In Client Letters

When I wrote last quarter’s client letter, our Milwaukee Brewers were in first place at the All-Star break, and what do you know…they finished the season with the best record in the National League and are in the MLB playoffs for the first time since 2011.  Baseball is a game that is driven by statistics:  batting average, home runs, runs batted in, runs scored, slugging percentage, on-base percentage, OPS (on-base plus slugging percentage), batting average on balls put in play, exit velocity on hit balls…the list goes on and on, and these examples are only for hitters.  There are equally as many statistics measuring the performance of pitchers and fielders.  All these statistics make for fun comparisons of current-day ballplayers vs. players of yesteryear.  But, how meaningful are they at predicting the success of a baseball team?  As highlighted in the book Moneyball: The Art of Winning an Unfair Game, a general manager who makes use of the right analytics has a chance to build a good team over the course of a long season; however, once the short playoff series begin, all those statistics have far less predictability.

In his book, The Tyranny of Metrics, Jerry Muller takes a fascinating look at our cultural obsession with metrics, with examples from education, medicine, business and finance, government, the police and military, philanthropy and foreign aid.  Muller argues that, while metrics can be helpful when used as a compliment to sound human judgment, quantifying human performance distorts reality and distracts from desired outcomes.  While the management guru, Tom Peters, embraced the motto, “What get measured gets done,” some have concluded that “anything that can be measured can be improved.”  Muller explains why this is simply not true.  I enjoy books like this, which challenge conventional wisdom…and this one hit home with me.

We spend many hours measuring the performance of investment managers and mutual funds utilized in our clients’ portfolios.  I have always found performance measurement interesting and we use many different metrics to determine the success of any given portfolio.  We consider the evaluation of risk to be equally as important as the quantification of returns, and often consider statistics such as alpha, beta, standard deviation, Sharpe Ratio, r-squared, and more.  Even with all those metrics, we place at least as much weight on interviews with money managers when conducting a thorough evaluation of a fund’s performance, how they integrate Environmental, Social and Governance (ESG) factors in their investment process, and how they employ shareholder advocacy to make a positive impact.  All performance measurement must be weighed against the market environment in which the results, good or bad, were delivered.  Sometimes, poor performance is a result of a well-designed long-term portfolio simply not being in sync with a short-term aberration in the market.  When I founded Falcons Rock, I wrote about our investment philosophy, which in part states:  “We believe that smart investment decisions are based on extensive analytical research combined with “Informed Human Judgment.”  I still believe this to be true and I believe that this philosophy has served our clients well.

So, in our daily lives, let’s not get too caught up in “the numbers.”  By themselves, they can be quite misleading.

2018 Q3 Market Review

In the month of August, the U.S. bull market for stocks became the longest in recorded history!  Who would have guessed that back in 2008?  Furthermore, the current U.S. economic expansion has now spanned 111 consecutive months – in one more month it, too, will be the longest stretch of GDP growth in history.  This expansion has been defined by long and steady, if not spectacular, growth.  Our country is reaping the rewards of this prolonged economic growth with very low unemployment rates as well as healthy businesses and consumer finances.

During the quarter, large cap stocks regained their advantage over small cap stocks and the growth style again outperformed the value style.  Every sector in the U.S. stock market generated a positive return.  The best performing sectors in the S&P 500 Index in Q3 included Health Care (+14.5%), Industrials (+10.0%) and Communication Services (formerly Telecom, +9.9%).  The “worst” performing sectors during the quarter included Materials (+0.4%), Energy (+0.6%) and Real Estate (+0.9%).

Non-U.S. developed stocks bounced back mildly in Q3, but emerging markets stocks continued their slide.  This year, the best performing countries have included Russia, France and Japan.  Other regions around the globe are struggling, including Brazil, India, China, and Germany.  The U.S. Dollar has strengthened relative to most other currencies this year, detracting from returns for U.S. investors in international securities.

The fixed income markets were mixed in Q3, and many sectors within the bond market have produced negative total returns year-to-date.  Interest rates have risen, and bond prices have an inverse relationship to the direction of interest rates.  Short-duration bonds help protect principal in this environment.  Cash (money market funds) yields are rapidly rising, as the Fed continues its path of rate hikes.

Here are the returns for select market indices for Q3 and year-to-date 2018 (as stated in US Dollars):

Responsible Investing Corner

In June, the Global Impact Investing Network (GIIN) released its 2018 Annual Impact Investor Survey.  The GIIN is a non-profit organization dedicated to increasing the scale and effectiveness of impact investing…that is investments made into companies, organizations, and funds with the intention to generate social and environmental impact alongside financial return.  Collectively, the 225 respondents (located around the globe) invested $35.5 billion in impact investments in 2017 and plan to invest $38.5 billion in 2018.  Here are the key findings from this year’s survey:

  1. The market is diverse – impact investments are made in many different countries around the globe and in many different sectors of the market, including energy, financial services, housing, food and agriculture, healthcare, and education. Most investments are made through private capital markets, but investments are also made in public markets.
  2. The impact investing industry is growing – capital invested has increased by 27% for the subset of five-year repeat responders to the survey.
  3. Impact investors demonstrate a strong commitment to measuring and managing impact – most set impact and financial targets.
  4. Overwhelmingly, impact investors report performance in line with both financial and impact expectations – 91% of respondents indicated that their investments met or exceeded their expectations.
  5. Impact investors acknowledge remaining challenges that need to be addressed – including the number of available investment opportunities with a track record and the number of professionals with relevant skill sets.

Only two years after the United Nations adopted the Sustainable Development Goals (SDGs), 55% of impact investors track their investment performance to them and another 21% plan to do so in the future.  The SDGs can be found here.  Nearly three-quarters of respondents seek to address climate change through their investments.  I find impact investments meaningful and impact investors inspiring!

This and That

  • As mentioned, the U.S. stock bull market is over 9 years old. However, from 2009-2017, domestic equity mutual funds (active and index) have seen net outflows of over $1 trillion.Yet another indicator of investor behavior running contrary to investment performance and shows how underappreciated this bull market has been.
  • Hurricane Florence is already one of the top ten costliest hurricanes in history, with an estimated economic cost of $38 billion and rising.2
  • The effect of climate change on catastrophic storms, like Hurricane Florence, is well documented. Many of the mutual funds in our client portfolios invest in stocks or bonds with a goal of reducing greenhouse gas emissions.  For example, the TIAA-CREF Social Choice Bond Fund, in one year, avoided CO2 emissions equivalent to 32 million metric tons, roughly that of taking 6.7 million cars off the road…and generated 66.9 million megawatt-hours of renewable energy, equivalent to powering 5.4 million homes for one year.The Domini Impact International Equity Fund has a carbon intensity rating of 122.4, well below the carbon intensity rating of 189.0 of the MSCI EAFE (international stocks) Index.4
  • A study of post-season baseball from 1972-2001 showed a net economic gain of about $6 million to communities where their team made the playoffs.5
  • “Not everything that can be counted counts, and not everything that counts can be counted.” – Albert Einstein

Thank you for being a loyal client of Falcons Rock.  We appreciate your confidence and trust.

Gregory D. Wait, President
Falcons Rock Impact Investments, LLC


1 Investment Company Institute – 2018 Investment Company Fact Book
2 Moody’s Analytics – Florence’s Price Tag Rises, September 20, 2018
3 Nuveen – Measuring Impact in Public Markets, 2016
4 Domini Funds – 2017 Impact Report
5 Milwaukee Journal Sentinel – Beer, Brats and Brewers: Businesses across the region prepare for playoff baseball, October 3, 2018