch poll, the recommended equity allocation by the average of all Wall Street strategists is 53%. This compares to their long term average recommended allocation of 60% to 65%. That the strategists are cautious is not a concern. To the contrary, this is an indicator that there are ample funds on the sidelines to fuel the market higher.

How Much Higher For Stocks?
- now that we are at near record highs

We are loath to make a short term projection. In fact, we think it is a distinct advantage to fix your investment gaze on the far horizon and not worry about the changing short term tides. Our long term expected return for a balanced portfolio is still 6%. Clearly we exceeded that in 2013, but that is because we "borrowed" return from future years to some extent. That is, stock prices advanced faster than the value of the underlying corporations. Stocks are facing a similar problem as bonds faced last year - decent fundamentals reflected in the security price. Stocks are not as attractively priced as they were, but are still a better value than bonds.

The Fed has "bribed" investors to move into risk assets, such as equities and housing. This has driven expected returns down, but not down so much as to de-motivate investors. The main fly in the ointment is the high debt of the developed world. How that will manifest itself in risk for investors remains a dragon over the horizon. This dragon is one reason to maintain a conservative balanced portfolio with some hedges, though equity biased.

Focus List
- taking stock

As expected, our conservative list lagged the 32% return provided by the S&P 500 for 2013. However, since the inception of this published list in mid-2010, the Focus List has returned an average annualized return of 20.7% vs 18.7% for the S&P 500, even though the market advanced at an above average pace. (Including the return of Abbvie, which holders of Abbott received in a spinoff, the return of the Focus List is 21.6%.)

We provided a Focus List to make a point: one does not need to take higher risks to earn a competitive return. The standard deviation of this portfolio was only 4%, or almost half the 7.8% standard deviation of the S&P 500 over that period.

A concentrated portfolio of strongly competitive large companies with enviable balance sheets may not keep up in strong markets. Indeed a concentrated list will deviate from the averages from time to time but we argue deviation from the market does not define risk. We define risk as the probability of falling short of a reasonable return goal over a period measured in several years.

Note also this was a "set it and forget it" list. We made only two trades in over three years. Buy and hold strong companies when they are undervalued. Keep expenses and taxes low. That is how you build long term wealth.

For individual stocks as well as selection strategies, past performance is not necessarily indicative of the future.

Hall Capital Focus List

Follow Up – from our letter one year ago

"The Pie is Growing - albeit modestly"
-The US economy did indeed grow but below its long term rate. In Q3, however, the GDP growth rate accelerated to 4.1%.

“Stocks should outperform bonds and cash over the next five years, and probably this year. Going forward bonds are not likely to do as well as they have for the last few years relative to cash. In fact, we do not find the risk/return relationship in LONG bonds attractive at all."
- Even after income bond returns were negative in 2013. Long term US Treasury Bonds were down over 12%. We still do not like long bonds.

"Chinese stocks are down 40% from their peak. P/E multiples are lower than here."
-An index of Chinese companies listed in the US bounced up 60% in 2013.

NOTE: Now in addition to ALL our quarterly letters, on our website is a tab with just the Follow Ups.

About HALL CAPITAL

HALL CAPITAL, LLC is a registered investment advisor and was formed by Principals from Arcturus Capital in 2010.
For more information, contact Donald Hall 626 578 5700 x101 dhall@hallcapitalmanagement.com